Worrying about exits and margins, PE in India sees churn

Top executives in the private equity industry are being shown the door over the last couple of months as the fund houses struggle to find talented professionals who can manage funds and exit from them profitably rather than hiring expensive manpower for investment purposes only.

The biggest reason for this churn is inability to exit from projects due to glut of funds in India post 2006 and poor historical returns in a majority of cases. Unlike large funds like Carlyle, Blackstone, IDFC Private Equity and Baring, which typically look for low-risk, low-return investment opportunities, mid-sized funds invested in more risky projects expecting higher returns by assuming a strong growth environment. However, now even bigger firms are facing the heat since the capital which is provided by private equity funds has decreased substantially since last year.

While the former are axing jobs, the latter are recruiting specialist managers to handhold promoters and prepare portfolio companies for exits. According to this Economic Times report, PE funds like KKR, Baring Asia, Actis, Aditya Birla Private Equity, ASK Equity Fund, JPMorgan and Morgan Stanley are recruiting operating partners with credible record, diversified experience and strategic agility. This is because competition to invest has made valuations soar through the roof and hence harder to meet targets on returns.

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On Monday two of the most senior executives at 3i Group’s Indian operations left their full-time roles as the UK-listed private equity firm continues its company-wide restructuring. Managing partner Anil Ahuja and partner Girish Baliga both stepped down from their full-time roles to take on part-time advisory roles. Apax Partners lost Sandeep Naik a couple of months back, who was India co-head and part of the team that set up the firm’s local operations, to General Atlantic Partners, a Times of India report said.

_Firstpost_ had earlier pointed out that heads are rolling at the top levels of real estate private equity firms as a fallout of the negative returns from the investments made under them.

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[caption id=“attachment_614055” align=“alignleft” width=“380”] PE industry is bound to see consolidation after the deceleration that began in the second half of 2011[/caption]

“Soaring land prices and price-resistance from buyers began to narrow investors’ margins slowly, but significantly. While many PE funds postponed their plans to exit investments due to lower returns a few cash-rich ones are treading cautiously and avoiding investing anywhere as valuations have dropped,” the article said. ( Read more here) .

However, a sticky exit environment is no longer a real estate problem, but rather an industry-wide phenomenon with several foreign PE firms allocating less capital to India-specif funds or exiting from India altogether due to drying up of deal flows and thinning exit options.

Ernst and Young in a research report also noted that the domestic PE industry is bound to see consolidation after the deceleration that began in the second half of 2011. The same report also highlighted that there were no IPOs by PE-backed companies in the third quarter of 2012, and of the open market exits in the third quarter, PE firms could not even recover their initial investment in a majority of projects.

In 2012, former India head of Warburg Pincus, Rajesh Khamme, closed the fund raising of his firm Arka Capital after having failed to sell the India story to global investors. Canada-based fund SITQ, which entered India in 2007 with a corpus of $1.6 billion for investments in the real estate sector also wound up India operations after having failed to find investments at the right value. London-based Spinnaker Global, Eight Capital and Kubera Partners shut shop after being lured into the mega rush for private equity deals that peaked in 2007, when $17 billion of risk capital flowed into India.

“Investments by private equity players and venture capitalists in India are likely to be remain stagnant at 2012 levels this year as the industry is in a transition phase and as a result fund raising will be subdued, the report said. According to the report, total investment by PEs and VCs stood at $7.6 billion across 415 deals last year, which is a 21 percent decline in value terms against 2011.

It also maintained that exits and portfolio management would continue to attract significant focus this year. Data from Venture Intelligence also showed that PE investments declined 15 percent in 2-12 to Rs 48,885 crore.

Secondly, 2012 saw a revival in exits with value being closer to 2010 numbers of $5.30bn which was a record year for exits. There were 80 exit transactions worth $5.21bn in 2012, compared to 80 deals worth $2.68bn in 2011, according to this Economic Times report.

Earlier changes in tax and regulator created uncertainty for investors. Prime amongst such concerns was the applicability of General Anti Avoidance Rules (GAAR) which was announced as part of the Union Budget 2012 since as much as 40 percent of foreign direct investments in India is made through vehicles domiciled in Mauritius and applicability of GAAR would likely impact such structures. However, now that finance minister P Chidambaram has deferred GAAR till 2015, this year is likely to be more stable in terms of investment, though exits will continue to remain top priority.

As Vikram Utamsingh, the executive director and the head of private equity, KPMG India,notes in the Forbes article, “For the India PE market to show more exits, the IPO market must improve.”