India secondaries: Plan B?

When Asia Growth Capital Advisors (AGCA) acquired a portfolio of assets from its former parent Credit Suisse, the company received a new lease of life. Backed by a new set of LPs ready to commit capital, if a portfolio company needed additional support AGCA could now do follow-on investments. The transaction was also tipped to fuel investors' interest in secondary deals where existing backers are unable or unwilling to continue.

HarbourVest Partners was the lead investor in that transaction. Since the deal was completed in February, Tim Flower, a principal at the firm, has received plenty of inbound communication about portfolios that might be for sale. Such deals could account for the 10-20% of HarbourVest's nearly $6 billion in secondary-focused funds that has been earmarked for Asia.

"There is a lot of activity. We are talking to several people, advisors as well as GPs," Flower says. He is currently working on two India deals - one to acquire the sub-portfolio of a seasoned fund manager and another for a virgin fund's portfolio of high-growth businesses.

Big opportunity, little action

The opportunity certainly is there. Between 2006 and 2008, more than $23 billion was raised by Indian GPs, mostly for funds in the $100-200 million range. Portfolios acquired during these boom years are maturing and the slowdown in IPOs is expected to prompt an increase in secondary direct and fund deals. And yet, Flower says he is not aware of many deals being done at all.

High valuations are often to blame for faltering sales. Many of these investments were made at a time when entry valuations were sky high, but since then the rupee has depreciated and lowered the value of portfolios. Companies may have grown but perhaps not as aggressively as originally projected.

"In some situations investors aren't willing to bite the bullet around a realistic valuation. It's not that they're selling the assets to somebody else; they're just not selling the assets," Flower says. "For better GPs we see an adverse selection in terms of the companies they're looking to sell, and that brings the valuation issue back on the table. We are happy to take a portfolio that includes assets that aren't that exciting, but if it's a collection of underperforming assets then as much as I understand why a GP is looking to sell, we have no interest in acquiring."

In situations where a GP is sitting on a maturing portfolio of un-exited assets, frustrating incumbent LPs to distraction, a secondary investor is a useful antidote. The assets and management team into a new entity and allowing the frustrated LPs to cut their losses. However, not only must the assets be worth having, but the LPs must be willing to cede control at an acceptable price. When buying from a pool of investors, there are often differences in terms of need for liquidity and valuation expectations.

Doug Coulter, head of Asia private equity at LGT Capital Partners, says there are deals to be done but they are extremely resource-intensive. "As an LP you look at them and they might be interesting, but you need to balance that against the fact they take a long time to transact. You can spend a year working on it and the seller just changes their mind."

When there is no consensus, the compromise position might be single-asset sales, which bring liquidity to LPs and might give GPs the exit momentum required to drum interest in a new fund. These don't appeal to the likes of HarbourVest and LGT - they like portfolios, ideally with managers attached - but GP-to-GP deals are possible, and in some cases, actively sought.

NewQuest Capital Partners, which spun out from Bank of America Merrill Lynch two years ago, is a ready-made GP platform dedicated to secondary assets. It has a $400 million fund and $100 million in dry powder.

According to Amit Gupta, NewQuest's COO and head of India business, single asset deals fall into two categories: where companies are growing and need another round of primary capital, or where the primary and secondary are clubbed in a stapled deal, giving the investor an exit.

Seasoned GPs could also find value in secondary deals - they might be investing from their fourth fund but still have a few assets left from the first fund. "They want to fully realize the old fund as they generally have already returned enough money to the investors," Gupta says. "They want to rationalize the investments and manage their team's bandwidth effectively."

On the portfolio deal side, a change in strategy is one reason investors want to exit, such as with financial institutions where banks are readdressing their strategy on holding assets in Asia.

Contrary to HarbourVest, Gupta says that pricing expectations, once far apart, are now closing. These sentiments are echoed by Akshat Shukla, Paul Capital's regional representative for sourcing secondary transactions. But he notes that the relationship with a company promoter and his willingness to enter into a secondary deal is an important factor. This is particularly the case with minority investments that were done with a view to pursuing an IPO.

GP to GP

While the number of PE exits has declined over the last few years, secondary sales between GPs have shown significant growth, rising from $122 million in 2009 to $1.6 billion in 2012. According to KPMG, in 2011, there were 19 such secondary deals in India out of the total 84 exits. This compares to 25 out of 94 exits the previous year.

GPs say they do not see much difference between selling to another PE fund or a strategic investor. Secondary GP deals are a focus for AGCA right now, with Soma Ghosal Dhar, partner and CEO, noting that "sellers are motivated, and reasonable, and at the end of the day you are talking to counterparts who understand valuation as well as you do."

Flower is hopeful that secondary portfolio transactions will eventually become as commonplace in India as in developed markets, but this will take time. "Frequently with these transactions when we eventually complete the deal it's at the second or third attempt because it takes the shareholders a little time to get their heads around what their objective is."

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• Topics
• South Asia
• LGT Capital Partners
• India
• Paul Capital Partners
• HarbourVest Partners
• Secondaries