There is a lot of positive sentiment around India now, says IFC’s Ralph Keitel
Private Equity’s (PE) challenge in India has primarily been about getting money back, but the situation appears to have improved with a number of exits over the past two years. A lot of money has flown back to LPs (limited partners, or investors in PE funds) during this period, said Ralph Keitel, principal investment officer and regional lead, East Asia and Pacific, private equity funds, at the International Finance Corp. (IFC), the private sector investment arm of the World Bank. “I think there is a lot of positive sentiment around India these days. The macro growth has been remarkable during the last couple of quarters, and there is positive sentiment around politics. The Modi effect is still there,” he added. Edited Excerpts.
IFC invests in a lot of infrastructure projects. Just looking at Asia, especially South-East Asia and India, the infrastructure funding gap is so massive. Where do you think the capital will come from? This is a big picture question and not specific to IFC. There is only so much that IFC and PE can address in terms of the infrastructure funding gap in many of these countries.
There is a huge need for infrastructure investments, it is one of the biggest bottlenecks in the emerging market space, and it is something that IFC feels very passionate about. We launched a very interesting programme called the Managed Co-Lending Portfolio Programme (MCPP) in 2013, that enables other investors to participate in IFC’s global portfolio. The programme allocated $3 billion from the People’s Bank of China across 70 deals in less than two years. Based on the success of IFC’s MCPP programme, IFC then launched MCPP Infrastructure, which seeks to raise $5 billion of private capital for investment in emerging market infrastructure loans by 2021. IFC recently signed an agreement with Eastspring Investments to raise $500 million for MCPP Infrastructure. The way IFC looks at this is that the public sector alone cannot finance this gap in infrastructure spending while on the other side there is a lot of money sitting on the sidelines—trillions of dollars—that asset managers and institutions are holding and which is generating very low returns. This money would be much better off being invested in the infrastructure space for emerging markets.
How do you see valuations in this region? Most general partners say that is the biggest concern that they have.
Valuation is always a concern. I would agree there is a lot of dry powder available in this asset class. This is not specific to Asia, but a global phenomenon. It is a matter of supply and demand—larger pools of capital chasing a limited supply of deals, especially high–quality ones. This is bound to drive up prices. The way PE funds are typically structured means that there is pressure to deploy capital raised. I would agree that prices in China and in Asia are not cheap. There is a lot of capital available in Asia—you have a lot of institutional PE funds, both domestic and international ones. You have Asian families, conglomerates, and corporates who are all strategic buyers. Then there are a lot of financial buyers out there, including sovereign wealth funds, for example, here in Singapore, they are very large investors. So all of that provides a huge pool of capital available to be deployed and a lot of it is chasing the same number of high-quality deals. And that increases pricing, in particular when institutions have pressure to deploy.
Specifically talking about valuations in India, how big a concern is that?
I would say if you look at the Indian market, prices, too, are not cheap. One could argue they didn’t adjust sufficiently after the global financial crisis. Public markets in India are not cheap—and a lot of PE deals available are priced off public markets. Our investment strategy for funds in India is very much in line with what we do in the rest of Asia and globally. We build a balanced portfolio and are generally sector-agnostic. Our strategy is to work with the best manager we can find.
There is nothing that differentiates the India from the South-East Asia for you?
India is a very large emerging market by population. Its GDP per capita is lower than China, so it is a key focus market for IFC. We are very actively seeking to deploy capital in India and it is a key market for us, given the huge need for investment in infrastructure, health and education. Just addressing the basic needs for the population in India, such as reducing water scarcity, is one of the key priorities for IFC.
Just sticking to India. You mentioned some of the keys sectors you are interested in—education, infrastructure, agri-space. Again big picture, not specific to IFC, do you think there is enough investment from PE and private investors going into these sectors? These are not popular with VCs and PEs.
We are actively trying to assess that gap. In response to your question, India is not very different from other markets. What you are seeing is that risk aversion among all institutional investors is increasing. What this means is that there is a flight to quality—meaning the large PE groups are able to raise even larger funds at one end of the market, while it is very difficult at the lower end of the market to raise funds. In other words, there is a lot of capital if you look at PE for large fund managers, while smaller SME (small and medium enterprise) funds are struggling to raise. Lots of people are trying to raise VC funds—not everyone will succeed. Some of those deals that are happening in Asia—Grab and Go-Jek, Alibaba buying Lazada etc. —these tech deals have a lighthouse effect. These deals are not only popular in Asia, but are being noticed on Wall Street and other places. There is a lot of interest in the tech space and a lot of that money is going to the early-stage consumer tech space in India. Not so much for later rounds.
What is the pain-point for Indian start-ups? Are Series B rounds and upwards when it comes to the $20-100 million range too big for Indian VCs, and too small for PEs?
I would say that certainly from the Series C stage, there is a funding gap. Obviously, it is a young industry, but the proof of concept is not necessarily there yet for VCs to invest in this space. I don’t see much PE money going into the VC space yet i.e., PE investors doing late-stage tech rounds too.
To address this, are we seeing a trend where large PE funds, which often may not have the time and expertise to focus on a sector that interests them, and where deal sizes may not really move the needle for them, then create VC arms, or small vehicles with dedicated teams to look at these vertices? We have several such examples of this in India.
What you are seeing is not specific to India. It is more broad; it has been driven from the US where traditional PE managers have branched out to become more broadly-focused asset managers, raising credit funds and real estate funds etc. Obviously, these kind of things do not go unnoticed in emerging markets. You are seeing that across Asia and China, in particular. Funds that were still focused on the middle market a few years ago are now billion-dollar funds. Now what they are doing is, there are quite a few firms that are now raising separate middle market funds again. You also have PE firms with dedicated VC arms—Northstar for example seeded NSI Ventures. What you are seeing is that traditional PE groups are branching out and raising additional funds and strategizing different asset classes. But I don’t see a broader shift of PE funds moving into the tech space. What you don’t have in Asia are dedicated tech private equity groups like Silver Lake and other funds in the US.
Don’t you think that many funds are forced to refocus their attention on markets like South-East Asia and India, because these regions offer far higher returns? Besides, China may not be the best place to be in right now.
Global investors and institutional investors that commit to markets like South-East Asia and India are doing so based on the premise that they are expecting strong investments in such markets. I would not agree with the thesis that institutional and large global groups are investing in South-East Asia because they have run out of deal flow or opportunities in developed markets such as the US and Europe. What drives them to focus more on those markets is slightly different from emerging markets. In emerging markets, there are much less control deals, but more growth investing, and very little leverage. These institutions have committed to funds in South-East Asia, India, or China out of conviction. They believe in the growth story, the rising middle class and the global rebalancing of GDP. They understand that emerging markets will play a larger role in the future composition of global GDP. That is the conviction they have, and that is why they back those funds. They don’t do it because they have run out of managers or good deal flow opportunities in the US.
Exits—how much of a concern do they continue to be, especially in markets like India?
Investing is not the most difficult part of private equity—it is getting the money out and giving it back to LPs. That is the difficult part. And from an LP’s perspective, it is all about getting your capital back and getting a good return on your money. LPs will always give preference to GPs (general partners) that have generated good returns and can foster exits and give money to them. A lot of questions have been raised on PE deals in India that were done in 2005-2009—a lot of these deals were done at very high valuations and then everything tanked. A lot of that money will not be returned.
But I think there is a lot of positive sentiment around India and institutional investors now. Investors are taking a favourable look at India over its macro growth and the consumer story. When it comes to India, getting money back is at the top of mind for any investor, but the situation has improved. There have been a number of good exits over the past two years, and a lot of good money has flown back to LPs during this period. While investors are now more favourable towards India, they are still wary and LPs want to make sure that they back GPs that have a demonstrated track record of returning money.
One of the factors that worked for India was recycling of capital. A huge chunk of the capital from PE deals done before 2009 has now come back to the market and been recycled.
Good point. I think that for some of the deals, the money is yet to come back. Again, 2005 to 2009 vintages are all 10-12 years into the fund life—these funds have to be wound down one way or another. I remember looking at Asia a few years back and the sentiment around India was very negative then—it is much more positive now than it was even 3-4 years ago.
Has the investment climate in India seen a boost under the Narendra Modi government?
I think there is a lot of positive sentiment around India these days. The macro growth has been remarkable during the last couple of quarters, and there is positive sentiment around politics. The Modi effect is still there. For PEs, getting some of their money back that had been stuck for a while, is adding to the positive sentiment. I would say from a political standpoint, there is a positive sentiment that India is doing a lot of things right at the moment.