Shakeout imminent in PE space, but players cautiously optimistic on India

With over 500 private equity funds registered, and challenges looming large in the economy, a shakeout in the PE space is imminent, as players warn of ‘crash and burn’ for some. However, it’s not an entirely doomsday scenario, since some of the largest PE players still say that they are cautiously optimistic about the Indian market and say differentiated offerings will work and get rewarded in the future.

As the Indian PE space gets ready for some serious introspection, some of the top private equity players exchanged notes on the scenario and what would be the best recipe for the road ahead at the Wharton India Economic Forum in Mumbai on Monday.

The line-up was impressive: Manish Kejriwal, former Temasek India boss and now managing partner Kedaara Capital; Naveen Wadhera, India Country Head, TA Associates; Sandeep Naik, India Co-head, Apax Partners; and Nainesh Jaisingh, managing director, Standard Chartered Private Equity.

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The verdict: the time has come for a change in mindset on both sides. While PE players must realise that momentum-based investing will now be replaced by fundamentals-based investing, companies will increasingly have to understand that the capital market, despite the odds, will reward companies which keep a tight watch on costs and efficiency of operations in these times.

[caption id=“attachment_177030” align=“alignleft” width=“380” caption=“The next two years, some of these large PE players feel, could well be the golden years of PE despite the shakeout.Reuters”]  [/caption]

Limited Partners (LPs) are currently changing their view on Indian companies significantly - over the past few months - as Indonesia, Vietnam, Thailand and, of course, China offer alternatives and India’s policymakers grapple with challenges creating a policy paralysis. “Trying to tackle supply side inflation by jamming demand is not going to work,” the PE majors point out.

Those like Manish Kejriwal, who, in his Temasek avatar has funded several major Indian companies, among them ICICI Bank, are still bullish in general about the Indian scenario. “There are solid companies, promoters are shaky but want stability. So, it’s a great time for private equity. I feel the 2012 vintage of funding will be much more rewarding than the 2008 vintage,” explains Kejriwal.But the general consensus is that the current slowdown will differentiate the men from the boys, both for companies and for PEs.

Fund-raising will be tough, but funds once raised will fetch attractive returns in this market, says Kejriwal. Wadhera says earlier, the role of PE funds was not entirely understood by Indian companies, but that has significantly changed now. “It used to take ages to convince entrepreneurs once the term sheet was out,” he explains, “but that has now changed.” PE funding has helped create the Business Process Outsourcing (BPO) success story in India and companies like Suzlon and others, the PE majors point out. The mid-sized entrepreneurs had an alternate source of funding during the boom of 2006-07, though the euphoria of those days is well and truly over.

What does the future hold?

The next two years, some of these large PE players feel, could well be the golden years of PE despite the shakeout and the challenges as a focus on correct valuations, governance and people get priority and lessons are learnt from the bubbles of the past. There are several high growth companies outside Mumbai and Delhi where the spirit of entrepreneurship is alive and well and these companies will be the stories to watch for PE funds. “There are stories in cities like Nagpur, Jalgaon, Ahmedabad…,” that point out the top PE players. The current period will, therefore, be “the busiest, the craziest, but fun.”

Will PEs also look at distressed sales as the economy gets challenging for corporate India?

That, most PE players believe, is unlikely. The public sector banks work like safety nets for entrepreneurs who therefore have little fear of failure. “If there is trouble in the business and a fear of problems, it’s time for a cup of tea with the general manager of your public sector bank and all will be well. Corporate debt restructuring will solve the problem,” they point out.

Distress investing won’t work in India until there are clear foreclosure laws, greater governance and accountability. PE majors recall that even in 2008, when PE funds expected corporates to fail and hence were “literally running around, chequebooks in hand,” this cosy relationship between state-owned banks and entrepreneurs ensured there were hardly any deals done even when valuations were plummeting.

India, therefore, is an unique market. And the faster the PE investors realise it, the more profitable their engagement with the Indian market will be in the coming days. Going by the views of some of these top players, many of them are quick learners.