Mumbai:Buyouts or control transactions, where private equity (PE) firms acquire a majority or controlling stake in companies, have been on the rise in India. In the past, Indian PE comprised largely of minority investments where the PE investors were dependent on the companies/promoters to provide an exit to them at the appropriate time. With buyouts, PE firms have control over the growth journey of the company as well as their own eventual exit. An expert panel of PE investors discussed the nuances of buyouts at the Mint India Private Equity Conclave 2018.

The panellists included Sanjay Kukreja, partner at ChrysCapital; Shashank Singh, partner and head of India at Apax Partners Llp; Sahil Dalal, director at Advent India PE Advisors Pvt. Ltd; M.K. Sinha, managing partner and chief executive officer at IDFC Alternatives Ltd; Rakesh Sony, global head (strategy and M&A) at Tata Global Beverages Ltd; Nishant Parikh, partner at Trilegal. The session was moderated by Reshmi Khurana, managing director and head (South Asia) at Kroll. Edited excerpts:

Can you perhaps give us some sense on why controlled transactions are more desirable laying out some of the positives and challenges of this space?

Singh: You have control over management, capital structure, M&As and exit timing. So this has always been a slogan among the private equity (PE) players and the solution to the problem of growth or minority investing in 2006-07 was control or buyouts. While on the negative side, there are some of the challenges of operating businesses in India that I would call it the rough and tumble of doing business in India. As PE industry is concerned, the question is do we understand how the industry operates, the way promoters do? There are some practices that we can learn from promoters while some we have to do differently. My sense is the statistics of buyouts would continue to grow.

What are some of the drivers that are driving the controlled growth transactions?

Kukreja: The biggest inhibitor of controlled transactions today is the availability of leverage. Control transactions have got a lot of attraction in sectors that are dollar- based like IT services, pharmaceuticals or there are offshore vehicle where you can actually take leverage. Domestically there is lack of availability of leverage for example in the Indian bond market. But I see a clear trend of controlled transactions increasing because many businesses in India have gone through second or third generation change.

What is driving controlled buyouts transactions in infrastructure and real estate space?

Sinha: The kind of money that is deployed in infrastructure, the idea is to generate yield over a period of time. So the need for leverage to buy control is absent in infrastructure and likewise in real estate. In this space, one can execute control transactions in a very different way, which is either through a roll up or a build-up strategy. The management team inherits the assets and not the company. At IDFC, we have figured out control is the only way to play.

What is your experience in building up strategies in different sectors?

Dalal: As an overarching theme, we would typically do deals in sector which has tailwinds. The sector which has headwind makes the job difficult in generating returns over the period of time. Once the opportunity comes in the sector where we fundamentally believe to go after, we would look at sectors where we could apply our playbook too. We as a PE fund don’t really run the company and therefore we seek the right management. We focus a lot on value creation in controlled deals be it procurement, supply-chain optimization to reduce inventory or go to market efficiency.

Rakesh, what has been your experience so far? In your previous organization you helped companies build business in very nascent sector. How did the control and buyout experience play out?

Sony: Our experience has been in a sector which really didn’t exist in the first place and which gave us an advantage of creating our own playbook. The advantage was to find out the management team, get good exposure and plan exits rightfully. Our experience in China has been really good where one can easily acquire land and build business. But in India, setting up a plant itself is a challenge in many aspects. We are seeing the new trend of consolidation happening and large PE funds can play a huge role. In India, there’s a difference between commitment and competence. Promoters are committed to the business but aren’t competent.

What kind of PE interest are we seeing in the distressed space in a controlled and buyout situation?

Parikh: In the distressed space, we typically see PE industry partner with the strategic players and this happens primarily because of the context of the deals that are happening and the framework of the law. The supply of asset depends on where the distress is. Energy, manufacturing, real estate and infrastructure are promoter driven sectors. Therefore, there’s much more of a need for PE players to partner up with those who can run the business from day one. Promoters are not allowed to bid for their business and strategic players wouldn’t want the promoters to hang around once the asset has been bought over.

Does control significantly improves the quality of exits?

Kukreja: By virtue of having control does not necessarily give one an ability to exit. The question is, is there a buyer for the asset that you’ve created, have you really created something valuable for someone else? In a minority situation, you have different avenues. The ability to go public goes away in a minority case. We have exits in early stage investments in listed space as well as private investment in public equity, in minority as well as in control businesses. Of our 65 exits, we have taken 11 or 12 companies public but there have equally been 10-odd strategic exits. Control is desirable for lot of reasons including the ability to change the business but control can be exerted in many ways like influencing the business activity. It’s more about the relationship you have with the entrepreneur. It’s a marriage between an entrepreneur and an investor.

Dalal: In a controlled deal, timing is in control whereas in a minority deal, promoter has the room to decide when he wants to take the company public, etc. When we exited Care Hospitals in 2016, we had 70% of ownership in the company and we could decide the fate of the company, which sometimes is harder in case of minority ownership. The downside of having exited a controlled deal is to start planning the way much in advance.

Selling a controlled position for public market exit is a lot longer process. As an organization, we do believe that it is easier to exit in case of a majority investor because then the destiny is purely in your own hands.

Sinha: As a PE fund manager, you have to have multiple exit options in the business. In case of infrastructure and real estate, we invest at the asset level. If you are a minority investor at the asset level with the sponsors holding the company, then as an investor you have limited exit options. Therefore, in our second fund we have controlling stake in operating assets. We have the flexibility of structuring our exits and we feel confident about that.

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