Q&A: InnoVen Capital's Ajay Hattangdi

Q: What were the factors driving your entry in the venture debt market in India?

A: One of the trends that was emerging in 2007 was that VC investors, which were traditionally focused on the US market, were beginning to look at expanding and investing in other markets, including India. There was a study conducted around that time which showed that more than half of all VC investments over the next 10 years would be outside the US. Given that venture debt has accounted for roughly 10-12% of VC investments in more developed markets, the writing on the wall was clear. We followed the opportunity to set up a venture debt business in India.

Q: What was your strategy for building up the India business?

You have to be very honest about the kinds of deals you're looking at and the kind of assessments you make. Venture debt doesn't give you the license to abrogate your responsibility to diligence a deal

A: From the start our strategy was to set up a non-banking finance company (NBFC), as a first step towards setting up a business in India. Eventually we wanted to expand and become a full-service bank that focused on start-ups and early-stage companies. This is similar to the model that banks like Silicon Valley Bank operate in the US. But at that point a bank license was not available, so the NBFC was an obvious route to start lending.

Q: How did the deal with Temasek and UOB come about?

A: As business picked up momentum we needed more capital to continue funding growth. However, it seemed that a bank license was going to be increasingly difficult to get given the changing dynamics within the Indian banking sector. Without a clear path to a license, we needed to bring in investors that to provide the capital needed for growing our business. A decision was made in December 2013 to go through a buyout. Around that time, that we were introduced to Temasek and UOB, which had been working on a strategy to build a venture debt business for the Asian market. The growing interest among VC investors in the region coincided with the Singapore government's drive to develop Singapore as a hub for innovation. Similar to the move that defined our India strategy, it was felt that there would be an obvious need for venture debt as the venture capital ecosystem in Asia began to develop. Investing in the business that we had built in India was the perfect opportunity to get a running start.

Q: What is UOB and Temasek's plan for the firm?

A: The strategy of the investors is to leverage the know-how and experience of the team in expanding the venture debt proposition to other markets in Asia under the InnoVen brand. This will be the first pan-Asian business of its kind. InnoVen is already established as the oldest and most active venture debt provider in India. The team is now looking to establish a presence in other markets in Asia. Operations in Singapore have just begun with Southeast Asia as the most immediate opportunity. Other large markets like China will also be considered in 2016 and beyond.

Q: You are set up as an NBFC in India. What are the advantages of that model?

A: One of the main advantages is that it enables the investors to leverage their equity through borrowings. Other than enabling the business improved access to capital, it also helps to drop the average cost of capital and lower borrowing costs for portfolio companies. Taking leverage is currently not possible for an alternative investment fund (AIF). As opposed to an AIF, an NBFC also confers more flexibility in the manner in which loans are made and creditor rights exercised. Finally, the regulatory and compliance framework applicable to NBFCs promotes a higher level of governance and prudential behavior, which is obviously comforting for investors.

Q: How is your firm set up to handle the unique characteristics of the Indian venture market?

A: The investing canvas is much wider in India. VCs are investing across the spectrum, whether it's logistics, fast food, e-commerce or healthcare. As debt providers, we have to get comfortable with lending to models across all industries. This is where the knowledge and experience of the team is an advantage. It stems from the understanding that Indian companies tend to have varied bases of value creation. Factors such as first-mover advantage, having a strong distribution network, building a unique process, or developing a recognizable brand confer relatively important competitive advantages in a disaggregated and geographically diverse market like India. The team grasps those dynamics and modifies the framework within which loans are evaluated, structured and monitored. In essence, the lending proposition takes advantage of the wide canvas of opportunities that India offers. The other thing about India is that we have to get comfortable lending to companies across sizes and stages of the life cycle. Because here, unless you get to a certain scale as a company, borrowing from the banks is still limited. Even large companies, with $50-$100 million in revenue, are potential opportunities for venture debt, whereas in most other markets some alternative form of capital would be provided.

Q: How do you protect yourselves from exposure to bad situations?

A: Our adage is that you cannot avoid risk; you can only mitigate and manage it. Other than a tight diligence process, we have set norms for ourselves in terms of industry exposure and the size of loans that we do, to make sure that we're not overexposed to any one segment. Our relationships with VC investors built on mutual trust enables direct and honest feedback on deals which is another critical component of the risk mitigation strategy. At times they will tell us, "This might be a good deal for me, as an equity investor, because I'm paid to take these risks, but companies in this segment are going to go through a lot of pain, so you need to think about whether this is the best place for you to be as a lender today."

Q: InnoVen was the first venture debt lender in India. What sort of challenges have there been introducing the model to this market?

A: When you are the first one to provide anything new, you have to spend a lot of time educating the market about the product and how it works. It's harder to do it as the only one around, rather than if you're one of five or six doing it. I think that we have done a lot of the heavy lifting over the last several years. That evangelizing effort has begun to pay dividends now. Our business has started picking up momentum not just as the venture capital industry grows but also as Investors have begun to have a much deeper appreciation of what venture debt can do for their companies.

Q: What is the most important element of doing venture debt?

A: I think the real secret of this business is not thinking about the upside potential in deals, but focusing instead on conducting due diligence as a lender does with both eyes on downside protection. It's very easy to look at a company that's raised a $50 million round of capital and think that it's too big to fail. A lot of times what's happening is that the larger rounds of equity are not supporting a larger cash runway, and are still providing companies that same 10 or 12 months of cash that a much smaller round did two years back. You have to be very honest about the kinds of deals you're looking at and the kind of assessments you make. Venture debt doesn't give you the license to abrogate your responsibility to diligence a deal.

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• Topics
• South Asia
• Venture
• Expansion
• Venture
• India
• Structured finance