Private equity (PE) funds are shying away from making a wrong call on fresh investments. Instead, they are ramping up investments in their portfolio companies in order to help them weather the downturn.
With the slowdown affecting economies across the world, PE deal flow has came down substantially from its peak in 2007. As a result, PE funds are now looking at incremental funding in their portfolio companies as one of the ways to deploy cash and report better returns to their limited partners (LPs).
Market players said that one of the reasons behind incremental funding having picked up in recent weeks was that valuation continues to be an issue for deal closures. “The risk appetite has certainly gone down. Capital has become expensive and LPs are far more liquidity conscious now,” said the managing director of a large domestic institution-backed PE fund.
| AT A GLANCE Some of the recent follow-on deals | |||
| Company | Investor | Follow-on investment Date | Amount ($ mn) |
| Aricent | KKR, Others | Sept '09 | 255 |
| Nimbus Communications | 3i, Cisco, Oman Investment Fund | Feb '09 | NA |
| Home Solution Retail | Kotak PE, ICICI Ventures | Feb '09 | 30 |
| Equitas Micro Finance | Bellwether, others | Jun '09 | 12 |
| Allcargo Global Logistics | Blackstone | Sept '09 | NA |
| Beacon Hotels & resorts | Lighthouse | Mar '09 | NA |
| Source: Venture Intelligence | |||
As a result, follow-on deals have been on the rise in recent weeks. For instance, the Blackstone Group recently invested an additional $23 million in Allcargo Global, taking its total commitment to $75 million. Similarly, Singapore government-owned Temasek pumped in fresh capital into companies such as TataSky and Fullerton India. ICICI Ventures did another round of funding in Home Solutions Retail. CVC (Citigroup Venture Capital) too invested in KS Oils.
In all, there have been close to 27 follow-on investments since last year, according to data from Venture Intelligence, a private equity and venture capital tracking firm. Sequoia Capital, Helion Ventures and Eredene Capital were the most prominent investors in the follow-on rounds.
“In our case, we have been making fresh investments as well pumping money into our existing portfolio. We have infused capital where we have felt that the company is doing well and needs capital for further growth. Follow-on financing comes at different stages of development of companies. More than 80 per cent of our fund goes to fresh investments, while 20 per cent would be going for existing investments,” said Sequoia Capital Managing Director Sandeep Singhal.
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But consultants said that these investments were also a sign of a PE player’s confidence in a portfolio company. “It makes sense to invest if the fund can foresee a robust growth and sound business model in the company. If the company has shown a healthy growth despite adverse conditions, generally private equity funds would like to support these stories. But valuations are still a challenge for closing deals. With markets having run up sharply, expectations of several firms in the unlisted space have increased,” said Kuldeep Tikkhha, Partner, transaction advisory services at Ernst & Young.
During the financial crisis, when fund raising through initial public offers or private placement had become difficult, getting existing private equity funds to invest in such companies was the only way for firms to raise cash and keep the growth engine going.
“All private equity investors take risk based on business plans of the companies. It is very difficult to pay for insane valuations. Investors have become conservative and are watching the situation. At the same time, PE funds are sort of de-risking their portfolio by funding few quality companies,” said Hemal Mehta, Partner at consulting firm Deloitte.
Sumit Chandwani, director (investments), ICICI Ventures, said, “Typically, PEs support their portfolio companies whenever conditions are tough to raise funds. Markets have run up a lot and investors are skeptical about recovery happening anytime soon. It is all about fundamentals, promoters and the kind of relationship that the fund shares with portfolio company. If it is convincing, it makes sense to re-invest rather than investing in new company and take risk. Today, the question is more about valuations.”
Industry players said that it was also a good time to raise stakes by making another round of investments in companies. For companies which are scaling up and require capital, getting another round of PE funding is the best way to raise cash. Recently, KKR (Kohlberg Kravis Roberts) increased its stake in Aricent from 62.5 per cent to 79 per cent in a $225-million deal. More deals are in the pipeline, investors said.