Market surge puts exit pressure on PE funds

Mumbai: With India’s key equity indices trading near all-time highs after a prolonged lull, private equity (PE) funds are feeling the heat from investors to cash out from their investments in public equity even as several mid and small cap shares, which constitute a majority of PE investments, continue to lag behind.

add_main_imagePE deal watchers expect fund exits from listed entities to gather pace during the year as a number of these funds are half way through their investment lifespans, which is typically 8-10 years, and their limited partners (LPs), or investors, are urging them to wrap up with marginal profits or minimal losses.

“A lot of PE funds are facing pressure from their limited partners and are hence looking at generating some returns on their investments. Funds that have holdings in listed entities will find it relatively easier to realise their gains,” an investment banker helping a global private equity fund exit successfully through the secondary market said on condition of anonymity.NextMAds

Private equity investment in public equity, or PIPE, gained in popularity in 2004 and peaked in 2007, a year before the financial crisis ravaged global equities. It was hit by marked-to-market portfolio losses as stock markets fell sharply and remained lacklustre for a sustained period.

“Many of these funds are past their half lifespan and some funds are now invested for more than five years. Since they don’t work like a mutual fund, there will be pressure from investors to return the money. Exits are expected to gather pace,” said the managing director and chief investment officer of a domestic private equity fund on condition of anonymity as he is not allowed to talk to the press.

While the new-year rally of 2012 saw the Sensex gaining 19.24% from early January to close at an interim high of 18,428 in late February, the BSE mid-cap index outperformed the benchmark index by jumping 28.61% in the same period.

Some of the more profitable exits following the rally included Warburg Pincus India Pvt. Ltd selling its stake in Kotak Mahindra Bank Ltd in February and March at a 4.7 times return on investment. The firm exited Max India in April 2012 with a near three times profit.

In the current leg of the rally that started in September, the BSE mid-cap index, up 19.46% till date, compares well with the Sensex return of 15.83%.

Some of the recent multi-bagger deals include ChrysCapital and ICICI Venture’s September-October exit from Shriram City Union Finance with a 3.6 times return on capital and Warburg Pincus’ exit from Max India in April, with a near 300% return.sixthMAds

However, pressure from investors has seen some hurried exits, soon after which the stock price of the respective companies shot up. Sequoia Capital exited ESS DEE Aluminium via a bulk deal in September 2012 at ₹ 127 per share. The company’s shares closed at ₹ 343 on the BSE on Thursday. Temasek Holdings exited Welspun India in July 2012 at ₹ 54 per share via a bulk deal. Welspun shares closed Thursday at ₹ 68.10 on the BSE.

“For a long time, many such investments were under water. PEs have to either give good returns or return the money. When LPs put pressure, they will have to exit and then there is no point looking back and saying, it could have been better,” said the chief investment officer of the domestic fund house cited above.

Ever since the equities rally that started early last year and gained momentum in September following the appointment of finance minister P. Chidambaram and the unveiling of a series of policy changes, PE funds seem to have been quick at booking profits at every rise.

“PIPE took off as a phenomenon in 2004-05 and some funds such as ChrysCapital did well (before the market crash of 2008). PIPE investments are dependent on the broader market’s movement and the timing of the exit is crucial for them,” said Arun Natarajan, CEO of deals data provider Venture Intelligence.

While 2004 saw 30 PIPE deals worth $608 million, it more than doubled to 68 in 2005, totalling $980 million, according to Venture Intelligence data. In calendar 2006, there were 69 PIPE deals worth $1,368 million, which peaked a year later with 93 such deals amounting to $3,375 million. 2012 saw 52 PIPE deals worth $2,236 crore.

Though an investment in unlisted companies is the primary mandate of the private equity funds, they have been actively investing in listed companies citing a dearth of investment and growth opportunities in the unlisted space.

According to data provided by Venture Intelligence, 2008 saw 62 PIPE deals worth $1.49 billion. In 2012, Bain Capital’s $1 billion investment in Genpact was the biggest PIPE deal. It saw PE fund General Atlantic exiting at a substantial profit.