In defense of PIPEs

Why would an LP pay a 2% annual management fee and a 20% carry to a fund manager who just invests in publicly traded companies? This question has long been debated in private equity circles and perhaps more in India than elsewhere given the prominent role that such transactions have played there.

GPs based in the country argue that they need flexibility in what is young but varied market. There are more than 5,000 companies listed in Mumbai and around 1,500 more trading on the National Stock Exchange. With some firms going public relatively earlier in their development than elsewhere in Asia, ignoring the asset class can be counterproductive.

"A lot of funds are being raised with very sandboxed strategies - some want to do this but some are being forced to do it because it's the only way capital is coming to India," says Gulpreet Kohli, managing director of ChrysCapital Investment Advisors. "It is a big drawback. Flexibility is a very important aspect in the Indian market."

Kohli picks on financial services as an example. The sector has expanded at an average annual rate of 20% for the last 20 years. The fact that nine in 10 companies are publicly traded is no reason for missing out on a growth opportunity.

Who's PIPEing?

Looking at 2011 alone, PIPE statistics are deceptive. According to AVCJ Research, PIPE deals accounted for 58.7% of private equity investment in Southeast Asia between January and October, and 32% in China. By comparison, India is on a fairly modest 16.3% year-to-date.

The key factor, however, is the number of PIPE deals done and their relative size. In Southeast Asia, Aabar Investments' $1.49 billion purchase of a 24.9% stake in RHB Capital was responsible for nearly one-third of total spending. China's financial services sector, meanwhile, includes several of the largest publicly traded banks in the world; transactions such as Temasek Holdings' $2.8 billion investment in China Construction Bank can tip the scale.

India has seen similar big-ticket deals involving listed companies - Bain Capital and Government of Singapore Investment Corp.'s $851 million investment in Hero Honda Motors last December is a good example - but there are a host of smaller transactions below that. PIPE deals have consistently accounted for around 15-20% of private equity deals carried out each year since 2006, which is high for the region.

In value terms, a peak came in the boom period of 2007 when nearly one-third of the $17.8 billion in total capital deployed went into public companies. The 25% threshold was crossed in 2009, when total investment slumped, but apart from that PIPE deals have stayed in the high-teens range.

Those that choose to avoid the PIPE space do so for philosophical reasons more than anything else. Gopal Jain, founder and managing director of Gaja Capital Partners, started out focusing solely on PIPE deals but then switched to private transactions. The decision was based on where the private equity firm thought it could best deploy its capital and skills, and public market opportunities aren't necessarily a good fit.

"When we wanted to invest in an education company that was supplying schools we didn't have a public market company to invest in," he says. "When we wanted to do a management buyout in the banking sector we couldn't do it around a listed vehicle."

The broad view

Others look at it in broader practical terms. India's public markets are so vast that at any one particular time there are bound to be sectors out of favor. Private equity investors can take advantage of these price dislocations. In addition, the increase in the investment threshold required to trigger an automatic takeover bid for a company from 15% to 25% earlier this year gives private equity firms greater freedom to invest in public equities.

As with any public investment, there is a need to balance price and liquidity. With this in mind, Paddy Sinha, chief investment officer at Tata Opportunities Fund, says he would be wary of PIPE deals during a bull market, but he accepts there are situations in which private investors can add value to public companies.

"What people look for is a balance between flexibility and focus or you end up chasing everything in the market," Sinha adds. "There could be flexibility across deal types - PIPEs, PE, growth capital, transformational - while we create focus to the extent that we have privileged access to deals from the Tata Group."

Anubha Shrivastava, Asia managing director at CDC Group, notes that LP attitudes toward PIPE deals are evolving and there is now a general acceptance that Indian GPs require a broader remit than most. However, ensuring that fund managers opt for PIPEs as part of a value-driven strategy rather than in the absence alternatives remains an issue. "The question of what should be the economies on these deals is still on the table," she said.

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• Topics
• South Asia
• PIPEs
• India
• PIPE
• Gulpreet Kohli
• ChrysCapital Management
• Anubha Shivastava
• CDC Group
• Gaja Capital Partners
• Gopal Jain