“There is a thing or two to learn from this exit deal of UTI Ventures. One is that the Indian software product companies are not all that bad an investment. Second, early stage investment in India can get you bumper returns (of course, if your investment is right).
The Bangalore-based venture-turned-growth capital private equity firm has made the highest multiple of returns for an Indian fund from Excelsoft Technologies Pvt Ltd, the Mysore-based e-learning company. Global private equity fund DE Shaw has bought out the entire 35.5 per cent stake of UTI Ventures in Excelsoft for $31 million. UTIVF’s original investment in the company was only Rs 2.5 crore (in 2000) or $600,000.
The previous higher exit multiples include about 26-30X in Suzlon Energy by ChrysCapital and Citigroup Venture Capital, 25X in Mphasis by Baring Private Equity and Gaja Capital Partner’s 22X in another e-learning company Educomp Solutions.”
For any venture capital (VC) or private equity (PE) investor, the availability of a smooth exit from the investment is one of the most critical factors that determine the investment’s success. Exit can be achieved through a sale of securities by the VC or PE investor into the stock markets in case of listed securities. Such investors also exit through initial public offerings (IPOs) by the portfolio companies, whereby the securities get listed on one or more stock exchanges. The obligation of the portfolio company to provide a stock market exit (usually by way of an IPO) to the VC or PE investor is detailed in specific terms in the investment agreements entered into between the VC or PE investors on the one hand and the portfolio company or its promoters on the other. Exit can be achieved by way of a private sale to another investor (in case of both listed and unlisted securities).
The liquidity, depth and robustness of the stock markets are important factors that determine the success of a market sale, whereas the availability of a strong community of financial investors (that buy stakes from other investors) determines the success of a private sale.
Examples like the UTI-Excelsoft deal demonstrate that the Indian markets are maturing at a rapid pace to provide better exits to VC and PE investors. This is despite the markets having suffered temporary setbacks owing to financial crises that have been gripping world markets over the last year or so. The trading activity on the two primary Indian stock exchanges (Bombay Stock Exchange and National Stock Exchange) has grown exponentially. Further, the markets have also grown in terms of the number of listed companies. As a paper “Law, Finance, and Politics: The Case of India” (that we had reviewed in an earlier post on this blog) notes:
“… India has an extraordinarily high number of listed companies—second only to the US. However, their average market capitalization is relatively small. Moreover, the ‘depth’ of India’s equity markets—as measured by the ratio of market capitalization to GDP—is higher than that for comparable developing countries such as China, or indeed for many developed countries, including Germany”This fact indicates that the increasing maturity and liquidity of the Indian markets facilitates easier exit by VC and PE investors through stock market sales.
Similarly, there has also been a rise in the VC and PE investment community in India thereby expanding the market for private sales. With more and more players entering the space, there are increasing numbers of investors that are willing to acquire stakes from VC or PE investors in Indian companies on a private basis through negotiations. This provides an avenue for VC and PE investors to sell in a private market even if the securities of the portfolio company have not been listed in an IPO. The UTI exit from Excelsoft presents a typical illustration of a private sale, where the shares were sold in this instance to DE Shaw, a private equity player.
Apart from ease of exits (and myriad other commercial and business factors), the availability of a facilitative and unambiguous legal regime governing VC and PE investors is also determinative of the success of the industry. As far as the VC industry is concerned, the venture capital norms issued by the Securities and Exchange Board of India (SEBI), separately for the domestic industry (in the form of the SEBI (Venture Capital Funds) Regulations, 1996) and for the offshore industry (in the form of the SEBI (Foreign Venture Capital Investor) Regulations, 2000) have evolved over a period of time creating an increasingly favourable regime for VC investors.
The PE industry, on the other hand, is not directly regulated by any Indian regulatory authority, but is subject to the same regulations for investment that govern other foreign direct investors (FDI) or foreign institutional investors (FIIs). The continuing liberalisation of FDI and FII norms has indirectly benefited the PE industry in bringing about flexibility in their investment norms. Of course, there are, and would continue to be, several operational issues that still require to be addressed, but at an overall level, the legal regime relating to VCs and PEs have come a long way.
Even when it comes to contracting with VC and PE investors, Indian companies and their advisors are increasingly becoming familiar with Silicon-valley style investment agreements for VC investors and international standards on terms and conditions in PE agreements. Such familiarity with international best practices on the part of the Indian industry would aid in the development of a vibrant VC and PE markets in India. In all, the legal and contractual regimes for VC and PE investments facilitate a vibrant market and an increasingly large number of successful deals bear testimony to this fact.