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November 08, 2007

Ajay Shah on Private Equity

Extract from economist Ajay Shah's column in the Business Standard argues for removing the tax and regulatory irritants for PE investments in India:

The investments in place today might generate 1,000 exits over the next four years. On average, the PE industry will produce one company per weekday! Some of these exits would be through an IPO; the others would involve sale to an existing listed company. In either event, this would give growth of the overall market capitalisation of India and grow the modern sector of the economy.

A key feature of PE funds is that they have a substantial shareholding in the investee company — sometimes even a majority stake. This is a sea change in the governance environment when compared with the usual Indian family run company, where the CEO has job security owing to owning over 50 per cent of the shares. PE funds, in contrast, exert substantial control, and sometimes even sack the CEO. This pressure helps to improve the performance of the company. Once the Indian listed space has hundreds of companies which have experienced a few years of PE investment, this would lead to an improvement in the corporate governance climate in the country.

Indian capital controls matter greatly. The bulk of the money coming into this field is from foreign investors, particularly after the mistakes of Budget 2007, which restricted tax passthrough for PE funds for domestic investors. Investee companies are now often planned out as a global business doing outbound FDI very early in the game. Sometimes, investee companies are being structured as offshore firms so as to avoid Indian capital controls. Global PE funds are setting up operations in India, and their ability to do so critically depends on an environment which is supportive to global firms operating branches here and moving money across the boundary. A strong effort is required, on solving mistakes of tax policy and capital controls, so as to enable private equity to impact on India’s growth.

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.