PE players aren't in a hurry to sign any more cheques

Investors have swapped the spray-&-pray approach for a more qualitative route via collaboration and building ecosystems

It’s a classic example of how the Indian private equity industry has matured. One India-focused PE firm raised its third fund with a corpus of $350 million early last year, taking its total assets under management to $1.2 billion. But by the end of the year, it had made only one investment of around Rs 150 crore, and is in no hurry to sign any more cheques.

“We are looking very closely at deals and spending much more time with businesses, even before we reach the stage of due diligence. We, as general partners, and our limited partners are pretty sure about the roadmap and we do not want to hurry, just to have a number of deals,” said the managing partner of this fund.

Notching up investments is relatively easy. But working closely with businesses, helping them grow and timing an exit — the barometer of success for a PE investment — is far tougher. The Indian PE industry has slowly but surely over the past year weaned itself away from the spray-and-pray approach, which is visible in the improved quality and value of deals. According to investment bankers and industry experts, big-ticket deals are set to dominate venture capital (VC) and PE transactions in the next three quarters.

This may well be the defining element of the industry as it stands on the cusp of change. “What we’re seeing is a change in the investment approach. While VCs initially parked funds in multiple places with the hope of reaping high returns from at least a few of them, they now prefer a more focused strategy. Rational investing has accounted for higher quality of deals. It is an encouraging improvement,” said Harshal J Shah, CEO at Reliance Venture Asset Management.

The global economic slowdown also brought more sanity and clarity to investing, with company valuations the world over plummeting due to an adverse impact on their fund-raising plans. Furthermore, a shake-up in the erstwhile cluttered VC industry led to the emergence of select serious players.

“Resultantly, the market is seeing a lot of good and valuable deals at the right valuations. The year gone by also saw homegrown VCs raise their second funds — a sign of confidence shown by limited partners in India. Therefore, I believe India will form an important element of the global fund flow, in line with — and perhaps even exceeding — estimates,” Shah said.

With infrastructure and its chain of allied industries hogged a majority of investment in 2010, PE & VC industry players indicate that in coming years, the industry will see more collaboration and syndication among peers. “The effort will be to create an end-to-end ecosystem around the technology and business model, rather than over-investing in one or two ‘hot’ areas that soon begin to lose their financial attractiveness. This is particularly true when we look at something like cloud computing that needs a strong demand side and a stronger supply side to achieve sustainable growth,” said Joydeep Bose, managing director of corporate business development investments & acquisitions at Cisco.

The primary objective is to create a consortia approach. Though this is not new in mature markets, it is long overdue in India. This will provide start-ups with early market access and a test-bed for concept and product validation. The absence of a local market has long impaired the growth of product companies in this country, forcing VCs to shy away from risk-capital exposure. Hopefully, this will bring about much needed changes to the Indian ecosystem.

One of the reasons for the low uptake in early-stage investing has been the lack of success in certain key sectors, which has lowered risk appetite. “For instance, sectors such as mobile value-added services and education, which have seen tremendous investment activity over the last few years, have not yielded the supernormal returns that VCs ideally aim for. Regulatory issues and a high degree of fragmentation have increased uncertainty in these sectors. Therefore, early-stage investors had to tread cautiously,” said Gaurav Saraf, director at Epiphany Ventures.

That said, industry players are putting in place the foundation of early-stage investment. “The sprouting of angel and early-stage investment funds and networks are being planned, and are set to be launched. The pipeline for investments in the growth stage will dry up unless early-stage investments pick up pace. Hence, funds that are active in later stages are looking to support early and angel investments. City-based angel networks are being launched, as are incubators at educational institutions. In addition, some of the larger funds may look to invest in small deals, which can absorb more funds as they grow,” added Saraf.
 

TOP PE DEALS 2010
Investor	Investee	Sector	% stake	$ mn
Blackstone	Moser Baer Projects	Power & energy	NA	300
Quadrangle	Tower Vision India	Telecom	NA	300
3i Indian	GVK Energy	Power & energy	21.0	255
Temasek	GMR Energy	Power & energy	NA	200
KKR	Dalmia Cement (Bharat)	Cement	NA	160
Unnamed investors	Tikona Digital Networks	Telecom	NA	149
TPG Growth, others	Greenko Group	Power & energy	NA	116
Xander	Panchshil Realty	Real estate & infra mgmt	NA	110
HDFC VFs	Lodha Developers World One project	Real estate & infra mgmt	10	106
Goldman Sachs, Indivision Partners & Oak Investments	TIkona Digital Networks	IT & ITes	70	106
1 Jan-15 Dec, 2010

In the PE space, 2011 could also see the implementation of the proposed takeover norms. This has the potential to make a significant impact on the industry. An important outcome of this change will be that the average deal size will increase, and that it will bring with it greater transparency. Of course, it could negatively impact dissenting shareholders; however, it is a step that will bring us to international standards.

Sharing his views on the pain points, Shailesh Ghorpade, CEO & MD at Azure Capital Advisors said there is a lack of flexibility on convertible instruments. “However, since May 2007, preference shares with a conversion option have been treated as external commercial borrowing, which raises several limitations, including sectoral restrictions. On the other hand, in real estate, FDI has a minimum holding period requirement of three years. There has been growing demand to do away with this regulation to catalyse investment flows to the sector. Pragmatic legislation that takes care of speculative concerns could be a solution,” he added.

 

STOCK FUTURES/ OPTIONS

HARSHAL J SHAH
CEO, Reliance Venture
‘The market this year is seeing a lot of good and valuable deals coming at the right valuations. I believe India will form an important element of the global fund flow’

GAURAV SARAF
Director, Epiphany Ventures
‘Regulatory issues and a high degree of fragmentation have increased uncertainty in some sectors. Therefore, early-stage investors had to tread cautiously’

JOYDEEP BOSE
Managing Director, Cisco
‘The effort will be to create an end-to-end ecosystem around the technology & business model, than over-investing in one or two areas that begin to lose attractiveness’