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TRANSCRIPT
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PRIVATE EQUITY IN INDIA
(2010-11)
CURRENT TRENDS & ISSUES
ROLL NO. 14-2010
MBA(FS)
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INTRODUCTION
PRIVATE EQUITY - THE NEW FACE OF CAPITAL IN INDIA
Private Equity is a form of equity capital that is not quoted on a public exchange. It
consists of investors and funds that make investments directly into private companies or
conduct buyouts of public companies that result in a de-listing of public equity. Capital
for private equity is raised from retail and institutional investors, and can be used to fund
new technologies, expand working capital within an owned company, make acquisitions,
or to strengthen a balance sheet. The majority of private equity consists of institutionalinvestors and accredited investors who can commit large sums of money for long periods
of time. Private Equity firms are generally organised as limited partnerships where
private equity firms serve as general partners and large institutional investors and high
net worth individuals providing bulk of the capital serve as limited partner. The seeds of
the Indian private equity industry were laid in the mid 80s. The first generation venture
capital funds, which can be looked at as a subset of private equity funds, were launched
by financial institutions like ICICI and IFCI.
Year 2010 saw Private Equity (PE) investments in India turn the corner, recovering to
reach $8.13 bn across 328 disclosed transactions from the low of $4.25 bn across 250
deals made in 2009a healthy rise of ~90%. In fact, the past five years have seen a wild
roller coaster ride for PE investments in India - with the good times being in 2007 when
investments crossed a huge $19 bn, only to see an equally sharp and heart-wrenching fall
in 2009. PE players in India spent 2010 doing what they were supposed to do puttingmoney to work and showing meaningful returns to LPs before they could bargain for
fresh funds.
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FACTS ABOUT THE INDIAN PE MARET
India has attracted maximum investment in private equity within Asia Pacific.
Limited Partners do not have too many avenues in the developed world. Currently,
they are fully committed to China and are exploring India as an investment
opportunity. If there is political stability to introduce reforms and if GDP
continues to grow over 7 percent, in the medium term, India has a potential to
become very important on the PE radar
Indias PE market has grown at an annual growth rate of 2 percent over 10 -year
period from 1998 to 2007.
In calendar year 2010, private equity and venture capital firms invested 7.97billion dollars in 325 deals (excluding real estate) as against 4.07 billion dollars in
290 deals during the previous year.
The energy sector was the biggest draw with 34 investments worth 2.14 billion
dollars while IT and ITeS with 79 investments worth 696 million dollars topped in
terms of volume, said The Associated Chambers of Commerce and Industry of
India (ASSOCHAM).
During 2010, Financial Services Sector has been the 2nd most favourite sector of
Private Equity Investors during 2005 to 2010.
Information Technology, Consumer discretionary and Financial are the favourite
sectors among the Venture Capital Investors in 2010.
Following several years when exit volumes were low relative to the number of
new deals being done, 2010 was a record year. PE funds unwound positions in 120
companies last year, taking in US$5.3 billion.
Buyback was the preferred route last year with deals worth 1.7 billion dollars. The
next preferred routes were open market (1.5 billion dollars) and M&As (1.2
billion dollars).
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PRIVATE EQUITY INVESTMENT TRENDS
The remarkable economic boom of India during the early 2000s opened up many
opportunities for Private Equity (PE) Investors in the Indian market. From 2003 to the
first half of 2008, PE investors were flushed with funds due to low interest rates,
favorable liquidity conditions and growing equity markets in the developed world. India
today is among the more attractive investment destinations globally, driven by a
combination of strong economic growth, an improving regulatory environment and
favorable demographics. As India continues on its rapid growth path, several large
potential investment sectors such as financial services, infrastructure and domestic
consumption offer significant opportunities for PE investor. India is generally considered
a must have destination for foreign institutional and PE funds, who recognize the
potential of Indian Companies to generate high returns leveraging on the countrys
economic growth. PE investors have played a significant role in the development of
several sectors in India over the past decade eg Telecom, Healthcare, Technology, Retail,
Education etc. PE investments have grown from US$ 2.0 bn in 2005 to US$ 19 bn in
2007. Thereafter, investment value fell to around US$6.2 bn in 2010 registering a CAGR
of 25% over the last six years.
Based on experience It is clear that the PE route has severalbenefits if the right PE is chosen for the value addition and the chemistry between the
entrepreneur and the investor works well.
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PRIVATE EQUITY:INVESTMENT TRENDS
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PRIVATE EQUITY: SECTOR TRENDS
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KEY ISSUES IN THE PE INDUSTRY
Indias PE and VC industry is far from reaching its full potential. The biggest
barrier holding it back is lack of regulatory support. Indian policymakers still do
not regard PE and VC as a distinct asset class, nor have they given sufficient
attention to creating a regulatory environment more conducive to the industrys
growth.
The Restrictive regulations which exist also are becoming the biggest hurdle for
PE investors operating in India and more specifically domestic funds. The industry
needs serious cohesive reforms from the decade old regulations. In particular,
there is a need to look at tax policy on clear tax-pass through sector restrictions,
prohibitions on purchasing secondary shares and convertible instruments and
investments in non banking finance companies for SEBI registered funds.
Further, with frequent changes in foreign investment regulations, PE investors
are tending to spend more time with lawyers and accountants than their investee
companies just to enable even long term FDI investments.
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Private Equity in India needs to operate in the space where public markets are
unable to calibrate/map or price a business. Most of the success stories (both from
an investor and an investee perspective) have been around new sectors, business
models or sometimes entrepreneurs themselves. It is also important to recognize
that extraordinary returns will only come from solving difficult problems for such
companies / businessmen. The era of riding the wave of rising markets is well
behind us.
Expectations over asset valuations on the part of PE investors and company
owners need to come into closer alignment. The expectations mismatch showed up
in the Bain survey as the principal challenge the PE and VC industry faces, with
one-half of all respondents identifying it as the principal barrier to the industrys
growth (see Figure 2.4). A tough competitive environment for high-quality assets
has further driven up prices. With rare exceptions, the high price to-earnings
multiples Indias PE investors pay put India at a relative disadvantage to China
and other fast-growing emerging markets
Macroeconomic uncertainties: Indias growth story remains intact owing to
sound fundamentals, but Indias powerful economic engine has lately shown some
signs of strain. Mounting inflationary pressures and occasional friction between
Indias economic expansion agenda and political pressures risk introducing
distortions in the growth trajectory. Not only do these conditions have the
potential to suppress adjusted earnings ,but they could also derail PE deal making
in sectors where the regulatory direction is unclear. Sectors like infrastructure and
microfinance are particularly sensitive to these concerns. If left unaddressed,
investors worries about these barriers could slow fundraising in the long run, as
LPs could seek greener pastures in other markets.
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Post-deal collaboration between PE investors and promoters: Although there
have already been major changes on both sides, developing greater trust and
rapport between PE investors and entrepreneurs is a key area. For entrepreneurs,
the fruit of that closer collaboration would be to benefit from PE investors value -creation skills and experience. But even lacking a direct hand in helping to set
operational goals, PE owners can bring considerable financial sophistication to
their portfolio companies. They can also provide access to their networks of
relationships and experience derived from their work with companies across a
broad spectrum of industries. Furthermore, the two sides can work together to
strengthen corporate governance by making boards more professional, recruiting
more seasoned executive talent and sharing best practices in systems and
processes. Suboptimal corporate governance and a tendency on the part of some
entrepreneurs not to be fully forthcoming with a current or prospective PE partner
can hinder the value-creation potential in the PE investment
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CONCLUSION
With its solid performance in 2010, Indian PE has re-emerged in good shape from the
testing times of the global credit meltdown and subsequent economic retrenchment. Deal
activity has rebounded more quickly than in other Asia-Pacific markets, the exit markets
are healthier than ever and capital continues to pour into an expanding number of
domestic and international PE funds. While the period ahead looks bright, it remains to
be seen whether current conditions will prove to be a sturdy platform for sustained
growth. Certainly, the Indian growth story remains on track and continues to attract PE
interest. New opportunities in several under-penetrated sectors like infrastructure,
financial services, healthcare are waiting to be tapped .The number of domestic funds
continues to expand, GPs with experience gained in the global PE funds are spinning out
new breakout funds and promoters are warming up to the idea that PE partners are more
than just another source of capital and can help them achieve exceptional growth, way
beyond what the promoters can achieve alone.
Three regulatory changes, in particular, merit immediate attention. First, PE and VC
funds should be allowed to purchase at least 25 per cent of the capital of companies they
target for investment. Under current law the threshold is set at just 15 per cent. Second,
Pension funds are prohibited from PE and VC entirely. Steps that would progressively
allow them to participate would not only help mobilize capital but should enable the
institutional investors better to diversify their portfolios and increase their returns. Tax
simplification, is a third regulatory reform that would make a significant difference.
Indian private equity stands poised to enter its second major decade and far exceed the
remarkable growth and contributions to the development of Indias economy it made
during its first. For that to happen, attitudinal, behavioral and regulatory barriers will
need to be removed that prevent the industry from achieving its promising potential.
Promoters, policymakers and PE firms themselves have a major part to play in ensuring
that happens.