Knowledge Partners


 Basiz Fund Service    Economic Laws Practice    Avalon Consulting  

 Spark Capital    Tatva Legal   

October 19, 2007

Will the subprime mess affect Indian PE?

I wrote the following article for Economic Times-Corporate Dossier (issue dated September 7, 2007).

The financial crisis triggered off the by the US sub-prime mortgage meltdown, is already impacting Private Equity investing in North America and Europe. And depending on how our public equity markets react, it will impact the PE scene in India too. But, the nature of the impact is likely to be very different from that in the US and Europe. Because, PE in India is quite different from Private Equity in the Western world.

While (unfortunately) there are many definitions of Private Equity, PE in the US and Europe is commonly used to refer to buyout investments and especially, leveraged buyouts (LBO) which involve taking on significant portions of debt to acquire (often) publicly listed companies – with a view to improving profitability and taking them public again (or selling them off) a few years later. With the sub-prime crisis raging, PE firms will find it very difficult to access cheap debt from banks – and reports have emerged on how the financing for several mega deals in the US and Europe have been placed on hold.

In India, on the other hand, buyouts (let alone large LBOs) form a very small part of the PE market. Out of the 302 PE investments in India that Venture Intelligence had tracked in 2006, only 14 investments (i.e., less than 5%) were of the buyout variety. And only one of these deals – the KKR-led buyout of Flextronics Software - was valued at over $100 million. Even without including the 22% of PE investments which went to listed companies, an overwhelming 75% off all PE investments in India went into unlisted companies in various stages of their growth.

Given this context, how is the latest financial market turmoil likely to affect PE investments in India? The 2001 downturn had witnessed several global PE investors bidding goodbye to Mumbai. This time around, a key source of strength is that almost 40% of all PE investments in India originates from “India-dedicated funds” - i.e., pools of capital which have been mandated to be invested exclusively in this country. This means that, even (in the unlikely event) of players like Blackstone and Kleiner Perkins losing appetite for emerging markets investing, there is significant “dry powder” at firms like ChrysCapital and Sequoia Capital India which has to find a home in India over the next few years.

In fact, with less competition from their foreign counterparts (including hedge funds), these India-dedicated funds which have raised their funds recently, would probably be licking their chops to investing in a climate where they could enter companies at attractive valuations compared to what has been possible over the last two years.

Google as the go to guy
If you are a fund manager trying to raise a Venture Capital fund targeting young technology companies in India, it’s become clear that the Googleplex in Mountain View, CA should be your first stopping point. While globally, Google is known for buying out young companies or products, the online search giant seems to be playing India indirectly - at least for now. Google has invested into three early-stage VC funds - VentureEast TeNet Fund, Seed Fund and Erasmic Fund. And if that wasn’t enough, it has also joined the India Angel Network - a group of successful entrepreneurs who invest in start-ups - as an institutional member.

Deal-making ADAG style
In 2002, California-based “managed Ethernet provider” Yipes Communications, unable to meet its financial obligations, had filed for bankruptcy - after reportedly burning through almost $290 million in venture capital. Post its 2002 reorganization, investors like Crosslink Capital, Norwest Venture Partners, JPMorgan Partners and Sprout Group poured in an additional $94 million into the company – which seems to have paid off on July 16 when Reliance Communications subsidiary, Flag Telecom, announced that it had bought Yipes for $300 million dollar in cash. (Flag Telecom itself had filed for bankruptcy before Reliance had acquired it in 2003.) Interestingly, on July 20, Reliance Communications announced that it had received about $338 million by selling a 5% stake in its tower infrastructure arm Reliance Telecom Infrastructure, to a group of financial investors. That’s $338 million in and $300 million out in four days! Coincidence or clever financing?

Going for Broking
PE investors are making a firm bet that young Indians will not be spending all their pay packets at the shopping malls, but will direct some of it towards investments in the stock markets. And who would be the immediate beneficiary of this? Well, the neighborhood – or is it, the one-mouse-click-away? – stock broker, of course. Last week’s $35 million investment by Baring Private Equity in Cochin-based JRG Securities marks the eighth such investment so far this year, compared to just three deals in the whole of 2006.

Tailpiece
At the recent Venture Intelligence conference on IT Services and BPO, we had invited a panel of experts to answer the question “Can a KPO ever IPO?” (as against having to sell out to larger BPO firms). Chandu Nair, Founder of Scope eKnowledge, started his answer with the following memorable line: “In a strong wind, even turkeys can fly!”

Arun Natarajan is the Founder & CEO of Venture Intelligence, the leading provider of information and networking services to the private equity and venture capital ecosystem in India. View free samples of Venture Intelligence newsletters and reports.