PRIVATE EQUITY INVESTMENT TRENDS IN INDIA Chowdari Prasad1 Durga Prasad2 Abstract: The term „Private Equity‟ (PE) refers to shareholder capital invested in businesses. A company may seek PE for a variety of applications, namely, business expansion, developing new technologies and products to grow and remain competitive, making acquisitions of other businesses, restructuring the company etc. PE investments are best source for the capital needs of dynamic companies with high growth rates. A study by the McKinsey Global Institute suggests that if India continues its recent growth, average household incomes will triple over the next two decades and it will become the world‟s largest consumer economy by 2025, up from the 12th position now. McKinsey study also shows that aggregate consumer spending could more than quadruple in coming years, reaching 70 trillion rupees by 2025. Expanding urban wealth and increased domestic consumption has resulted in the industrial production growth rate of 9.7 per cent (CIA World Fact Book). There is a huge demand for FMCG, Schooling, Retail, and Real Estate. PE investors have played a significant role in the development of several sectors in India in recent years. There is a high and increasing demand for Private Equity / Venture Capital funding in India in the post-liberalized era. The primary growth drivers for Private Equity in India are industrial growth and increasing opportunities for enthusiastic entrepreneurs. The role of private equity increased significantly over the last two decades world over. Private Equity funds invested in almost all the major sectors in India. Technology, Infrastructure, Telecom, Healthcare, Retail Marketing, etc., are

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Professor, T. A. Pai Management Institute, Manipal, Karnataka email: chowdarip@tapmi.edu.in Assistant Professor, T. A. Pai Management Institute, Manipal, Karnataka email: durgaprasad@tapmi.edu.in


some of the sectors highly benefitted because of Private Equity funding which played a vital role in providing employment opportunities too. There is need for a controlling body for private equity industry in India like SEBI for Capital Market or Venture Capital funding. It is also necessary for the Government to clearly spell out the definition of Private Equity in India in comparison to and on the lines of Venture Capital Fund (VCF) Rules 2000, guidelines for management of PE Funds from within India and abroad, compliance to the Foreign Investment Promotion Board (FIPB) / Department of Industrial Policy & Promotion (DIPP), Government of India Guidelines, terms for repatriation of capital and interest / dividend payments in foreign exchange, and taxation laws as also relaxations, if any, by Central Board of Direct Taxes (CBDT) and so on. This research paper primarily focuses on recent trends in Private Equity and the regulatory frame work for private equity.

Introduction: Private Equity is the investment in the equity capital of businesses and Companies which may be listed or unlisted. Business Organisations, depending on their size, nature of business engaged in and legal status, have several traditional avenues of raising funds like share capital, debentures, borrowings from friends and relatives, short and long term loans from banks and financial institutions, trade credit, and so on. In addition, Private Equity provides long-term, committed share capital, to help companies grow and succeed. In a private equity deal, an investor buys a stake in a company for a predetermined period, say up to seven or eight years, with the hope of ultimately realizing a substantial increase in the value of that stake and exit. A private equity firm is nothing


but a private group of investors viz., High Net-worth Individuals, Pension Funds, etc., who make money through purchase and sale and ownership of private equity.

Stage and Type of Investment The terms that most private equity firms use to define the stage of a company’s development are determined by the purpose for which the financing is required. Seed: To allow a business concept to be developed, perhaps involving the production of a business plan, prototypes and additional research, prior to bringing a product to market and commencing large scale manufacturing. Start-up: To develop the company’s products and fund their initial marketing. Companies may be in the process of being set up or may have been trading for a short time, but not have sold their product commercially. Other Early Stage: To initiate commercial manufacturing and sales in companies that have completed the product development stage, but may not yet be generating profits. Expansion: To grow and expand an established company e.g., to finance increased production capacity, product development, marketing and to provide additional working capital. Management Buy-Out (MBO): To enable the current operating management and investors to acquire or to purchase a significant shareholding in the product line or business they manage. Management Buy-In (MBI): To enable a manager or a group of managers from outside a company to buy into it. Buy-In-Management Buy-Out (BIMBO): To enable a company’s management to acquire the business they manage with the assistance of some incoming management.


Institutional Buy-Out (IBO): To enable a private equity firm to acquire a company, following which the incumbent and/or incoming management will be given or acquire a stake in the business. This is a relatively new term and is an increasingly used method of buy-out. It is a method often preferred by vendors, as it reduces the number of parties with whom they have to negotiate.

Advantages of Private Equity: The reasons why an entity prefers to avail of PE could be          Meet financial objective Corporate Governance Networking and Global Integration Operational Orientation Corporate Strategies Long Term Capital Commitment Easier access to other sources of finance Experience and expertise in Risk Reward Analysis and Capital allocation Build confidence in customers, employees, suppliers, banks and other lending institutions and markets  Relatively less expensive fund raising exercise in comparison to IPO

Disadvantages of Private Equity:   Raising private equity finance is demanding, time consuming Depending on investor, the promoters may lose a certain amount of power to make management decisions


Will have to invest management time to provide regular information for the investor to monitor

Might create conflict or differing opinion in long-term strategy due to pressures of EXIT from the investor

 

The cost of complying with regulations could be relatively higher Non-alignment of interest of fund manager on the board and entrepreneur could hamper the growth of company

Drivers for Private Equity: There may be several reasons to sell a part of companies’ interests to a private equity firm. First, The Company may need a large inflow of capital for long-term productivity investments such as research and development. Rather than waiting several years to gather sufficient capital, the company may choose to sell part of its interests in exchange for the ability to pursue developmental projects sooner. This may be especially true of highly time sensitive industries such as technology e.g., software, telecommunications and internet services etc. Increasing regulation of public

markets, and scrutiny over the last several years, some companies may wish to avoid having their destinies controlled. In a public limited company, shareholders have the right to cast votes with regard to any number of issues critical to the company. In private equity such transactions and rights typically do not exist. Accordingly, a company can raise capital without relinquishing operating control to external shareholders. Nevertheless, a private equity firm does retain some control, such as the ability to influence the composition of management teams. Often, a private equity firm may take an interest in a company on the condition to install new management which


ideally will improve operating results and drive profits. In brief, the following are the important drivers for the growth of PE in India.   Relaxing the regulatory barriers of foreign investments in India Spurt in demand generated by growing Indian middle class with higher disposable incomes, resulting in higher purchasing power  Human capital and competitiveness in high-growth sectors, with one of the best higher education systems in the emerging market and widespread knowledge of English   Abundance of entrepreneurial talent and high self confidence Remarkable growth in sectors like Telecom, Financial Services, Real Estate, Infrastructure and Manufacturing.

Private Equity in India: Indian economy is one of the fastest growing in the world and more attractive investment destinations globally, driven by a combination of strong economic growth, an improving regulatory environment, a healthy investment climate and favorable demographics. The strong fundamentals of India such as high GDP growth, increasing savings and investment rate, its stable democratic government, well educated population, abundance of English language speaking population have caught the attention of private equity players and have brought it on the priority list of all private equity funds. On the one hand, Indian growth story has attracted on the private equity investors and on the other the Indian economy has gained significantly from the private equity sector. Private Equity firms have shared their global exposure and have had its spillover effect on various fronts such as corporate governance standards, knitting global connectivity, building executive teams, improving/raising organizational capability, enhancing evaluations and creating liquidity. Further,


private equity firms also provide the domestic entities with necessary monitoring and advice without having to go to public markets.

Economic Times daily recently published a private equity round up and clearly mentioned that in the current financial year from January to June 2013, the total number of deals was 197 with $ 5.4 billion total deal value. Out of total deals, the value of 18 deals is above $50 million each. The deal volume declined marginally by 9 per cent compared with the first half of 2012. For the same period, overall investment value improved considerably by 42 per cent.

Other related developments: A Working Group was constituted in the year 2010 by the GOI, comprising of eminent Bureaucrats, Bankers, Economists and Academicians as also Consultants with the task of rationalizing the present arrangements relating to foreign portfolio investments by Foreign Institutional Investors (FIIs), Non-Resident Indians (NRIs) and other foreign investors like Foreign Venture Capital Investors (FVCIs) and Private Equity entities. The group was headed by Shri UK Sinha, CMD of UTI Asset Management Company and comprises of members representing various bodies.

While the domestic scene was witnessing fast economic / legal developments affecting up and down movement of PE funding and other areas pertaining to business and industry, necessitating certain policy changes and announcements, the academic world was also closely following to study the trends globally. One of such outcomes is given below.


The Global VC and PE Country Attractiveness Index 2011 (Second Annual Report) was released by IESE Business School of University of Navarra in Barcelona, sponsored by Ernst & Young (E&Y) and in cooperation with Emlyon Business School. It had 3 Authors viz., Prof Alexander Groh, Prof Heinrich Liechtenstein and Mr. Karsten Leiser (2 Professors and 1 Manager). This report deals with data on 80 countries / emerging economies (compared to 66 in the first report in 2009/2010) including India. The parameters looked at were Economic Activity, Depth of Capital Market, Taxation, Investor Protection and Corporate Governance, Human and Social Environment, and Entrepreneurial Culture and Deal Opportunities. India is at 30th rank with 61.4 while USA is no. 1 (100) and UK at no.2 with 93.3 followed by Canada, Singapore, Switzerland and so on and China at no.20 with 72.3. The list ends with Kyrgyzstan at no. 80 and index of 14.4.

Next to follow in the domestic scene was announcement of The SEBI (Alternate Investment Funds) Regulations, 2012. The Gazette Notification dated May 21, 2012 has Seven Chapters and Two Schedules and the definitions including Alternate Investment Fund (AIF), Private Equity, Venture Capital Funding, Venture Capital Units, etc. In all, it covers Registration of AIFs, Categories I to III, Eligibility Criteria, Furnishing of Information, Procedure for grant of Certificate and Refusal, Investment Strategy, Placement Memorandum, Schemes, Tenure, Listing, General Investment Conditions, SME Funds, Conditions for Categories I to III AIFs, Others, General Obligations, Conflict of Interest, Transparency, Valuation, Obligations of Manager, Submission of Reports to SEBI, Winding Up, Inspection by SEBI, Procedure of Action in case of default, Miscellaneous…..& 2 Schedules include forms , fees, etc. The implementation of these regulations is yet to be experienced and evaluated.


Overview of current conditions According to recent report of Bain & Co., global private equity investments showed no significant increase in 2012, continuing the previous year 2011’s trend towards flat growth. North America was the strongest-performing market, while activity in Asia fell by around 20% over 2011. India too saw deal activity falling from $14.8 billion in 2011 to $10.2 billion in 2012. The number of deals, however, increased from 531 to 551 over this period, resulting in a fall in ‘average deal size’. Not surprisingly, Limited Partners (LPs) are showing increasing caution this year when allocating funds. In fact, 2012 saw 55 funds with a mandate to invest in India, but the total fund value allocated to India was only $3.5 billion, down from $6.8 billion in 2011. All this has been driven by the fact that 2012 was an uncertain year in India both politically and economically. Reported lapses in governance, coupled with lack of clarity in regulation, raised considerable concerns about India’s attractiveness as an investment destination. Despite these challenges, the market is showing signs of maturity with all key stakeholders becoming more comfortable with the idea of PE funding. The latter half of 2012 also saw the government become more proactive and bring forward some key pieces of legislation to create greater transparency in the regulatory environment.

Deal Making: The volume of deals grew only slightly from 531 in 2011 to 551 in 2012. At 4 %, this increase is very low, in line with the overall mood of caution in the market last year. This restraint, coupled with a decline in the total funds invested, saw the average deal size significantly impacted, falling from $28 million in 2011 to $18.4 million in 2012. Early-stage growth and Venture Capital (VC) have played a critical role in deal making in 2012, with the number of early stage deals under $10 million almost doubling to 244. Also, the top 25 deals made up only $4.3 billion, as opposed to $5.9


billion in 2011, and the average deal size at the top 25 dropped by almost a quarter to $175 million per deal last year. Sectors attracted the most investment last year were healthcare and IT/ITES. A majority of deals under $10 million were made in the e-commerce space, which was a sector highlighted in Bain’s India Private Equity Report 2012. The subsector continues to grow in 2013, following on the nearly doubling of deals valued at less than $10 million in the e-commerce, from 12% in 2011 to 23% in 2012 of the total deals. Expectations about deal activity in 2013 remain cautious but still positive on the whole. Key Trends in Private Equity: There are a few key reasons for the drop in investments, mostly linked to India’s wider financial and political landscape. The decline of capital expansion plans across industries brought about a decrease in the demand for growth capital. Additionally, many large sectors like infrastructure, energy and telecom suffered due to inadequate political momentum and saw investments almost completely dry up. Ongoing regulatory uncertainty compounded this problem. An overview of 2012 indicates the emergence of four important trends, which will shape the future development of the private equity space. Figure: 1: VC and PE deal values in India between 2000 and 2012 (13 years)

Source: Bain PE deals database (investment in billion dollars)


Table 1: Statement showing the annual PE/VC investments in India (in billion $) Year Annual 1.2 investment No. of Deals 280 110 78 56 73 185 296 494 448 216 380 531 551 0.9 0.6 0.5 1.6 2.6 7.4 17.1 14.1 4.5 9.3 14.8 10.2 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012

Source: Bain PE deals database

1. Fund-raising activity has slowed, and Limited Partners (LPs) are doing their diligence with

great care before committing funds to India. The total funds mandated for investments in India were $3.5 billion in 2012, which is less than half of the roughly $6.9 billion committed in 2011.
2. Early-stage growth and venture capital are playing a critical role in deal making. The

number of early-stage deals that were less than $10 million nearly doubled from 125 deals in 2011 to 244 deals in 2012. This subset now accounts for almost half of total deal volume (44%) up from 24% in 2011 and 16% in 2010
3. Investment is rising in consumer sectors, particularly in healthcare, investments in

healthcare nearly tripled over the past year, rising from $0.46 billion to nearly $1.3 billion in 2012. The number of deals also rose by 50% with deals made in the sector in 2012
4. The pressure to exit continues to build. Though exists grew slightly in 2012, there is a

growing backlog of investments looking to exit, mainly five-year vintage or older funds. As long as capital markets remain unattractive and investors continue to prefer IPOs as a way to exit, this backlog will continue to grow.


IT/ITES sectors garnered maximum number of deals witnessing a steep growth over 2011. The sector attracted nearly 50 percent (225 deals) of all the PE deals in 2012. In 2011, the same number was at 135.

Table 2: Sector-wise break-down of number of private equity deals in 2011 and 2012 Sectors Others Telecom Media and Entertainment Healthcare BFSI Energy IT & ITES Engineering and Construction Manufacturing Real Estate 2011 105 5 9 31 48 35 135 28 72 63 2012 108 0 21 45 41 19 225 14 34 44

Source: Track.in



Private Equity investments in Q1 2013 were recorded at $1.8 billion a quarter less than the $2.45 billion worth of investments during the corresponding period last year. Deal volume declined by third as well, falling from 186 deals to 123 deals. The quarter was lucrative for early-stage investments with over $53 million worth of private equity capital being invested across 45 startups,


accounting for 37 % of the total deals. Financials, Utilities and Industrials were the most targeted sectors with investments worth $ 771 million, $365 million and $251 million, respectively. Together, these sectors accounted for nearly 75% of the total private equity capital invested in Q1 of 2013.

The $368 million investment by a clutch of reality funds including Blackstone Real Estate Partners, Embassy Property Developments, GIC Special Investments and HDFC Property Fund in Vrindavan Tech Village was the most significant deal seen during the quarter. This was followed by the $188 million invested in NTPC Ltd., by GIC special investments. down of private equity deals in Q1 2013. The following is the sector break-

Table 3: Sector-wise break-down of private equity deals in Q1 2013 Sectors Consumer Discretionary Consumer staples Financials Healthcare Industrials Information Technology Materials Utilities Volume 23 4 24 13 13 39 3 4 Value ($ mn) 140 47 771 120 251 38 113 365 Average Deal Size ($ mn) 12 12 37 12 28 2 38 91

Source: dnaindia.com




Conclusion: India might have lost its standing as the fastest-growing private equity (PE) market in Asia, but investors expect a moderate 10-25 % rise in deals in 2013, according to Bain and Co.’s India Private Equity Report 2013. The value of venture capital or VC/PE deals in India fell 30% to $10.2 billion in 2012 from $14.8 billion in 2011. The study also found that deal activity will see moderate growth in 2013 throughout the industry.

Private equity funds invest for over a seven to nine year cycle, so investments that were made in 2006 to 2008 will be the ones that will be ready to harvest. Unfortunately, many of those investments were made on the business plans that don’t look very achievable now. They all assumed a strong economic growth environment. This problem will be more for some sectors such industrial goods as opposed to, say, the consumer sector. While it may be true that other geographies too may have suffered, India is often compared to China because China has returned more capital than India. During 2009, 2010 and 2011, Indian markets had $10 billion worth of exits. China showed exits worth $24 billion. That makes China a more attractive PE market in the eyes of investors. The British Venture Capital Association (BVCA) did a study that shows that over the last decade, UK PE funds had returned 14.3 percent and this compares well with stock market returns (FTSE) of 4.3 percent in Britain. Private equity should logically return a higher rate of return compared to stock markets because the investments are perceived to be more risky. for India, it would depend on which year is chosen as the beginning period of the comparison. Till August 2007, the Sensex was at 14,000 levels. Today it is around 19,000, so the market has returned almost 35 percent. Most private equity funds would have a hard time in delivering such returns on investments made in 2006 or 2007.


PE investors have played a significant role in the development of several sectors in India over the past decade eg., Telecom, Healthcare, Technology, Retail, Education, etc. Private Equity in India needs to operate in the space where public markets are unable to price a business. Restrictive regulations are becoming the biggest hurdle for PE investors operating in India and more specifically domestic funds. The industry needs serious reforms from the regulator. In our opinion PE investors are tending to spend more time with lawyers and accountants then their investee companies to understand the investment system and government policies.

PE investors are generally a positive force for Indian corporations. Indian entrepreneurs are energetic, ambitious, creative and intelligent. However, many of these entrepreneurs are inexperienced in scaling up an organization. Scaling up requires systems and processes, and most importantly in organization and people development. There are areas where PE investors can also assist in corporate governance and business development. Governance is critical at the time of exit, either a sale to a strategic buyer or an IPO. *******************

Sources: a. Websites: 1. http://www.dnaindia.com/pressreleases/1820899/press-release-indian-private-equity-dealsdecline-by-a-third-to-1-85b-in-q1-2013-m-and-a-also-dips-by-a-quarter-to-4-76b 2. http://www.livemint.com/Money/jgwSihseEJSU9ZBLAHqHMN/India-no-longer-fastestgrowing-PE-market-in-Asia-Bain-repo.html 3. http://trak.in/funding/indian-private-equity-deals-activity-report/ 4. http://forbesindia.com/article/biggest-questions-of-2013/can-private-equity-funds-in-indiadeliver-returns-for-their-investors/34421/1


b. Research Reports: 1. Bain & Company, (2013). “India Private Equity Report 2013” Retrieved from http://www.bain.com/publications/articles/india-private-equity-report-2013.aspx 2. Bain & Company, (2013). “Private Equity Global Report 2013” Retrieved from http://www.bain.com/publications/business-insights/global-private-equity-report.aspx 3. Deloitte (2013) “2013 Private Equity outlook 2013” Retrieved from http://www.deloitte.com/assets/DcomCaymanIslands/Local%20Assets/Documents/2013_Private_Equity_Fund_Outlook.pdf 4. EY (2013) “Global Private Equity Watch 2013” Retrieved from

http://www.ey.com/GL/en/Industries/Private-Equity/Global-PE-Watch-2013---Challengesand-opportunities 5. National Stock Exchange “Venture Capital and Private Equity Financing in India” Retrieved from http://www.nse-india.com/content/press/NS_may2009_2.pdf

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