Venture capital, or VC, made a slow start in India in the late 1980s, encouraged by development financial institutions such as Industrial Development Bank of India, now merged into IDBI Bank Ltd, Industrial Finance Corp. of India, which became IFCI Ltd, and Industrial Credit and Investment Corp. of India Ltd, the earlier avatar of ICICI Bank Ltd. Technology Development and Investment Corp. of India Ltd, or TDICI, and Gujarat Venture Finance were also among the pioneers in the venture capital space. These two institutions are still around with different names— ICICIVenture Funds Management Co. Ltd and GVFL Ltd, respectively—and three of their earliest employees are today the oldest still-active private equity fund managers in the country, all having moved on to larger roles at larger funds.
Managing director (region head—India),
Citigroup Venture Capital International
Education: BTech from College of Engineering, Chennai, and MBA from Indian Institute of Management, Bangalore
First job: TDICI, now called ICICI Venture
First investment: Microland Ltd; Rs20 lakh for a 20% stake in 1992
No. of investments: About 30, including Suzlon Energy Ltd, Yes Bank Ltd, KS Oils Ltd, Geometric Ltd and Sharekhan Ltd
Last investment: Sharekhan Ltd; $20 million follow-on rights issue in February 2008
Nitin Deshmukh, who joined TDICI in 1989, is now chief executive officer of Kotak Private Equity Group and his former colleague P.R. Srinivasanis the managing director (region head, India), for Citigroup Venture Capital International, or CVCI. J.M. Trivedi, who had started with GVFL, is now partner, South Asia, for Actis Llp.
Chief executive officer,
Kotak Private Equity Group
Education: Postgraduate in pharmaceutical technology, Ghent University, Belgium, and MBA from Bombay University
First job: Cipla Ltd
First investment: Lupin Biotech Pvt. Ltd in the early 1990s
No. of investments: At least 70, including Sun Pharmaceutical Industries Ltd, Pantaloon Retail (India) Ltd, Shoppers Stop Ltd, Crossword Bookstores Ltd and Television Eighteen India Ltd
Last investment: Siro Clinpharm Pvt. Ltd in 2007
Mint spoke separately to the trio on the changing face of the Indian venture capital and private equity, or PE, industry over the last two decades. The present financial crisis, according to them, will flush out some existing players, leading to consolidation. Limited partners or LPs, which invest in private equity funds, have started asking funds to go slow on capital calls and there’s a question mark on the survival of some LPs. But PE managers with a compelling story and good track record can still attract newer LPs to India, seems to be the consensus.
Education: BTech from Indian Institute of Technology, Bombay
First job: Atul Ltd
First investment: Saraf Foods Ltd in 1991
No. of investments: At least 20, including India Infoline Ltd, Axis Bank Ltd, Glenmark Pharmaceuticals Ltd and Jyothy Laboratories Ltd
Last investment: Paras Pharmaceuticals Ltd; $135 million for a controlling stake (between September 2006 and March 2008)
Mint asked five questions on the past, present and future of the PE and VC industry in India. Edited excerpts:
How was the PE/VC business in India when you started investing?
Deshmukh: When I joined TDICI in January 1989, VC was a very new concept in India and therefore, a lot of effort in the initial years was in educating entrepreneurs and existing companies about this concept. The first VC fund at ICICI Venture (then TDICI) was of Rs20 crore and deal sizes ranged between Rs50 lakh and Rs2 crore.
Since there was tremendous resistance by entrepreneurs and companies in taking equity, many of the initial investments were structured as conditional loans which were a sort of mezzanine funding with repayments over longer periods and royalty on sales or a specific product capturing the upsides.
Srinivasan: The number of VC funds then could be counted on one’s fingers. The amount of capital was also small. But then, the Indian capital market was also pretty small. The first deal I was asked to work on was a Rs20 lakh transaction... Today, we have several billion-dollar fund managers.
Trivedi: In 1990 when I started investing, there were very few VC funds and almost all were domestic VC funds. They were investing in technology-based start-ups and early-stage deals. There were no PE investors.
What, according to you, have been the key turning points for the industry in India?
Deshmukh: VC investing activity gained momentum some time in the mid-1990s which saw the entry of players such as HSBCPrivate Equity (Asia), Schroders Plc., Warburg Pincus Llc., CDC Group Plc.(now Actis), Baring Private Equity Partners Group, CitibankNA(the PE arm for emerging markets is now CVCI) and many others. Still, the scale of funds as well as investments continued to be modest.
In 1998, when we (at TDICI) raised $52 million (about Rs254 crore today), it was our first fund with all commitments from international institutional investors and then the largest PE fund raised for India. Today, that’s almost the average size of a deal.
The contours of the PE industry have changed most significantly over the last 10 years. The scale of investments has also changed dramatically since 2004, when PE as an asset class started getting significant attention. Till then, fund managers had two challenges—to sell the India story and to sell their fund investment strategy. Since 2004, we haven’t had to sell the India story and the opportunities in the country. The focus shifted solely to funds and teams. The turning points for the industry have been on regulations and success stories. The years between 1995 and 2000 were the turning points in terms of PE regulations as Sebi (Securities and Exchange Board of India) introduced VC fund regulations and framed guidelines that were more conducive to VC/PE. Investors in VC funds, if registered with Sebi, were provided the benefit of a single-point taxation for the income generated from investments.
The IPO (initial public offering) of Bharti Televentures Ltd (now Bharti AirtelLtd) in 2002 and the successful divestment by Warburg Pincus which had funded Bharti changed the “tonnage” of success...in India. For its investment of around $300 million during 1999-2001, it was estimated to have realized over four times its investment. Until then, while the multiples made by the likes of ICICI Venture and CDC on their investments ranged between 20 and 50 times, the pile of cash on each of these investments always ended up being a couple of tens of million dollars as the initial investments were small.
Srinivasan: The first major turning point was the entry of foreign capital in 1995-96. The industry got a major fillip during the software boom—several IT companies backed by the industry went public, fund managers could exit investments and the Indian VC industry developed an exit track record. A few funds demonstrated excellent track records. Also, Sebi got involved and the regulatory framework turned slightly favourable. The next major turning point was the Bharti deal.
Trivedi: In the early 1990s, VC funds found it hard to make good exits. It was difficult to launch IPOs of these relatively small companies and given the very low level of M&A (merger and acquisition) activities in India at that time, trade sales were rare. The returns made by VC funds were not corresponding to the early-stage risk taken by them.
After the stock market downturn around the mid-1990s, a number of listed companies were looking out for alternative sources of capital to fund their growth. By that time, some foreign funds, including Actis (at that time CDC), entered the market and saw this as an opportunity. PE funds invested in growth capital deals in listed and unlisted companies with full rights/covenants and board seats. In fact, many funds exercised significant influence on the management teams due to their ability to add value through their global network and sector teams. They made good returns by riding growth in emerging and fast growing sectors such as retail banking, research-based pharmaceuticals and BPOs (business process outsourcing).
In the beginning of the current decade, there were a number of funds, including Actis, that decided to focus on buyouts/control deals alongside growth capital minority deals. There were opportunities for acquiring businesses from families with succession issues or corporations that were looking to exit non-core businesses. These businesses were not growing due to the lack of focus or lack of right management and there was an opportunity to back entrepreneurial management teams/CEOs to take them to the next level of growth.
These buyouts were not highly geared unlike developed market LBOs (leveraged buyouts) as cash accruals were required to fund growth rather than servicing debt. Buyouts remain a small segment of the PE market with significant potential, given the large number of family-managed companies in India and the availability of a large pool of professional and entrepreneurial managers.
How has your personal investment style evolved?
Deshmukh: The investment philosophy has changed as the industry evolved with respect to fund sizes, deal sizes, etc. However, the central theme has always been growth capital. In the 1990s, for example, it tended to be “classic growth capital”—investing in growth opportunities presented by emerging sectors in the process of evolution of the economy. Many events during the 1990s, including structural reforms, delicensing, government impetus to investment in certain sectors with tax incentives, increase in permissible FDI (foreign direct investment) limits, etc., contributed to growth capital opportunities in sectors impacted by such events. Interestingly, in many such situations, classic growth capital tended to be early-stage capital before getting “discovered”, for example, in pharmaceuticals, media, retail and biotechnology. Such investments tended to be in clusters (multiple investments) around specific economic developments and events.
In between, we also led a new strategy created by a unique entrepreneurship environment in Silicon Valley—cross-border investments in 1998 in companies such as Niku Corp. and Neoforma Inc. in the US. Along the way, deal sizes also increased, from just under Rs1 crore in 1989 to $4 million in 2001.
Srinivasan: I don’t think there is any such thing as a personal investment style. Investment styles and philosophies evolve for every investment team/firm. We have learnt from our colleagues and from the entrepreneurs we have backed. The idea is not to create high performers but high-performing teams.
Trivedi: My investment style has evolved as I moved from early-stage VC in early 1990s to growth capital and buyouts in more recent times.
How will the current financial crisis impact the PE industry? Any drastic change you expect?
Deshmukh: While it is unfortunate to be caught in this unprecedented financial environment, this will bring in discipline among private equity players on investment processes and valuations. We had seen unprecedented euphoria and excesses in PE investing in India during the last three years. At least 70% of investments in private equity over the past three years is estimated to have gone into PIPEs (private investment in public equity) and pre-IPO placements. This is going to hurt many players.
In fact, many first-time funds that have participated in the euphoria will see tough times and find it difficult to raise funds in the future. The number of players, who had increased from just around 40 in 2004 to over 200 in 2007, will therefore see a reduction.
Srinivasan: We have seen the PE industry go through down cycles even in India. We don’t see the current crisis creating a drastic change for the Indian PE market. In India, PE/VC investing has been about growth and backing entrepreneurs. Financial crisis or not, India will still grow at rates higher than most economies and will provide extraordinary opportunities to smart entrepreneurs.
Trivedi: These are challenging times. The short- to medium-term growth could be significantly lower than that projected at the time of investment and PE funds will have to work with the management teams to cut costs and bring about operational improvements to achieve the returns.
A recent report by PE market research firm Preqin says that globally, PE funds are sitting on “dry powder” worth $1 trillion. While it’s a given that a number of commitments may not get honoured in this distressed market, what do LPs have to say about India?
Deshmukh: Global institutions have certainly gone very cautious on their investments in private equity. Mostly so, because private equity today looks to be a significant percentage of their assets under management due to high diminution in value in the listed investments they have in their portfolios. The scenario of LPs not being able to meet their commitments to PE funds is more applicable to very large multi-billion dollar funds and, therefore, most India-centric funds are to a large extent not likely to be impacted.
Certainly, the markets in the US are going to be very tempting for LPs. But we are also getting very positive vibes from LPs across the globe who are seriously looking at increasing their asset allocations as a percentage to China and India in the coming years. This has been demonstrated by recent visits to India by a large number of LPs who haven’t invested here in the past.
Srinivasan: India will have its place, fairly high in the pecking order, as a favourable investment destination. In every down cycle these questions arise: Which fund managers will survive? Who will be able to retain their LPs? Who will be able to raise new funds? As it happens, every time a few managers will exit, a few LPs will cut their India exposure but then new fund managers and new LPs will come.
Next time around, the industry will be even larger than what it was before. We will have several billion-dollar India funds and maybe some day, we will see a $1 billion PE deal in India.
Trivedi: In the medium term, India will continue to grow at rates better than many other emerging markets and, needless to say, all developed markets. LPs will continue to back high-quality managers who have demonstrated a good track record spanning investment and economic cycles.