Mumbai: At least 117 private equity (PE) and venture capital funds are on the road to raise money to invest in India, signifying the growing importance of the world’s 10th largest economy for foreign investors.
Although this is a record high of funds in the market, many fund managers may fail to raise money in an overcrowded market, analysts said.
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The funds are raising $33.5 billion (Rs1.5 trillion) and there is already close to $17 billion undeployed capital waiting to be invested in India. So, investors fear more fund-raising will worsen the capital overhang.
A combination of rising interest of foreign investors, or limited partners (LPs), in emerging markets such as India, emergence of independent fund managers who left large global firms to start their own funds, many first-time funds and the prospect of investing in capital-intensive sectors such as infrastructure has contributed to the rush in the fund-raising market.
The current crop of funds include India-dedicated funds as well as Asian funds with an India focus. According to Preqin, a UK-based research firm that tracks the alternative investment market, around 60% of the 117 funds being raised are India-dedicated funds.
“People are underestimating raising a first-time fund. While some may?fail to raise money, the failure rate will be less for those who are raising a second fund,” said Sumir Chadha, managing director of Sequoia Capital India Advisors Pvt. Ltd, which has $1.8 billion under management.
The fund had invested in SKS Microfinance Ltd, which lends tiny loans to poor customers, and retail coffee chain Coffee Day Holdings Co. Pvt. Ltd.
“Track record and differentiation are the two most important factors for funds to raise money,” said Vibhor Mehra, principal at SAIF Partners Ltd, which raised a $1.25 billion fund in 2010 to invest in India and China. Differentiation could be in terms of sector focus, type and size of deals, he said.
Even funds with good track records are not finding the going easy. The time taken to close a fund is increasing as LPs are doing stricter diligence before initiating talks on investing, fund managers said. They now prefer coming to the ground and spend time with the fund manager before making commitments.“We are seeing record LP visits to India,” said Chadha of Sequoia, giving the instance of one of his biggest investors, a US endowment fund that made a visit to its India office last week.
For funds closed in 2010, the average time taken was 19.8 months, double the average time taken in 2004—an evidence of the growing challenge in raising money. In 2007, when PE investments in India peaked, only 52 firms raised $11.8 billion. Twenty-two Indian funds worth $4.5 billion were closed in 2010 while 25 funds worth $3.7 billion were closed in 2009.
The fund-raising environment is challenging as LPs have turned cautious and are laying down tougher terms for investment. LPs are looking into areas like team composition of PE funds and questioning fund managers on their promise of high returns when the market is so overvalued. They are also demanding a greater share of profits and a seat on the investment committee.
Exits worth $5.4 billion made by PE firms last year have given investors some confidence about the ability of the Indian market to give returns, points out Anil Ahuja, Asia head at 3i Asia Ltd, one of the biggest investors in the infrastructure sector in India that manages a $1.2 billion Indian infrastructure fund.
Typically, early-stage smaller funds of $100-300 million give three-five times returns while larger funds investing in late-stage start-up companies give two-three times returns.
According to Ahuja, there will be a flight to quality that will trigger consolidation from LPs, who are set to snap many fund manager relationships and back fewer funds. “LPs have become extremely selective. They will continue to invest in PE, but back fewer fund managers.” 3i plans to launch a $1.5 billion India infrastructure fund at the end of 2011 after?deploying its first fund.
At the same time, the LP base is expanding with increasing interest from Canadian and European institutional investors, Asian fund of funds and Japanese investors who earlier did not invest in India.
Canada Pension Plan Investment Board, a government-run pension fund, has invested for the first time in India by committing $100 million to Multiples Alternate Asset Management, a PE fund founded by Renuka Ramnath, former chief executive officer of ICICI Venture Ltd.
High fund-raising activity and the need for differentiation could see an emergence of sectoral specialization, based on the background and experience of the people raising the fund, experts said. They expect sector-focused funds in education, healthcare and agriculture.
Two of the sector-focused PE firms in the market are Kaizen Management Advisors Pvt. Ltd and BTS Investment Advisors Pvt. Ltd. Kaizen is raising a $120 million education fund and BTS, a $150 million clean technology fund. “The market segmentation will be more pronounced,” said Harsh Vardhan, head of financial services practice for India at Bain and Co. India Pvt. Ltd.
Graphic by Ahmed Raza Khan/Mint