Late-stage tech: Hedging bets in India

The acquisition of Taxiforsure by rival Ola in March all but ended the battle for supremacy among India ride-sharing apps. The $200 million cash-plus-equity deal combined TaxiForSure's 15,000 taxis across 47 cities with Ola's 70,000 taxis and 30,000 auto rickshaws across 85 cities to form the country's largest provider. Its footprint is said to be 10 times that of nearest rival Uber India.

A key factor behind Ola's success has been its ability to secure a large chunk of the market early on and expand rapidly. This - plus the recent acquisition - has seen the company burn through a lot of cash. The capital feeding the fire was not only sourced from VCs but also from a growing group of less traditional early-stage investors: hedge funds.

Ola has received capital from a least four hedge funds and one sovereign wealth fund. Its most recent round, which came a month after the TaxiForSure acquisition, saw the company raise $400 million in a round led by DST Global at a valuation of $2.4 billion. Other investors included hedge funds Steadview Capital and Falcon Edge Capital, Tiger Global Management (which runs a combination of PE and hedge funds), and VC firm Accel Partners and Singapore state-backed fund GIC Private.

Ola is part of a broader trend that has seen hedge funds from both the US and Asia target opportunities in tech companies across the region, with India a particular hub of activity. What does the increasing presence of hedge funds in late-stage rounds say about the current state of venture capital?

The next big thing

Some largest VC rounds in India over the past two years have included hedge funds. E-commerce player Flipkart, for example, counts Steadview, Tiger Global and Greenoaks Capital among its investors. Tiger Global has backed e-commerce platform Shopclues and property portal Commonfloor among others. To understand stand what is happening in India today it is worth looking at what has also been happening in China's tech space.

Aashish Bhinde, executive director as Mumbai-based Avendus, which has advised on many of these rounds, notes that the hedge fund activity comes in the wake of a number of successful IPOs involving VC-backed tech companies in China. The prime example is Alibaba Group, which raised $25 billion last year, generating blockbuster returns for the likes of Silver Lake, which invested $500 million in 2011 and 2012.

If you look at the money multiple around the success of these late private rounds, it has been much more satisfying than the money multiple on investments as they have gone public - David York

"For many of these funds that invested in the China opportunity - specifically around Alibaba and Tencent Holdings - it has been a rollicking success, but it has also been a huge missed opportunity for those that didn't," says Bhinde. "I think that is when the momentum built up, with people asking: where is the next Alibaba going to be built? Where is next frontier?"

The reason that hedge funds have started looking towards late-stage VC rounds is that tech start-ups in general are seeing far greater value accretion at the pre-IPO stage, while growth following listing has typically been modest by comparison. This phenomenon is often described in the context of US venture capital, though the same pattern is playing out globally.

"The public markets have become beta, while the private markets are becoming alpha," says David York, managing director and CEO of US venture capital-focused fund-of-funds Top Tier Capital Partners. "If you look at the money multiple around the success of these late private rounds, it has been much more satisfying than the money multiple on investments as they have gone public."

With the shift in emphasis from public market to private markets, many - including Top Tier's York - have compared many late stage VC rounds involving tech companies to a sort of "private IPO." Last month CB Insights, which tracks the early-stage venture capital globally, reported that so far this year private market fundraising as outstripped the public markets: US start-ups have raised $600 million though public offerings versus $20 billion through private offerings. In India the disparity is greater.

Ozi Amanat, founder of VC firm K2 Global, similarly describes a rise in larger private IPOs driven by hedge funds struggling to generate return in the public markets. "What they are doing is battling for turf space in the late-stage companies and it is a mixed bag as to who is getting access," says Amanat, whose firm focuses on pre-IPO rounds. "Traditionally, they are not the players who would be going into these companies. It's almost like you are having these mini-IPOs in the private market."

Cause for concern?

Inevitably some in the industry worry that these increasingly larger rounds are leading to unrealistic pricing. The concern is that hedge funds and other non-traditional private market investors have driven up valuations to unrealistic levels by piling into late stage rounds, as was seen in the dotcom era. Yet not everyone is convinced that the comparison is justified.

Top Tier's York, for example, notes that, especially in Asia, technology start-ups have far larger addressable markets than the companies of the dotcom era. "What is different this time round is that the businesses themselves are much bigger, much more profitable, and much more successful," he says.

Meanwhile, many observe that participation from hedge funds in later-stage deals is filling a gap in Indian venture capital. Vani Kola, managing director of Kalaari Capital, which counts furniture retail Urban Ladder - which raised $21 million from Steadview last year - among its portfolio companies, is of this view.

"Especially in India there is a gap in late-stage VC capital, and hedge funds can help bridge it," she says. "Secondly, I think they help bring maturity to start-ups as these kinds of investors have different expectations from the companies they back in terms of the information they must provide and reporting. As a kind of transitional venture capital, it is complementary."

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• Topics
• Technology
• Expansion
• Venture
• South Asia
• India
• TMT
• Consumer
• Growth capital
• Hedge funds
• Top Tier Capital Partners
• K2 Global
• Kalaari Capital
• Venture