Evolving India: Sophistication on demand

The capital overhang that blighted Indian private equity was the product of a three-year period of investor fervor from 2006 when $37.6 billion was deployed. It was more than the market was able to digest and exits were slow to come, if indeed they came at all. At a dinner during the AVCJ India Forum in 2011, the LPs and GPs were – somewhat shortsightedly – allowed to sit on opposite sides of a long table. A decidedly tetchy debate ensued.

The peak year for investment was 2007 when $18.9 billion entered private markets deals. It held the record for exactly a decade before being surpassed last year. It’s not yet December and the record has already been broken again, with investment reaching $22.6 billion. This begs the question whether the industry has evolved sufficiently to avoid another overhang.

A recent McKinsey & Company report identifies several trends that suggest the market has entered a new phase. India’s economy has doubled in size since 2009 and private equity has more than kept pace, with the amount of capital deployed increasing fourfold. This is to a large extent driven by more activity at the top end of the market. AVCJ Research has records of nearly 60 deals of $100 million and above in 2018 and they account for more than three-quarters of all capital deployed. This compares to 23 deals and about 50% in 2011.

There are also more control transactions than ever before – another indicator of a maturing market. India has seen over 30 buyouts so far this year, up from 11 in 2011, and the $8.5 billion invested is equal to the combined total from the previous four years. Growth capital still makes up half the market, but buyouts have reached an unprecedented 33% this year. This rapid expansion from a low base has been accompanied by more meaningful value creation efforts from GPs.

A deeper and more varied investment wouldn’t count for much if India hadn’t fixed its exits problem. Some LPs would argue that it’s still early days, but annual exit proceeds passed $10 billion in 2015 and haven’t looked back – although a large portion of the $28.1 billion for 2018 to date comes from the sale of e-commerce giant Flipkart to Walmart. IPOs – both liquidity events and actual realizations – and public market sales are down this year, but that’s a function of the volatility that has plagued many jurisdictions.

McKinsey’s calculations indicate that the average lag period between investments and exits was 4.6 years in 2017; between 2011 and 2016, it ranged from 5.2 years to 6.2 years. Meanwhile, average returns have risen from 8% for the 2006-2008 vintage to 22% for the 2012-2014 vintage. Buyouts are delivering the biggest returns, as well as presenting the greatest risk, and small deals are the standout performers. McKinsey also found that businesses with PE backers grew revenue and profit faster than those without over the seven years to 2016.

All this makes for positive reading, but the report did highlight risks as well. The flood of capital into PE globally and the resultant increase in competition for deals is an obvious issue. Indian GPs might argue that the impact is most visible in the large-cap space populated by pan-regional GPs and LPs that want to go direct, while they target the less busy middle market. There is some truth to this. 

However, the same managers also say that local entrepreneurs are more open to working with private equity. If this is the case, more capital will enter the asset class across the spectrum. It is therefore incumbent on GPs to develop their skillsets in order to meet the needs of these more sophisticated business owners and keep track of changes taking place in a dynamic and fast-growing economy. Sector expertise, operational knowhow and probably an element of innovation – see flexibility – in structure are likely to become more important.

India’s private equity industry is not the same as it was in 2007 or even 2011. It is larger, more established and more sustainable, but also increasingly complex. While sentiment has certainly improved in the last five years, there are still plenty of questions that GPs must answer.

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• Topics
• South Asia
• GPs
• LPs
• Investments
• Buyouts
• India
• Exit