Bangalore: Buoyed by expectations of nearly 9% growth in India’s gross domestic product, venture capital (VC) and private equity (PE) investors are optimistic that deal activity will not only continue in 2011, but also rise from 2010 levels, according to a survey by Bain and Co.
Deal value in 2010 more than doubled to $9.5 billion (Rs42,275 crore today) from 2009.
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Investors remain upbeat on the country’s PE market, with nearly one-third surveyed predicting 25-50% growth in 2011, according to Bain’s India Private Equity Report 2011, produced in collaboration with the Indian Private Equity and Venture Capital Association (Ivca).
The report is based on a review of 50 Indian and foreign PE investors.
“India continues to be a very attractive destination for PE investments, locally and from abroad. Pent-up demand is poised to help propel 2011 past 2010 as an investment year,” said Sri Rajan, managing director of Bain in India.
Bain estimates there is at least $20 billion of committed un-invested capital (called dry powder in PE parlance) available for the India market, which is enough to fund all 2010 deal activity twice over. Average deal size, which increased to $24 million in 2010 from $21 million in 2009 is, however, not expected to change any time soon and will remain in the $20-30 million range. Acquisitions will be limited to minority stakes, while private investments in public equities will pick up in 2011.
Amid this heightened interest for deals in India as the economy grows, investors view banking and financial services, healthcare and consumer products as the most attractive sectors.
“We feel that in a growing economy like India as income and financial needs of the middle class increase, requirements for financial services will rise even faster,” said Mukul Gulati, managing director of Zephyr Peacock India Management, a PE fund. “That’s how we saw it panning out in the US, when it came to asset management. We see similar trends in India.”
Infrastructure and energy are also expected to see a strong influx of investment, with nearly 40% of all PE investments in India targeting infrastructure projects, according to the report.
Meanwhile, exit momentum is also expected to continue in 2011. Last year was a record one for exits, with PE funds unwinding positions in 120 companies and garnering $5.3 billion. PE firms are bullish about exits through the end of 2011 and are even more optimistic about conditions over the next one-three years.
Nearly 60% of PE deals made through 2007 remain in PE funds’ portfolio. Now reaching the upper end of their investment holding periods, many of these stakes should soon be coming up for sale, according to the report.
Gulati expects 2010-11 deals will fare better in terms of returns than 2006-07 vintage deals. “For 2006-07 investments, while companies grew, we had the global recession in 2008 and 2009 impacting their overall growth,” he said. “Post recession, companies are now growing faster and in three to four years time, will post higher growth if another downturn doesn’t happen.”
While China is still a preferred destination for global funds, India has emerged as a market that can’t be ignored, Gulati added.
“More people are willing to invest in India,” he said. “In 2005, while GPs (general partners) had to sell India and their own thesis, now they sell how their business story is better than others.”
GPs are PE fund managers who do due diligence on deals, invest and take care of the portfolio firms.
The bulk of new capital will continue to come from offshore investors, who face fewer restrictions investing across sectors and are freer from the complex tax and legal burdens faced by domestic investors. Bain estimates that nearly 80% of funds will be sourced through foreign institutional investment, foreign direct investment and foreign VC investment over the next two years.
There are, however, a few factors that may hold back anticipated growth in PE. Mounting inflationary pressures and clashes between India’s economic growth agenda and political pressures could distort the estimated growth curve. Sectors such as infrastructure and microfinance are particularly sensitive to these concerns, the report said, adding that if left unaddressed, investors’ worries about these barriers could slow fund-raising in the long run as limited partners seek greener pastures in other markets. Limited partners are investors who back VC/PE funds.
Complex regulations could also drive away investors. “Regulatory hurdles such as the 15% equity stake threshold need to be addressed for private equity to increase its support of Indian entrepreneurial growth at a time of great economic opportunity,” said Ivca chairman Sumir Chadha, who is also the managing director and co-founder of PE firm WestBridge Capital Partners. Under current regulations, any PE bid to purchase 15% or more of the equity or voting rights in a publicly listed company triggers a requirement that the PE fund make an open offer to all the remaining shareholders to acquire 20% of the company’s equity.