Mumbai: Caught up in a global economic slowdown, university endowments, pension funds and financial investment firms—the leading sources of capital for venture firms—have been looking to cut their commitments to private equity and venture funds.
The Wall Street Journal recently reported that limited partners, or LPs, such as Washington Mutual Fund Inc. (WaMu) and California Public Employees’ Retirement System (Calpers) are backing out of financial commitments to venture funds. (The Wall Street Journal has an exclusive content partnership in India with Mint.)
The “cash call” crunch, a reference to the call for venture capital (VC) firms have to make to their investors, has deep and worrisome implications for VC funding in India, given most of it comes from US-based LPs.
Better deals: Naren Gupta says the quality of venture capital deals has improved significantly compared with that in the last two years. Abhijit Bhatlekar / Mint
Naren Gupta, managing director of home-grown early-stage venture fund Nexus India Capital, says India will be affected more than what has been seen so far. Gupta, who is based in Menlo Park, California, was one of the founding fathers of the global network The Indus Entrepreneurs (TiE). He was a long-time angel investor before starting Nexus along with partners Sandeep Singhal and Suvir Sujan in 2007. The firm, which closed its second fund of $220 million (about Rs943 crore now) in August this year, manages a total of $320 million. It has invested in 17 companies, including video conferencing company DimDim Inc. and organic farming company Suminter India Organic Pvt. Ltd.
In an interview, Gupta speaks about how venture capital has been hit at the root and its impact on Indian start-ups. Edited excerpts:
There have been reports of LPs pulling back from venture and private equity firms. What has been their overall reaction to the meltdown?
They are saying that across the board, all of them will reduce commitment to private equity and venture capital firms. They are even more negative on hedge funds. Over time, they want to cut down relationships by 40-70%. Harvard, Yale, Stanford, those are the big (investors). But some of the smaller ones have a lot of liquidity problems, because there are no exits right now. The number of venture funds will go down drastically in the US. I believe it will go down from 600 to less than 200.
How will it impact venture investing in India?
I think India will be affected more than what we have seen so far. Everybody feels that they are the better fund and in India that’s particularly the case because nobody has results. All we have are portfolios and companies that we are working with. In the US, it’s easy. If you look at people’s returns over the years, you can see who is good and who is not good. But in India that’s not the case, so it makes it much harder. And that’s where the experienced LPs in the US are able to tell the difference, see the early signs. Now it’ll really show if you’re good or not because ultimately the vote will come from the LP.
Have you made capital calls to your investors since the meltdown?
Yes, we have made capital calls since then and we are pretty fortunate. We had a meeting with all our LPs a month back. Our view is it’s a better time to fund companies now than two years back. We have gone over our strategy with our LPs, they are all on board with what we’re doing now. We may not put in as much. We may have given the company $10 million a year ago, and now we’ll only give five. But we’re definitely still talking to the good entrepreneurs.
You raised your second fund after the January market crash. How has the mood changed since then for fundraising?
It was tough then, but it’s an order of magnitude harder today. We were pretty lucky, we were oversubscribed, that made it easier. Two years ago, when we raised our first fund, there was a lot of euphoria. But this time, the euphoria had somewhat gone down. People still want to diversify and invest in Asia, but it’s hard. I think the only thing more difficult than raising a fund for India today is raising a fund for China. China is in a worse situation, definitely on the manufacturing side. Of course, we are at a much lower level of GDP (gross domestic product) but we’re not as badly affected as China.
Firms such as Mayfield Fund have announced India funds since the meltdown…
Nobody has raised an India fund in the last three months. People have announced it now, but nobody has raised it now.
What is your outlook for start-ups here next year?
The question is, can they build their business as quickly as two years back? Funding is much harder to raise today than a year ago. VCs (venture capitalists) know it’s tough to raise the next fund, so they’ll try to extend the life cycle of the current fund. And if they do that, it means they can’t fund many companies. I definitely think that start-ups will shut down. But the good start-ups, the great start-ups will still get funded.
How do you see deal flow in 2009?
I think we’ll see fewer deals next year, fewer active venture funds. Some funds will discontinue, get pushed back by the LPs. The quality of deals is much better, compared with that two years ago. But no matter what entrepreneurs say about early stage or not early stage, valuations will be down. In the first half of 2008, there was a lot of euphoria. We didn’t do any deals the first six months because valuations were out of line. People have done too many deals in the first nine months. In dollar terms, I think (in 2009), it will be 50% of what VCs invested this year.