India's demographic dividend - a mirage ?!

Reading this wonderful article in the mint on the lack of challenges in a typical middle-class kids' life was quite an eye opener to the risk in India's much anticipated demographic dividend. It is certainly something most of us who spent our childhood in the pre-liberalization era can relate to - cycle as the only known mode of transport, one channel on TV, no computer, no video games, no internet, no mobiles, no apartments and no playing indoor games.

Kids of this age are getting increasingly isolated and cushioned at the same society from the realities of the society. My friend who runs a pre-school at Gurgaon was commenting about how a lot many kids in cities have never seen the outside except through the window of an air conditioned car. This might be great news for kids' TV channels, makers of video games and eatables but is not great news for the society (no, no "no sour grapes" syndrome here- coming from someone from the previous generation). I am now starting to find kids of house-maids and autorickshaw drivers to be much smarter on the street - for eg., buying vegetables, running errands, managing minor tussles on the street or for that matter even helping out their parents by earning a buck or two.



Every country at some point of time went through this stage of increasing luxury and isolation of children (Nordic countries and US in the 1970s) and it has remarkable repercussions like gun/drug/LSD culture, increasing suicides, violence. A spotless scrubbing of all grey/dark zones of life leads to an aimless drifting with most of them taking to "taboos" simply because those they are the only challenges for them to surmount.

Of course, it is just as likely that a few of these guys will turn out to be the Bill Gates-es and Michael Phelps-es, provided they have their value systems in place. Of course, that is contingent on parents and the time and effort they spend instilling basic values in place and giving kids a check of the societal realities. I am no doomsayer, but it is'nt going to be a rollercoaster as most of us imagine it to be.

~Varadha
(varadha.r1@gmail.com)

Conducting an effective board meeting

A news article in Mint this week (which is definitely one of the better newspapers in my opinion - one of the few that has insights rather than old fashioned sensationalized reporting) carried an article about the Top 10 trends in VC/PE industry. Very appropriate and in with the times and not too dissimilar to my earlier post.

Keeping in mind the anthropology of Indians (overpromise and under deliver) and having lived through more than 30 odd board meetings, there are a few insights I have developed on what makes for an effective board meeting.

A board meeting ( or for that matter a performance review meeting) is meant to be a plan for the medium term (3 months - 1 year) and to that extent is forward looking. But most board meetings start off as a prolonged post mortem - what's worse is the collective wisdom of all people in the room is channelized, not into inferring from the results, but in doing the autopsy. That is because most people glean through the numbers for the first time during the board meeting.

There are very useful post on this by Brad Feld and also by Guy Kawasaki which make for useful reading in a different cultural context.



Advance preparation : Most board meetings meander for the first one hour because people are turning over pages of the board pack for the first time and making notes and asking for clarifications on minutiae (what USD rate have you used, what is our accounting policy when it comes to product development costs etc.) which are simply inane and are a drain on everyone's time. Advance preparation by the company and also by the board members helps roll back at least an hour of everyone's time (which should be worth a few tens of thousands of dollars in any case).

Have the CEO/keyman drive the show: This is really the way it needs to be driven in India where legacy/loyalty/"outsider-insider" issues tend to fire up the NIH (Not Invented Here) syndrome. ("Oh no, it is too difficult to try and it does not work in this case"). However, it is important to work on the CEO's mind and ensure that he develops the flexibility and openness of mind to listen to others and try out new ideas. Bonding with the rest of the team over lunch/breakfast informally and drawing on their perspectives and views (on the company, industry, new ideas, immediate priorities etc.) is a necessary add-on to complete this piece.

No open praises: Indians by their very nature tend to have a very high opinion of themselves. By patting someone (unless the company has re-defined all expectations), you are asking for even more complacency down the line. You would expect senior management of any company to be self-driven and not look for external stimuli to propel them on. Would'nt you ?

Lay down immediate priorities: Ah, this more often than not, is the single biggest bummer that makes the meeting feel like a matinee show. Too often ideas that are discussed are chimerical (5-10 years ahead) or are too far off the organization's skill sets (for eg., if discussing about customer behaviour tracking in a retail chain). This is where the succeeding point comes into play - priorities have to get converted into actionables that are tracked meeting after meeting;

If you the company has a vision to serve a million customers in 5 years, a 100,000 next quarter surely won't hurt. So what needs to be done to serve 100,000 customers next quarter - what are the implications for sales and distribution, product, pricing, promotions, marketing, manufacturing, supply chain and inventory. If this does not get translated into actionables and is followed up meticulously, the vision will remain, not surprisingly, a vision forever.

Convert agreed upon priorities into action items: "what gets monitored truly gets done" - Need I say more ?

Have a great new year ahead and this year should be sure fun to watch for the PE industry.

~varadha.r1@gmail.com

Aftermath of a deal - Managing the monkey on your back

In continuation of the earlier post, I will try and cover some of my perspectives in terms of what entrepreneur's management of the investor.

• Inducting the investor into the organization:Too often, the promoter forgets that the investor means nothing to the rest of the people in the organization. These are precisely the people who would have to interact with the investor in minutiae like financial reporting, compliance, business metrices, MIS-es etc. I have often found that a town hall meeting equivalent (post the deal) helps induct the investor into the organizational maze and helps in setting a context for what is to follow.
• Creating an atmosphere of credibility and transparency: I have come across promoters who often "massage numbers" before sending them out to investor or simply turn a blind eye to the investor (to the point of exasperation). While this might provide for gratification in the short term, it is important to understand that one needs the investor's buy-in in the medium term (for raising further capital, key strategic decisions etc.) and an acrimonious relationship does no good to either. I have seem promoters who were known for their utter disdain come back to the investor eating humble pie. What goes round surely comes around !
  
• Managing expectations: Post the money exchanging hands, there is no time for bravado. Remember, the investor is as much a part of the boat (sinking or flourishing ?!) and he has as much stake in the upside. If there is a problem, acknowledge it - often a collective reflection (with the benefit of an outsider's perspective thrown in) can help devise simple solutions. The later this happens, the tougher it is to get out of the maze.
  
• Using an investor as a sounding board: I have seen too few Indian promoters push their investors - remember that an investor can bring value to progressive steps like baking in market intelligence/ competitor information, recruiting senior management, instituting processes and systems, because they have the benefit of a wider network and a larger perspective across businesses. Very few boards make everyone of the board members make a case for the value they added at the end of each year (Ala Infosys). A board in which everyone contributes often works wonders (as the investor realizes the rigours of the business and the entrepreneur realizes the expectations of the investor) in driving change towards a collective vision. I recently came across an entrepreneur who wanted me to help him out with the detailing of an overseas acquisition - the risks, valuation, deal and pay-out structure - that is a progressive step and that is the way it is meant to be !
  

Ahhh, all this serious talk is getting too boring. Let us talk about something a little more interesting next week.

~Varadha
(varadha.r1@gmail.com)
+91-9940670064

The morning after - aftermath of a deal

Great - you've executed the deal you have always longed for. What do you do next ? One of the most important things I have observed (with my limited perception) is that the way in which the handshake is executed post the money exchanging hands is one of the key determinants of value creation. It determines if you will wake up with a hang over not worth remembering or if it will be a relationship worth cherishing.

Often the counterparts get drained out by the time money changes hands that there is often a period of quietude following the transfer of money. So the entrepreneur at his end, often thinks it is free money he has got and the fund manager thinks this fresh money would be the elixir to all of the company's problems - past, present and future. Sounds familiar ? Nothing could be further from the truth.

Call this a post-nuptial, if you will. A robust marriage, after all, does call for a set of rules that both of the counter parties promise to abide by. Often, the set of rules (said and unsaid) and the implicit, taciturn understanding that is developed during this period are the most critical to long term sustenance.



In a two part series, let us look at some of the thins a fund manager has to make clear at the beginning of a relationship.

• Creating credibility in the minds of the promoter: Small details like returning phone calls, responding to mails, developing a rapport with the rest of the management team, taking the initiative to understand the softer aspects of the organization go a long way in making the promoter more accommodating and lessening his distrust.
• Exercising influence: The smartest fund managers are the ones who seem to balance the drive towards results with the team building/interpersonal skills. More often than not, fund managers take one of the two extreme stances - throw a fit during meetings on the numbers or do not raise any questions at all (irrespective of the performance !). This simply cannot be !
• Understand the business in detail: Adding value to a portfolio company is not about discovering new markets, new M & A opportunities (the promoter is in the field and he should have a ring side view after all) but is to help facilitate a path towards putting together the building blocks that help you get there. For eg., it is about watching out for the risks that you need to watch out for in an M & A, how do you transition someone in senior management out etc. rather than identifying M & A targets or
• Explaining the requirements in detail: Do you need monthly numbers or quarterly numbers ? How frequently would you want to do a review ? How deep an insight would you want to get into the business ? Would you want to talk to the rest of the senior management team also on a periodic basis ? Would you exercise your consent rights on every single major capex (land, building purchase) or would you be alright okaying them post facto in a quarterly board meeting ?
• Assimilating yourself into the organization: One perspective (that of the promoter's) is never going to give you adequate insights into the organization or the market. For you to get a well rounded perspective, you need to be on first name terms with at least 4-5 of the senior management (and ensure they feel comfortable sharing any controversial views/insights/perspectives). One can never underestimate the importance of this and this helps envisage problems ahead of time.
• Driving change early: There is never a better chance to drive change (ranging from to be completed post the deal to process changes to augmentation of senior management) than the early days of marriage. With passage of time, change becomes that much more difficult to enforce - the later you do it, the more time it takes (because your tolerance level increases as well 'coz you are used to it anyway!)

In the next part, I will talk about how an entrepreneur needs to manage the early days of a relationship from his side.

~Varadha
(varadha.r1@gmail.com)
+91-9940670064

Spoilsports of a professional relationship

Happy to note that there has been an improvement in reception to this blog and the ideas of yours truly. You may have noticed an E-mail feed on this page - you can subscribe to this feed should you wish to make life easier for yourself. Was also able to get quite a few ideas during the vccircle conference in Chennai.

Cutting to the chase, I guess anyone and everyone these days has had experience of people who do not pick up phone calls (nor return them) and are always blowing hot/blowing cold about key decisions. Had a recent experience last week that got me thinking on some of the things that kill the trust and respect in a relationship.

Btb, I do not mean to be hypo-critical - I know I may have done a few of this myself :(- . This is as much a lesson to me.


Communication: How many times have we come across people who do not pick up calls or return phone calls ? One phone call not returned might be a case of poor memory or a tight schedule but consistently skirting calls does not send the right message to the counter party. Is this a company/entrepreneur you want to work with at all ? If he/she behaves like this now, how would you deal with him post money exchanging hands ? A honourable exception to this breed seems to be i-bankers who have made this incommunicado posturing into an art !

Clarity of thought: I have personally met a lot of promoters who are happy to say that "a lot of investors/confidantes/advisors/bankers feel that my business model needs to be tweaked because it can unlock better value for me " (read that as higher valuation). I, for one is from an old school of thought and believe that an entrepreneur has to believe in himself more than everyone else and should eliminate all noise (investors are noise too !!) unless there is a fundamentally strong rationale underlying the change. If you do not believe in the idea, who else will ?

Lack of humility: My favourite put-offs are those who humiliate their sub-ordinates in front of everyone, treat office boys with contempt and their guests guests with indifference (how about throwing the visiting card on the table for you to pick up, dearie ?!) ,. Other pet peeves include people who ascribe all success to themselves, speaking ill of all of their competitors ("that guy is a crook and knows the minister", "he does not know how to run a viable business"). Subtle as these might seem, these are signs hard not to miss. An investor of course has to remember that these are guys who have to keep thousands of analysts happy at a later date.

Managing expectations: Right from the time of meeting to the order pipeline (that perpetually seems to be on the way!) to revenue to profit numbers, the smart guys are those who think long term. They tend to avoid evasive/overoptimistic replies that often damage their credibility in the long term. A deal takes 3-6 months to consummate, so why overstate numbers today if the truth will be out soon ?

I guess dealing with simpler, easy to understand people makes investors' (or an entrepreneur's ) lives easier than having to double guess the intent on the other side all the time. Doesn't it ?


~Varadha
(varadha.r1@gmail.com)
+91 9940670064

J-Curve and the art of "Indian valuations"

Amidst the usual riff-raff of "Oh ! Dealflow has started thawing but so have valuation expectations, if so, even more", I thought it is best to discuss the concept of "Indian Valuations" since they always seem far removed from the rest of the world in terms of logic (or the lack of it). Ask anyone in the primary/secondary markets and they would tell you the same thing - India is always an expensive market when compared to the rest of the emerging markets as well.

In the PE world, more than ever, valuations seem to be dependent on ever increasing projections with an explosive growth budgeted for in the first 12-18 months post fund infusion and a steady 40-50% growth (?!) post that. However, IMHO, reality is far removed and completely counter-intuitive. Most companies I have seen have slow build-up of momentum and the torrent comes gushing out only after 2-3 years (what is known in technical parlance as the J-Curve). Why ?

• Transition of "Vision" and mindset: This is singularly the biggest roadblock to the immediate blossoming of an organization. Most often, PE deals take so long that promoters want to get into operations immediately thereafter and often a gush of liquidity is just the right medicine they need to go after the product/client/business they have always dreamt of. But what next ?
• Organizational build-up: Most entrepreneurs have always bootstrapped during their formative years - so MBAs and industry veterans were always given a pass because they cost too much. Even if fresh money has come in, it takes anywhere between 3-6 months to staff the key positions and another 3-6 months for the new recruits to be brought to speed to deliver.
• Market delays: Governmental clearances for the new land acquisition pending ? MoU submitted with vendors/customers yet to translate into commercials ? Temporary loss of demand for the product/service ? Undercutting by competitors ? You name it and it happens
• Business learning curve: Going after $ 5 mn contracts is not the same as going after $ 50 mn contracts. You may the right people but the smartest people still take time to understand nuances of what the customer wants and how the end product needs to be packaged/presented.
• Cultural/integration issues:In most cases, PE funds, being the "progressive animals" they are, induct fresh, young, smart talent who often come at better designations and higher salaries. This tends to cause a cultural rift within the organization with the old folk resenting this treatment. This leads to involuntary attrition/execution roadblocks within the organization.

As thumb rule, my experience has been that projections tend to be put off by one year in the best of teams and by 2-3 years at the other end. So, there goes the effect of J-Curve. Needless to say, the smarter PE funds have started baking it into their projections and have tended to adjust their valuations accordingly.


Regards
Varadha
(varadha.r1@gmail.com)
+91-9940670064

Due diligence in an Indian context - what to watch out for ?

Before I begin, I must say I have been quite happy with the response I have been getting on the blog from the handful of people who have been following it. There has been overwhelming criticism that I am painting a gloomy picture of PE in India and so, here goes some effort towards me cheering this up.


The Due diligence (did I hear someone say "Ouch ! that is so boring - we are already convinced about the business case. That is best left to a big 4 firm to submit a report") is one of the most overlooked aspects of deal making, especially in India where entanglements (into other businesses, either of the promoter or his close members/confidantes) are a big hurdle to deal with apart from the usual E's - Egos, Emotions and Expectations (Courtesy : Venkat of Veda Corporate Advisors, arguably one of the respected names in the mid-market deal making space in India)

For most of us, Due Diligence is a drab process where you are focussed on vetting the internal processes and financials of the company to see if they stand up to the image they have been projecting thus far. However, there are a few softer aspects that go beyond the ambit of what an external DD specialist is capable of (which have been learnt the hard way). So here goes :





Promoter:

• Commitment :Will his/her mind be fully into this business post the transaction ? If not, whose eyes are we going to be looking at ?
• Ambition :Is the promoter ambitious and willing to pull out all stops to make this a success ? This, to go by anecdotal evidence, it seems is the singular reason why some investments go the entire distance and most fall by the wayside.
  
• Professionalism :Are there any familial pulls/strings that one needs to be aware of ? For eg., feuding brothers, an acrimonious marriage with a wife who is also a business partner? Does he realize that he has to forgo a lot of his intertwining to scale this up ?
  
• Openness to ideas:A lot of promoters having been used to a dictatorial (and that is not necessarily bad in a small, growing company)
  
• Hunger for value creation: While one might think ambition should be intertwined with hunger for value creation, a small sect of promoters do not realize that there are other stakeholders - investors, employees, management who also have to reap the rewards of all the hard work that went in. There are a business groups which seem to live by the credo " Upside is all mine, downside is all the investor's".
  
• Focus & Predictability of behaviour: A lot of entrepreneurs who I have personally worked with seem to get distracted after a while (either because they are bored or get turned on by other business opportunities). In their quest for experimenting with the new, they get into risky moves - diversification, punting big, pursuit of self-glory etc.. For investors though, these are strict "no-nos"
  

Organization

• Competence:Is the rest of the organization upto scratch in terms of delivering the results envisaged for the company ? Or has the promoter surrounded himself with sycophants whose field of vision is limited to doing the best that their boss wants them to do.
• Financial checks and balances: How strong is the CFO ? Can he act as a check and balance on strategic issues - can he put the company ahead of the promoter should the situation arise ? Can he veto an unrelated diversification ? A large number of companies in India still have CFOs who are at best rubber stamps resulting in disastrous situations post the investment
• Vision and aspirations of the second line: Are the second line of management also seeing an upside in their own careers ? Or are they looking at this round of funding as one that facilitates a cushier lifestyle?
  

The above I guess is pretty much commonsense for someone who has been in this business for long. But, exactly how does one answer the above ? The simple answer is in "freeing one's mind' - Use your network to tap into market feedback from customers, vendors, peers, friends of promoter, ex-employees. I have personally found a lot of useful insights about the promoter by talking to customers, ex-employees and vendors (who are the only ones who have the benefit of "inside out" and "outside in' knowledge" - a rare but useful combination to asses a person/organization). They are the best ones to answer the following questions:

• Behaviour: How has this promoter been in the past ? Has past success changed him ? Is he committed to his employees ?
• Values:How strong are his value systems ? Does he live by scruples ? Is he keeping his customers happy ?
• Perceptiveness: Is he perceptive to market feedback ? Is he aware of changing market dynamics and actioning on them ahead of times ?
  
• Capability/competence :Do employees/vendors look upto him ? Do they think he is amongst the best there is in the industry ?

As always, happy to take any feedback. Do mail me or post your comment on the blog.

~Varadha
(varadha.r1@gmail.com)
+91-9940670064

Anthropology of Indian GPs

One of the nicer things of being a part of a "cross-border business" is that it gives you perspectives on people from different cultures and backgrounds. This has led yours truly developing a passing interest in the anthropological characteristics of the Indian GPs and the similarities (or the lack of it) with his Western counterpart.






Reading "The Argumentative Indian" by amartya Sen only strengthened my conviction about how Indians seem to be so different from the rest of the world. So, here goes my observations on the flop side:


Wildly optimism: If ever there was an olympic sport on Reckless optimism, I am sure Indians would win it hands down. This trend seems even more so prevalent amongst every stakeholders. when one takes stake in the long term, it is not uncommon to find every single parameter ranging from time to completion, projections, valuations, number of issues being stated on other side of caution by a factor of at least 2 (and in the worst cases 10). If an Indian told you he would meet you in 30 minutes, 45 minutes is par for the course, 60 minutes acceptable and 90 minutes is when you should begin to SMS as a courtesy (saying "Running late. will be there in 10 minutes." when you are at least 30 minutes away from the destination).
This seems to stretch across all projections - case in point,being the controversy around completion of commonwealth games.

A lot of GPs too seem to have this DNA firmly baked in - I have heard of at least one GP talking about plans to go IPO for a company that apparently was on the verge of bankruptcy.



Joy of debate/Equating time with work: Ask any LP visiting India what his favourite irritant is and he would complain about all meetings in Indian running way behind schedule. Right from LP conferences to review meetings, if you are not getting exasperated by the amount of information (most irrelevant and harmless ! as in Douglas Adams' speak) by the length of the day, you certainly are not in India. Even in several offices I know of, people equate hauling themselves ass in their chairs all day to the equivalent of working hard. Ask what was accomplished and you will get everything but the answer.

Tardiness and lack of attention to detail: Somewhere down the line the Gandhian philosophy of "Simple living - big thinking" seem to have been equated with tardiness. Our attention to detail and respect for other people's lives and times seem to be low and could certainly do with a lot more attention. A lot of reports I am told are mere improvisations and "word smithing" over the previous period's reports keeping in line with our credo of "recyling" - it looks like we have misunderstood it quite a lot !

Did I miss anything ? Well, it does not look so - not certainly after the conversations I have had with my counterparts in other PE funds - we are all in the same "slowboat".

~Varadha
(varadha.r1@gmail.com)

GPs and the art of progressive reporting

If one were to go back to the fundamental reasons for the blossoming of private equity as an industry, the tightened regulations that were the aftermath of the Enron/worldcom tragedy would certainly be paramount. The other day I ran into someone who runs a small cap company in NYSE (which has a Mcap of < $ 300 mn). He estimated the direct cost of reporting/compliance alone to be in excess of $ 4-5 million. Anyone, of course, would tell you the level of reporting sophistication in India (barring a few like Infosys) is still some way off the international standards.

Ask any GP in India, and one of the foremost things he would talk about is how his PE fund has been working with the promoters of portfolio companies to improve governance, compliance and sophistication of reporting. However, unlike in the West, where the industry has evolved to a level where reporting standards amongst PE firms have been templatized (also partly due to the fact that most of the portfolio companies are public companies being taken private and hence are used to a much higher reporting standard in any case),

This in particular is a problem for LPs, (like Fund of Funds, Endowments and the likes) who I presume must have uniform reporting standards, irrespective of their geographical allocation. I have of course, met a couple of "Indian LPs" and they seem to be far more forgiving in their ask for information (which is not necessarily a good thing in the long term).

This brings me to the following questions :

• Can there be different reporting standards for different geographies in PE ?
• How does one have a smooth upgrade in the quality of reporting without being too stifling at the beginning and too lax in the end ?
• How do you capture “significant, material intangibles” in a templatized form ? For eg., expected attrition amongst senior management, materiality of pending law suits, forex risk etc.

It would be interesting to hear the voices of a few LPs on this.

~Varadha

Mix of Operational Vs Financial Acumen in a PE fund

This is a topic that has been close to my heart. If you were coaching an athlete to win an Olympic medal, which would be more critical ? Honing at the technique or the mind. What is more important in a product ? Form or function ? Packaging or substance ? Obviously, there are no easy answers for these.

During the glory days of 2006 or 2007, there was very little attention paid to "portfolio management" as a science, not just in India, but across the world. I recently walked into a couple of investment bankers who said the only division that is making money in the Western markets these days is the "Work-out" division that looks after restructuring and divesting LBO assets which have run into trouble.

With these lessons starting to sink in, a larger chunk of the investing community is starting to pay heed to the idea of having in-house personnel who have significant operating experience. I would tend to ascribe the following objectives to this :

• Identifying market trends ahead of time and helping build organizational competence towards tapping opportunities that succeed the same
  
• Facilitating Organizational evolution & unravelling vision
  
• Sounding board for planning and monitoring execution - eg., help draw up KRAs, performance monitors

The above brings me to the point - "therefore, what ?". So what skill sets would be critical in a role similar to the aforesaid. There are the obvious trade-offs :

• Ability to influence quiet, progressive change: Driving through the middle path of change management is an extremely tricky affair that requires patience to wade through resistant waters (in the form of organizational inertia - "if it ain't broke, why fix it ?"), getting emotional buy-in from all stakeholders (getting logical buy-in is often easy but temporal) and relentless focus to drive through to the end.
  
• Flexible yet strong character and personality that can take on "different roles" at different points of time: Often people take one role - that of an insider or an outsider and stick to it through a long time. Being a mentor to a SME business requires you to slip in and out of multiple shoes much like parenting a child - forgiving when mistakes are done the first time, stern when an important message needs to be conveyed, appreciative when progress is swift and exacting when it comes to monitoring.
  
• Ability to understand "key tactical levers" of the business: I would like to lay stress on the word "key levers"- it is not the operational levers, it is not the strategic levers (which are often easy to spot as an outsider). It is a cocktail of understanding and appreciating the organizational DNA with an acute understanding of the market minutiae (in terms of how opportunities in the market can be tapped)
  
• Bias for action: Jack Welch said "A well-executed half idea is infinitely better than a poorly executed whole idea". Period. The sooner you get to the market, the better your chances are.
  

So what would you look for in a person like this ? pedigree ? prior entrepreneurial experience ? prior professional experience ? thought leadership ? out of box thinking ? process orientation ? Financial caution ?. What would be roles that fit this cause best ?

Will try and address this in a consequent post. Would love to hear anyone's views on the above.

~Varadha

PE in India - time for consolidation

It has truly been a long time since I posted. I have avowed to myself that I shall post at least once a week. It has been a truly enriching experience over the last three years being a part of what hopefully, is still a sunrise (and not enroute to a sunset !) industry.

Wanted to bounce off a thought that has been gnawing my mind for the last six months. Having met different constituents of this spectrum - LPs, Investment Bankers, Promoters and fellow PE funds, I tend to believe that the PE industry in India is on the cusp of a large shake-out. Listed below are top reasons why :

Gap in skill sets : There are just way too many funds focussed on "passive capital". I would have thought this would have changed post the financial melt down. Truth is, the ones who missed the India bus earlier, seem to have gotten even more aggressive in deploying cash. All my dear investment banking contacts tell me that with all the free money sloshing around in the Western markets getting directed to "Emerging Markets" (what else !). I seriously think the time has come for BRICS -II. Goldman, where art thou ? May be a SMAT (Srilanka, Mexico, Argentina, Taiwan). Takers, anyone ?

Lack of focus/segmentation: I am yet to see more than 6-8 funds that pridethemselves on their focus - geography, verticals or deal types (venture, growth, buy-out, restructuring). Everyone's favourite sector seems education, healthcare and all else where India's per capita consumption is woeful. Where are the proprietary deal flows, where is the ability to construct a deal (and not study an IM for its pros and cons), where is the network of relationships ?


Impending battle for exits: This is going to be fun to watch. All the excesses from 2007 and 2008 have resulted in PE invested companies being valued at astronomical valuations (favourite whipping boys being retail, education, aviation where there is no evident route to a profitable scale-up with the exception of a honourable few). Case in point, a company that was invested into by a PE fund was valued at Rs. X in Jan '09 when the PE fund sold their stake to a counterpart. Now, I hear the going value is Rs. 2 X with hardly a change in fundamentals. Basic laws of economics point to the fact that in any free market arbitrage opportunities vanish fairly quickly. Hopefully, it would happen here as well.


Forward integration by LPs: if your friendly Mutual Fund told you that he did nothing with your money all year long and knocks off 2% off the corpus as ostensible "management fee", would'nt you be mad at him ? Ironically in an immature market like India, it does not take one too much of an effort to hire a couple of smart traders and generate a return of 15-20% from public markets. If so, what is the big deal in getting a 25% IRR from an illiquid asset class over a 5-7 year time period.

Ever increasing fund sizes : Funds are doubling their corpus every three years. Surely, the economy is not growing at 25% to justify doubling of deal sizes in the same segment(s) all else being equal; or is it ? This game has to stop - I have not seen Mutual Funds being proud of their corpuses - as far as I remember, they have been proud of their performance (historical returns). Why should it be any differnet in the PE industry.

Would love to read from others their thoughts and moot points.

~Varadha

Build Vs Flip

One of the things that we contend with, apart from valuations and the long term viability of the fundamental business concept is the larger question as to what our exit time frame would be. While there have been examples of a Suzlon and a Bharti or an Infosys, most entrepreneurs, coming from the typical middle class background would like to see cash earlier than later at the end of the day and hence prefer to sell out once they are able to establish their niche and prove themselves.

Even in the Silicon VC where Indians have done so well, I tend to believe that Indians seem to have a lot more penchant for being serial entrepreneurs- viz., flip, realize value and then re-start far more than other people from other domicilities. This is of particular interest and I would ascribe this to the following reasons (may not right and I am happy to welcome suggestions).


Social milieu in India : The culture that we have all grown up is a lot different from what is there in the west. While there may be urban pockets that may look at a designation like photographer for playboy or an art director or a freelance archaeologist without too much stigma, the truth is the rest of India is obsessed with doing the right things - which means going to the US if in AP, being an engineer if in TN, or running a dhaba in the west if in Punjab. In this case, once an entrepreneur figures out that he has generated genuine value, he would rather sell and do the right thing than carry the baggage of "This guy got too greedy and hence lost his entire fortune", however so infinitesimal, the chances of that happening may be.

This is what makes people like a NRN or a Azim Premji all the more admirable. They had the gumption and courage to stick it out when it was fashionable for Indians to sell out.

Financial support & physical infrastructure in India : I used to think most of it was academic stuff till I realized this was a genuine, on the ground problem that existed till recently. Chew on these two examples:

Example # 1 : A company that I know very well which clocks $ 100 mn sales has been having problem getting a bank loan of $ 2 mn ! Why ? Simply because the company has no tangible assets which fit in to the dictionary meaning of the world "Collateral " or "fallback" as described by the bank. And the fact that our dear friend central banker wants banks to curb their lending has meant that banks are happier shaving off their exposure to sectors which are non-old economy and are happier still lending at sub-PLR rates to large business conglomerates with the right political and financial connections.

Example # 2 :A company that makes automotive components and whose products have been widely acclaimed by its customers is looking at selling out because its founders simply can't get their arms around the logistics issues that keep cropping out in shipping its products to a Dresden or a Ontario. It apparently takes them a week to get the cargo cleared from our shores vis-a-vis the 10 days' time it takes for the cargo to reach the production line from there on ! And this if you run a well-oiled machinery (pun intended !). Reasons range from overcrowding at container ports, lack of berthing space for ships, rebellious labour unions to lack of availability of continuous power. Is he justified in selling out ? Well, I guess so.


So what could be done? I am frankly frustrated at doing a rhetoric that would be more apt for a CII Chairman. It is simple, straightforward and frankly common sense for anyone who understands business.

Our societal values & intellectual horsepower:

It is a well understood fact that Indians tend to do extremely well at highly skilled, intellect driven jobs and display a fair amount of loyalty. I believe that we Indians, inspite of us not having the best of perspectives to promote macro economic thinking, tend to be extremely good at spotting new opportunities (given the fact that we are a free democracy that gives rise to debate, whether healthy or otherwise, there is no stopping the new perspectives that come in every day) and that explains the surfeit of good economists we have had over the years - Montek Singh, Raghuram Rajan, Amartya Sen and the consequent downstream rub-off it has had in the rest of us. As Amartya Sen would say, as a society we have always focussed a lot more than the others on intellectual debate, philosophy and the high think.

When you have a background like that, it becomes difficult not to peep into the future and if I were an entrepreneur, I certainly would look at the opportunity cost of continuing with the current business vis-a-vis scaling up the new opportunity from concept and would press ahead with the latter, if I were convinced that it was a magnitude different.

All of the above are made difficult from the fact these tend to be uniquely different for each entrepreneur and depend entirely on his values, perspectives and risk appetite.


I found an interesting post on this and am reproducing the relevant excerpt verbatim

• At the end of the day, it comes down to two things. First, what is your appetite for calculated risk - in finance there is a direct correlation to risk and reward. If you want the big payday, you are not going to get it investing in risk-free bonds. Secondly, it comes down to your passion. Building a company is about more than just the money as money can be fleeting - remember the bubble, it sent a lot of carpetbaggers home. The ones who have made the big payday have focused on a broader and bigger goal, building an insanely great product or service for their customers and keeping them incredibly happy. As you do the right thing for your customers, you will do right for your investors, your employees, and ultimately yourself.

Any thoughts on this, anyone ?

~Varadha

Seriesly funding..

Of late, there have been a surfeit of proposals floating around in the market it seems like the interest of the promoters is only play the "greater fools" game, viz., raise Series A at x, raise series B at 5x and Series C at 10x and hopefully divest some stake along the way and fulfil your dreams.

Companies that have a handful of revenues expecting valuations by the bucketful. Of late, I tend to believe that with so much money sloshing around and the eyes of the world on India has let to a new breed of entrepreneur - the one who flips and then sells.

The trouble is it is not very easy to distinguish these from the rest - infact, with the experience we have had, it is the fellow who goes about doing his job as a labour of love, for passion, for the conviction he has, who never surfaces to the point where he can be fished out.

The flippers, on the other hand, are loud, bite more than they can chew and most statements from them are always forward looking. Case in point being everyone and anyone who has any product that is used by a customer talks boldly of opening 1000 stores and getting to Rs. 100xxxx (as many X's as you would like) by 2010.

Needless to say, they are suave, sophisticated, talk the right language and can bowl you over during the intial meeting if you cannot get down to details. And they always talk about how it is only "now" that they have started to get past all the constraints that constricted growth and how once this money comes in, they are going to see a rocket launch (forget hockey sticks, they are passe in India).

Any thoughts on how one identifies these from the rest of the tribe ? Any cues, signs to look out for ?

~Varadha