About a third of PE investments are currently losing money, but the evidence is publicly hidden by many fund managers’ decisions not to divest underperformers
India’s economic growth has propelled private equity (PE) investments in the country to $8.2 billion in 2010 from $470 million in 2003. Although the increase in deal volume and value indicates the attractiveness of India as a PE destination, the true measure of success of a PE investment is when the fund exits, makes a significant multiple and returns the money to its limited partners (LPs). India’s growth story no longer needs to be sold to LPs but the lack of meaningful exits to date has been a cause of concern, says a study.
KPMG, in a study, ‘Returns from Indian Private Equity - Will the industry deliver to expectations?’, said 2010 was a landmark year for exits in India as exit value touched $4.55 billion spread across 174 exits. This was nearly two times the exit value in 2009 and about 56% of aggregate exit value during the preceding four years prior to 2010.
The report highlights many valid reasons to be worried about returns in today’s PE environment in India such as depressed global economic environment and its spill-over effect on India and other emerging markets; rapid changes in investment and exit opportunities, high entry valuations; presence of return outliers that raise the probability of large negative returns, challenges of sharing control with promoters on exit type, timing and valuations; lack of sector depth; and a weak initial public offering (IPO) market. These factors adversely affect holding periods, investment and ownership decisions, and returns, the study said.
India is amongst the most important emerging market for PE after China and often competes favourably with it. It now occupies its own ‘asset class’. While the volatility in PE flows into India will remain significant until the global financial crisis lasts, it is expected to significantly decline post-crisis. Now, however, a new cause for concern has arisen: India has fallen well behind China in exits. Exit value for China was $8.7 billion in 2010, nearly twice the exit value for India in same year.
PE exits in 2011 have been less encouraging due to volatility in Indian capital markets and other economic challenges like high interest rates and inflation and slowing gross domestic product (GDP) growth. “Exit value for 2011 (up to September) was less than half of the PE exit value witnessed in 2010, while exit volume too lagged behind and was only 53% of exit volume in 2010. The fact that 2007, 2009 and 2010 have generated the highest volume of exits shows the close correlation between a vibrant capital market and PE exits,” the KPMG study said.
According to the report, about a third of PE investments are currently losing money, but the evidence is publicly hidden by many fund managers’ decisions not to divest underperformers. In an exit environment driven by IPOs, as in China, such underperformers would indeed be hard to exit. However, the Indian environment offers a greater diversity of exit options. Secondary sales, M&A (strategic sales) and buybacks, especially the latter two are, globally, an important source of liquidity for underperforming investments. This is true for India as well. By realizing losses quickly, fund managers will not only reduce the risk of massive losses later, but save the resource that is most valuable to their LPs time spent in monitoring losers, which may then be shifted to more promising investments, it added.
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