Private Equity in India
Rohit Chawdhry
22-May-07
There has been an explosion in private equity investment in India with equity fund investment more than trebling in the last 12 months. Rohit Chawdhry investigates.
The Indian economy has grown at an average of 8.5 percent over the last four years. This represents the highest four-year average growth in India's economic history. Even more critically, this growth has been led by the rise in investment rates (investment to GDP ratio). While data for Indian investment rates isn't available beyond 2005, related indicators on non-farm credit and corporate capital expenditure point to exceptionally high growth in investments. While non-farm credit has increased by 30 percent over the last two years, corporate capital expenditure has tripled. Indeed, various econometric estimates suggest that the investment rate for 2006 is likely to be in the range of 38-40 percent or closer to Chinese levels.
Behind this sudden acceleration of growth, there has been a spurt in M&A deal flow and also investments coming in from the private equity space. Take for instance M&A activity in India. In 2005, Indian firms were involved in 467 deals worth $18bn in total. But in 2006, the number of deals soared to 740, with a total value of $26bn. In total, overseas deals were worth $16bn in 2006 — and yet as recently as 2002, acquisitions by Indian groups in foreign countries were worth just $200m, according to Grant Thornton.
A similar growth pattern is evident in the private equity space as well. Chart1 documents the value and number of deals in Indian private equity space. Private equity investment in India shot up by over 230 per cent in 2006, thanks to the growing interest of equity funds in domestic companies and high returns from the stock markets there. Private equity fund investment in 2006 was $7.46 billion, up from $2.26 billion a year earlier, according to industry tracking firm Venture Intelligence. Average deals size increased considerably from US$ 8 million in 2002 to US$24 million in 2006.
Sectorally, Indian private equity deals were led by the technology sector with 87 deals for $1.47 billion in 2006, up from 46 deals for $434 million in 2005. Other industries that attracted private-equity attention were manufacturing (19% of deal flow), health care (8%), banking and financial services (10%). Mega-deals like Idea Cellular's (Telecom service provider) pre-IPO placement ($960 million) and the Kohlberg Kravis Roberts buyout of the Indian software unit of Flextronics International ($725 million) significantly bumped up the total for 2006, which doesn't include real estate deals.
Of the total private equity space, share of venture capital is on the rise. Table 1 given below provides a break-up of the total value of investments into early-stage investments (primarily by VCs) and late-stage investments and PIPEs (primarily by PEs). Even within early-stage investments, seed investments declined the most during 2000-2003 and have essentially remained negligible during 2004-2006. While a recent Ernst and Young Study suggests that Early & Mid Stage VCs are to be watched for future activity, it is the late stage and PIPEs which still constitute the bulk of the deal flow.
The same study concurs that the Indian early-stage investment is in a comeback mode, with the formation of new India-dedicated venture capital funds and an increasing focus among foreign venture capitalists on defining their India strategies. A new emphasis on IP driven products among Indian entrepreneurs and investors, along with announcements by Intel, Cisco, and Microsoft of significant development plans in India, suggest that the country is poised for a new wave of innovation.
The trend for the venture capital industry is particularly striking in terms of regional flows. According to the Ernst and Young Study, the anticipated shakeout in the venture capital industry through a healthy consolidation in the number of funds is underway. Between 2000 and 2006, the overall number of firms making investments in US companies declined by 49%. During the same period, the number of firms investing in European companies dropped by 52%, while the count of active investors in Israeli companies fell by 57%. Venture capital investments worldwide reached the level of US$31.3 billion. The United States, Canada, Europe, and Israel represent 93% of capital invested, while China and India account for the remainder.
The study further states that 2005 was a milestone year for venture capital in China: Chinese venture-backed companies launched a second wave of successful IPOs on the NASDAQ; China-dedicated funds raised US$4 billion in committed capital; foreign venture capitalists advanced the deployment of various operating models in the country; and the government revised regulations that had temporarily restricted the ability of foreign venture capital investors to exit investments in Chinese companies, clearing the way for continued foreign investment.
While the funds are focusing increasingly on India and China, raising country specific funds for the two is relatively difficult. It is challenging to convince investors while raising funds for an India-centric fund. It takes anywhere between 9 to 18 months to raise a $1 billion fund, the same time it would take for a global fund to raise about $5-6 billion. While investments for local PE funds vary from $25 million to $100 million, the foreign funds consider deals in the range of $80-200 million.
In fact, to get a share of the growing sub-$75 million investment range, New Bridge, the Indian investment arm of Texas Pacific Group, recently created TPG Ventures in India for investments with ticket size of $70 million or less. Even the scale of buyouts differ by a wide margin. While buyout specialists like Blackstone and Carlyle do deals in the range of $250-300 million, domestic PE players have done buyouts for $30-40 million.
It is apparent from the broader trends that the private equity space in India is only just warming up. Considering that the country received almost no Private Equity or Venture Capital funding a decade ago, the structural change has occurred ( in year 2003) not only in terms of growth but also in terms of funding received. The instruments to fund India's economic growth are several, from equity offerings to FCCBs; Private Equity is yet another route to fund and participate in this growth and it will likely take several years before this trend may peak out. This is just the start.
Rohit Chawdhry is a Portfolio Manager with Oxus Investments, New Delhi and a contributing writer to The Angel Investor. He can be reached at: rchawdhry@gmail.com
