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This post is the second in an FT Alphaville series on private equity investments in emerging markets. [Part 1: CDC] [Part 3: Actis]

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Aureos, the mid-cap emerging markets private equity investor, will at the end of this month officially kick-off the fund raising for a Caspian basin fund, thought to be the first fund of its kind to target the region. The $100m to $120m fund will invest in Kazakhstan, the economic lynchpin of the region, as well as Uzbekistan and Azerbaijan. The decision to home in on investment in central Asia, rather than preferring a broader remit that includes Russia, makes it unusual among international funds.

“It’s still a frontier market,” says Sev Vettivetpillai, chief executive. “Five years ago there weren’t the conditions and the conducive environment for private equity. But the opportunity to pick good quality assets, against a backdrop of the region’s economic growth, and to buy at very attractive prices is what has prompted us to go in.”

In keeping with Aureos’ small to mid cap focus, the fund will make investments of less than $10m after its first close in May or June, seeking minority positions or taking control of companies where there is potential for consolidation or regional expansion.

Kazakhstan, says Vettivepillai, has posted close to double-digit growth for the last four years, driven by burgeoning activity in the natural resources and energy sectors. That in turn has created demand in the construction and engineering businesses, for real estate and infrastructure development and improvements in logistics. Property in Almaty, Kazakhstan’s financial centre, remains expensive – comparable with Russia, he says. Supplies can take the long road from Azerbaijan to Kazakhstan via Russia thanks to transport shortages and logistical problems.

Mark Foster-Brown, founding partner at Altima Partners, agrees that the region offers opportunities. Altima, whose funds combine illiquid investments with publicly traded equities, launched a vehicle focused on central Asia in 2005 that can invest up to half its capital in unlisted companies, and those preparing for an IPO. “The macroeconomic dynamics of the local market are incredible. It’s like investing in the Russian story but with far more infrastructure in place,” he says. The stock market locally is relatively underdeveloped, he adds, but with the high-profile listings of Kazakh companies such as Halyk Bank, Altima’s local partner, Kazkommerzbank and KazMunaiGas, that has already started to change.

“You need to be on the ground – you can’t fly in,” warns Vettivetpillai. Aureos already has three investment executives working in Kazakhstan, with a further two set to join them and one to be based in Azerbaijan. The companies are there, he says, but finding them requires a heavy, hands-on approach.

“At least 70 to 80 per cent of businesses in these markets fall under the small to medium sized enterprise category. The opportunity is there to pick local, indigenous companies, with pockets of good management capabilities but that needs the capital, advice and direction to go onto the next stage – but they’re hard to find.”

In common with other private equity investors, “we don’t take plain vanilla exposure to investments”, he adds, but uses geared equity structures to recoup the original investment with a small coupon. The pressure to divest the equity stake is that much less in markets where liquidity is lacking.

Growth capital deals, rather than MBOs, is likely to occupy the central Asia fund in the near future, says Vettivetpillai but the aim is to develop the ability for change of control transactions in the longer term: “In Nigeria, we didn’t think there would be MBOs when we went in, and now there are.”