The age of venture debt in India
When Singapore’s state-owned investment firm Temasek Holdings forked out $45 million about three years ago to buy Mumbai-based venture lender SVB India Finance Pvt. Ltd, it unwittingly opened the doors to a gold rush in India’s venture debt market. As many as eight firms, including Temasek’s Innoven Capital (the rechristened SVB India Finance), now criss-cross a market that until recently barely existed.
This week, Mumbai-based venture capital firm Unicorn India Ventures became the latest to make a play for the local venture debt opportunity. It has announced plans to raise a $93 million (Rs600 crore) debt fund that will target start-ups at the Series A and later stages. The plans for a foray into venture debt, says Unicorn’s founder and managing partner Anil Joshi, have been in the making for nearly a year. While most others in the market largely target start-ups at the Series B and later stages, there’s plenty of unmet demand at the Series A stage and Unicorn wants to plug that gap, he says.
Unicorn is a bit different from most other venture debt firms in the market in that it also runs a venture capital fund. The firm completed the raising of its debut $15 million (Rs100 crore) venture capital fund this month and has already deployed capital in about 10 start-ups across the technology spectrum. The venture debt business, Joshi says, will run parallel to the firm’s venture capital business. Unicorn isn’t the only homegrown venture capital firm to recently diversify into venture debt. Last month, IvyCap Ventures, also based in Mumbai, unveiled plans for a $76 million venture debt fund that will extend credit to start-ups at the Series B and C stages.
In terms of vintage, the venture debt asset class has been around in India for almost as long as venture capital. It got off the ground sometime in 2008 when Santa Clara-based SVB Financial Group, banker to technology start-ups and venture capital firms in Silicon Valley, launched an NBFC (non-banking financial company) arm, SVB India Finance, to lend to start-ups.
Former Citibank executive Ajay Hattangdi was brought on board to head the operation. At the time, India’s venture capital market consisted of about half a dozen venture capital firms who had just started to invest their first funds. SVB bet that over the decade, India’s venture capital market would grow rapidly and it would be prudent to establish lending operations early in the game.
It was right.
Over the past decade, venture capital investments in the country have ballooned to billions of dollars, successive funds have been raised for this market, each bigger than the last, and nearly every major venture capital firm from Silicon Valley now competes for deals with a growing population of homegrown firms.
But it wasn’t till early 2015 that the venture debt market started to look interesting. Up until then, apart from SVB, only IntelleGrow, an NBFC that’s part of the Mumbai-based Aavishkaar Intellecap Group, played in the venture debt market. While SVB primarily backed technology start-ups that had already raised some venture capital (equity capital), IntelleGrow focused on impact start-ups in sectors such as agriculture, education and financial inclusion, often not necessarily already funded by venture capital. A couple of factors, however, would soon change the narrative for the venture debt asset class.
First, 2015 was an exceptional year for the venture capital market here in terms of investment activity. By London-based researcher Preqin’s estimates, venture capital-backed companies, from early-to-later stage start-ups, raised a record $10.5 billion that year from a variety of investors, including hedge funds, strategic investors and venture capital firms. There was now enough demand in the market in terms of funded assets to support a more ambitious venture debt strategy. Temasek was the first to seize the opportunity and snap up SVB’s local NBFC arm, which already had the team, experience and relationships in place. Around the time that Temasek was sewing up the SVB acquisition, Rahul Khanna, a former managing director at venture capital firm Canaan Partners’ India arm, started work on Trifecta Capital. Khanna and his partner, Nilesh Kothari, a former head of mergers and acquisitions (M&A) at Accenture India, decided to ditch the NBFC model and go with a fund model as outlined under markets regulator Securities and Exchange Board of India’s (Sebi) AIF (alternative investment funds) regulations.
Second, 2015 was also the year when the venture capital market experienced its first serious correction, a factor that is possibly going to be far more decisive in shaping the future of venture debt here. As is now well documented, for well over two years, equity capital, whether from venture capital investors or non-traditional start-up investors such as hedge funds, hasn’t been as readily available for start-ups as before. As a result, more and more start-ups, both at the early and later stages, have had to turn to debt to tide them over the interim period between funding rounds. Innoven has already deployed about $225 million, most of it over the past 18-odd months. Trifecta, which is raising a $77 million (Rs500 crore) fund, had already deployed more than $45 million (Rs300 crore) by June this year. And there’s more capital waiting to enter the market. A potentially big player waiting in the wings is Mumbai-based Alteria Capital, which got Sebi’s nod to launch a $150 million fund last month. Alteria’s founders Hattangdi and Vinod Murali quit Innoven in August to strike out on their own. There is talk of IntelleGrow firming up plans to raise a $31 million fund under the AIF structure. Chennai-based asset management company IFMR Investment Managers, Mint reported last year, is also raising a $38 million fund under the AIF structure. The spurt in funding activity is no doubt welcome. More startups taking on debt is a sure sign of a maturing market and augurs well for firms such as Innoven, Alteria and Trifecta. At the same time, it comes with attendant risks. Since venture debt, unlike traditional bank credit, doesn’t demand collateral against loans in the conventional sense, there is always the danger of money going down the drain if a borrower is unable to raise the next round of venture capital funding. That ongoing downturn in the venture capital market amplifies that risk. During the funding boom in 2014 through 2015, indiscriminate funding at unrealistic valuations created a sizable base of unviable start-up assets, alongside the viable ones. Many of those start-ups may not see another rounds of funds for a while, if at all.
The good news is that the downturn isn’t going to last forever. Further, there is enough equity capital in reserve in the market to support the evolution of a robust venture debt market. Most venture capital firms here are still flush with funds and there are more and more new funds entering the market. Further, strategic investors such as Japan’s SoftBank Group Corp., China’s Tencent Holdings Ltd and South Africa’s Naspers Group are just starting to warm up to the Indian market. There are clearly more reasons than not to finally usher in the age of venture debt in India. The nascent industry just needs to err on the side of caution for a while to ensure that it isn’t short lived.
Snigdha Sengupta is a consulting writer with Mint. She contributes stories on venture capital and private equity.