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INDIA IS EXPERIENCING a second wave of interest in private equity – the first was in the late 1990s – and activity in the sector should continue to gather strength. In the third quarter of 2005 several high-profile deals were agreed. Newbridge Capital invested $100 million in the holding company of the Sriram Group, a dominant player in truck financing. Local firm ICICI Ventures paid $59.8 million to buy out the refractory business of Associated Cement Companies. Media company Nimbus Communications and drug research company Perlecan Pharma each raised $45 million from private-equity investors.
These deals and various smaller ones helped swell the quarterly total of investments to $528 million, the highest ever for private equity in India.
Until recently deal flow was sedate, according to local research firm Venture Intelligence. Eight companies had raised a modest $90 million in the third quarter of 2004 and the initial prospects for this year did not seem promising. But the situation has turned around quickly. “The total value of private-equity and venture capital deals in the first nine months of this year has already crossed $1.2 billion,” says Venture Intelligence’s Arun Natarajan.
Fundamental to the expansion of private-equity activity has been growth in the Indian economy, which is expected to hit 7% in 2005 for the third year in succession. Behind this, in turn, lies the closure of the period of restructuring that Indian companies undertook in recent years – cutting costs and debt, and making their capital work harder. The years of pain had forced them to focus on efficiency rather than expansion. That phase is now over and Indian companies are hungry for growth capital. Private equity is one attractive possibility.
Global investors have been eager to put cash on the table. When GW Capital was on the road to raise its second fund for India, it hoped for $120 million. This seemed ambitious – GW’s first fund had raised a modest $35 million in 1999. Eventually, says GW’s Vishal Nevatia, the second fund got commitments for $220 million, but capped these at $150 million. Most of this came from institutional investors dipping into Indian private equity for the first time. ICICI Venture, has raised $1 billion. And Blackstone and Carlyle have said that they intend to invest $1 billion each in Indian companies.
When Blackstone was trying to break out of its traditional markets in Europe and the US, it looked at five possibilities: Brazil, China, India, Japan and Russia. It then asked consultants McKinsey & Co to identify the market with the most potential. The consultants told Blackstone that India was the best market to bet on. “There is a consensus within the private-equity community that economic growth in India is sustainable,” says Akhil Gupta, who heads Blackstone in India. “Despite the occasional rhetoric, all the major political groups in the country see the need for economic reforms.” He adds that while Blackstone will draw $1 billion from its various global funds to invest in India, there is no rigid limit. He has the freedom to raise a fund specifically for India in case the money runs out.
A learning process
The sheer amount involved makes the current rush different from the first wave of 1999 and 2000. There are other important differences – especially in the type of deals and the sort of companies attracting money. Venture’s Natarajan says this is part of a learning process that has evolved over five years. “US private-equity investors have realized that what works in the US might not necessarily work here,” he says.
In the first round, many of the funds that came into India sought to follow the classic Silicon Valley financing model. Those were the years of the tech bubble. Money poured into start-ups, largely software companies and dotcoms. Investors were looking for the next Netscape or Cisco Systems. Many investors talked in terms of investing in companies that resembled icebergs – they had a visible marketing tip in the US and employed a large unseen mass of low-cost technologists in India. Even later, when call centres and other outsourcing shops rose to prominence, the focus was on companies riding along what is still called the Indo-US corridor. There were some success stories, but a lot of money was burnt as well.
Since 2004, however, a new sort of deal has risen to prominence. Private equity rather than classical venture capital has become the dominant force. A large part of the investments in recent months has been in companies that are already listed on the stock market or are heading towards an IPO. Chrys Capital, a large domestic firm that once invested only in technology start-ups and dotcoms, has shifted its focus to listed companies in need of growth capital. The gold standard for such deals is Warburg Pincus’s highly successful investment in telecoms company Bharti Televentures. It picked up an 18% stake in two stages during 1999 and 2001. Of this, two-thirds was sold this year, making $1.1 billion on a $300 million investment.
Another change is that technology and outsourcing companies are no longer the dominant targets. Companies in such diverse areas as auto components, transport, finance, wine-making and the media have been able to attract private equity. “It is no longer about the India sourcing story alone. It is also about the India growth story now,” says Ranjit Shastri, managing director of PSI, which advises private-equity firms investing in India and has also invested in a few of its own venture capital deals.
There are two reasons for this shift towards companies servicing domestic demand. First, investors have realized that India is not merely a source of low-cost technology workers; it also has a vibrant domestic economy. Indians like to repeat something that Cisco chairman John Morgridge once said: “We came to India to save costs, stayed on for performance and are now investing in innovation.”