Ascent Capital, which manages $600 million across three funds, was among the few Asian private equity (PE) firms able to raise funds successfully, before closing the fund during the tumultuous period of 2009. Founder and Chief Executive Officer Raja Kumar, also a former senior officer at the Securities and Exchange Board of India (Sebi), in an interview with Raghuvir Badrinath, tells how the Indian PE industry has learnt its lessons the hard way. Edited excerpts:
The Indian PE industry is seeing turbulent times, with a 50 per cent fall in investments in the June quarter. What led to this?
The pace of investments has slowed considerably, owing to uncertainty over policy and regulations, especially the General Anti-Avoidance Rules, which led to concern among venture capital (VC)/PE investors. Also, fund managers have become selective and due diligence efforts are taking considerably longer. Thankfully, ‘auctions’ and ‘chasing deals’ is history. Fundamentally, the change is we now have fund managers who have been through the entire cycle of VC/PE investing and have learnt their lessons the hard way. The VC/PE industry in India is maturing and this bodes well for its future.
Given the fall in PE investments, you are probably facing intense heat in deploying funds. How are you gearing for this?
We have concluded seven investments from our third fund, the latest being iNurture, a company in the higher education space. iNurture bridges the gap between the academia and industry by developing industry-relevant courses that boost employability. It offers these courses in collaboration with established universities and colleges. We continue to focus on backing quality businesses with good management teams. We have already invested in sectors such as infrastructure, healthcare and education, and are actively scouting for opportunities in the technology, life sciences and consumer-facing businesses. In a development at the firm level, we have taken majority positions in certain niche businesses. We believe the next two years would provide an excellent opportunity to invest in good companies at reasonable valuations, and we intend to make the most of it.
You are among the few fund managers who have seen various cycles. As you embark on the next, arguably one of the toughest for exits, what are the major differences this time?
These are challenging times for the Indian VC/PE industry. During the boom years of 2006 and 2007, the number of fund managers had risen from 30 to 300 and a lot of VC/PE capital was committed to India. Investors had taken a macroeconomic call on India, but Indian general partners have not delivered, leading to restraint among investors on committing more capital to the country. Fund raising would, therefore, remain a challenge. Also, there isn’t room for so many fund managers. My estimate is only 50-60 managers would be active in the next five years. VC/PE investments made in 2006 and 2007 have turned out to be high-cost ones. There was lack of traction in portfolio companies of most funds over the past three years, owing to high interest costs. And, lacklustre equity markets have not helped, with exits being deferred indefinitely. The industry is ripe for consolidation and only funds with a good track record of exits would survive.
Various regulatory issues related to the PE sector in India drew flak. How would the new Alternate Investment Fund (AIF) regulations shape the sector?
AIF regulations have accommodated a few of the industry’s suggestions. These include the ability to make secondary purchases in listed securities and investment in non-banking financial companies. Many existing funds are unable to avail of these regulations due to lack of clarity on ‘tax pass-through’.
However, some provisions in the regulations impinge on the operational freedom of VC/PE fund managers and their investors (limited partners, or LPs). Unlike in mutual funds, LPs in VC/PE funds exercise direct control over their fund managers and prefer to retain the ability to change the fund’s strategy, based on circumstances. Such investors are not looking at a regulator for protection. Ideally, funds that raise capital from large investors (Rs 10 crore per investor) should be covered by a specific set of AIF regulations that provide more operational freedom. Today, most VC/PE funds prefer to pool their funds abroad, as this provides more operational freedom. AIF regulations need to address this issue to encourage pooling of funds in India, as this brings about a level playing field between funds pooled abroad and those pooled in India.
The tax status of VC/PE funds has been debated. How would this weigh on the sector?
VC/PE funds are not significant tax-generating entities per se (the nature of income is mostly long-term capital gains). However, their portfolio companies are robust tax-paying entities that can sustain growth in tax revenue for several years. An illustrative study by our fund estimated total revenue potential for the government from a Rs 1,000-crore VC/PE fund’s portfolio companies at Rs 1,800 crore, through the term of the fund.
Considering more than $60 billion has been invested by VC/PE funds since 2005, the revenue realisation to the government from VC/PE-backed companies is significant. A thriving VC/PE industry can be a golden goose for the government to realise sustainable tax revenue. All investors are seeking is clarity and certainty on tax laws.
