Investment bankers involved in arranging private equity (PE) deals are a happy lot. An increase in the number of PE firms in the market and the greater openness of Indian company promoters to accept PE funding has raised the deal hit rate for bankers. While two-three years ago, only four out of 10 transactions that bankers worked on typically resulted in concrete deals, these days as many as eight may be leading to investments by PE firms, bankers say. "Today we are explaining to them (promoters) which fund they should opt for rather than why should they opt for PE," said Deepesh Garg, director, o3 Capital Advisors Pvt. Ltd, on the increased willingness of company founders to take PE firms on board. In 2010, there were 376 PE deals worth $8.3 billion (Rs.37,682 crore), up from 331 deals worth $4.7 billion in 2009 in the aftermath of the global financial crisis, according to VCCEdge, a financial research platform.
With close to 300 funds in the market and expanding opportunities for early stage, growth capital and late stage investments, the PE market has also become more segmented as PE firms turn more focused. The segmentation is according to the size of deals, sectors and the stage of a target company's life cycle. As the PE market matures, most stake sale discussions are actually leading to deals because bankers don't have to spend time explaining to a company's promoters legalities such as minority protection rights and so-called tagor drag-along rights. A tag-along right is an assurance that if a majority shareholder sells a stake, minority holders have the right to join the deal and sell their stake on the same terms and conditions that would apply to the majority shareholder.
A drag-along right allows a shareholder to drag all other shareholders into a sale of the business. "Promoters have understood that there is flexibility in structuring such transactions like, for instance, the valuation could be performancelinked where if you perform well and achieve certain agreed milestones, you will get a better valuation," said Shailendra Ghaste, managing director, IDFC Capital Ltd. However, while the hit rate may have improved, the time taken to close a deal has increased. While in 2007-08, the peak period for PE investments, deals were closed in a few weeks to a month, today deals take anywhere up to nine months for closure. "PE funds are doing a lot more diligence before they even get into a deal," said Amitabh Malhotra, managing director, NM Rothschild & Sons (India) Pvt. Ltd. According to him, during the peak of deal making, transactions were sewn up rapidly without any tag- and drag-along options.
Also, many hedge funds were investing at the time, competing with PE firms when it came to PIPE (private investment in public enterprise) deals. Today, hedge funds aren't so active, leading to a reduction in the number of PIPE deals. Another reason for the increase in the hit rate of deals is the fact that many companies are raising a second round of PE funding and are well aware of how PE firms work. Garg of o3 gives the example of a secondary deal concluded by him last year in which ICICI Venture Funds Management Co. Ltd sold its stake in Metropolis Healthcare Ltd to Warburg Pincus India Pvt. Ltd. "Promoters have become savvy. It was a select process and the promoter was clear on which fund they wanted to partner with," he said. Secondary sales, or sales by one PE firm to another, are likely to increase in 2011 as PE firms seek to exit some of their investments. In 2010, there were 18 such exits worth $161 million, compared with eight worth $78 million in 2009, according to VCCEdge. According to Bhavesh Shah, executive director, investment banking, JM Financial Consultants Pvt. Ltd, more than 1,000 companies have received PE funding in the past four years, so the market has evolved and the concept of PE has taken shape in the minds of Indian promoters.