The economic downturn is beginning to strain relations between private equity (PE) players and promoters of their investee companies.
With stock markets falling, valuations of companies are slipping fast, thereby prompting PE firms to look at ways to wriggle out of their earlier commitments in many sectors. This is especially true in sectors such as real-estate, retail, infrastructure and auto components.
“PE firms are putting pressure on promoters who have pledged shares with other financial institutions. This is leading to conflicts,” said Pranay Vakil, chairman, Knight Frank India, an international real-estate consultant.
In some cases, where the first round of investment has taken place, PEs are seeking revaluation before any fresh funding. This is something that the promoters are unwilling to do. “PE firms have invested after proper due diligence. They cannot ask for lower valuations now,” said an official of a company that is under pressure to revise its valuation.
| LOCKING HORNS |
| * PEs want correction in valuation before the next round of funding |
| * Limited partners seek legal opinion to ensure no forfeiture of earlier investment in PEs |
| * Promoters resist PEs demand for correction in valuation |
| * They want payment of the remaining balance |
| * Seek legal opinion to make PE firms pay up |
Rifts between limited partners (LPs) and PE funds have also come to the fore. LPs, who are investors in PEs, are no longer willing to commit more funds to existing projects. Therefore, PE firms themselves are under pressure.
For LPs, it is a Catch 22 situation. If they do not make the balance (second or third round) payments, their earlier investments could be forfeited as per their agreements. On the other hand, if they do put in more money, it could become a case of ‘throwing good money after bad money’. Sources said that many LPs have decided to take the legal route to avoid paying the balance amount or forfeiture of earlier payments.
“When markets were on the rise, many investors signed contracts with lock-in and draw-down terms that favoured the promoters. Now, many of them are unwilling to meet their draw-down obligations due to the change in outlook and severe erosion in the investee companies’ net worth,” said Nirmal Jain, chairman & managing director, India Infoline.
According to market sources, even the promoters are seeking legal opinion to put pressure on PE firms that are unwilling to honour their commitments.
Nitin Deshmukh, head (PE business), Kotak group, said that many first-time PE players had invested in companies with very high valuations. “There have been confrontations on the actual performance of the company and the next round of funding. In case of large deals, things could get serious,” said Deshmukh.
As far as real-estate sector goes, the bone of contention is the land bank valuation, Vakil says. Chances of conflicts are more when the cost component of the land is much higher, say one-third of the project cost.
