Growth investors enable India buyouts - AVCJ Forum

“Seven to 10 years ago, a start-up would have $10 million in revenue and we were the first institutional check – it was 100% founder-owned,” said Gopal Jain, a managing partner at Gaja Capital. “Start-ups today are usually majority-owned by venture capital firms and a lot more expensive. It is increasingly difficult for entrepreneurs to hang on to companies when they start out on day one with an equity check. This is changing attitudes.”

When Gaja was founded in 2005, India’s private equity and venture capital market was worth $2 billion, and buyouts accounted for 5% of deal flow. The market has since grown to $30 billion and the buyout share is 25%. Jain predicts that the $100 billion threshold will be crossed within 10 years, with the proportion of buyouts rising to 50%.

Private equity firms are also more comfortable buying companies with existing financial investors – higher valuations notwithstanding – because there are expectations of minimum levels of corporate best practice. This makes a company easy to understand and an investment easier to underwrite.

“When the promoter owns the company and third-party investors come in, the questions we are asked are about corporate governance, IT systems, strategy, quality of management, and ethics. Where there is already an investor, those questions are not asked as much,” said Nittish Poddar, partner and national leader for private equity at KPMG India.

There are other contributing factors to the rise in buyouts of family-owned businesses: a promoter might be forced to sell after taking on too much debt, something that is also driving larger-scale corporate divestments; multinationals might find it hard to negotiate the local market and decide to sell off Indian operations; and there is more talent available to run businesses once acquired.

But a greater willingness to work with third-party investors is an unmistakable trend. It comes from generational change and an appreciation of the role played by private equity investors in a minority capacity. Neeraj Bharadwaj, a managing director with The Carlyle Group, noted that he has seen numerous situations in which a growth capital investment has ultimately turned into a buyout.

Mithun Thanks, a partner at Shardul Amarchand Mangaldas, recalled working on one such situation. Six years ago, he was advising a client on the acquisition of a minority position in a manufacturing business and the various parties had sat down with lawyers to go through the terms of the agreement. The company founder was growing visibly irritated with the process.

“He turned to me and said, ‘Why are there so many obligations on me?’” Thanks recalled. “I explained that typically these obligations flow in the same direction as the flow of cash, to which he responded, ‘How dare you commoditize my daughter.’ I was lost. He explained that his company was like his daughter and I had put a price on her.”

The investment agreement included a provision that allowed the private equity firm to assume majority control within a certain timeframe, and when the deadline arrived, Thanks found himself in a room with the founder once again. Two things had changed. First, a member of the second generation of the family was running the business. Second, they had grown accustomed to private equity. “There was an appreciation of what value the investors had added,” Thanks said.

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• Topics
• South Asia
• Buyouts
• India
• AVCJ Events
• The Carlyle Group
• KPMG
• Gaja Capital Partners