Source of Capital - The Private Equity

The investment by Private equity partners in the Indian corporate sector is gaining momentum in spite of the turbulent economic scenario. Though in its nascent stages, Private Equity (PE) investment has assumed the status of mainstream source of capital. While India Inc is gearing to share its financial stake in the otherwise family-run enterprises, analysts raise fears that the quick exit of PE partners from these investments would leave companies high and dry.

Private equity investment was highly opposed in the 1970’s where the business tycoons developed the flip by taking over a company, attack wages and jobs to ‘cut away fat’, then sell back to the market in a three to five year cycle. The most common use of this system for profit stems where management teams buy out publicly listed companies and take them off the stock market as private entities.

The practice reached its zenith in the 80s when major takeovers were attempted by firms for their practice of taking healthy companies, selling their assets, firing much of the workforce and then selling back a shell to the public markets. The Private Equity market died down in the 90s, as mega-mergers placed many of the big players beyond the reach of even major private equity groups and confidence dimmed in the risks of investing during an economic downturn.

However in the last 4-5 years, where several major funds buy in to reach for larger targets, the economy has witnessed some of the biggest companies in the world targeted by the PE players.

PE investments have played a visibly positive role in generating employment opportunities and especially BPOs have benefited tremendously as PEs put their money in these ventures. PE can also drive a company into good governance, bringing in transparency and professionalism across industry. The PE partners usually induct their representative at Board level to assist the management in executing the strategies. They also enable entrepreneurs achieve success that may otherwise have been beyond reach by providing resources over and above money.

The broad framework of PE deal:

1. Time Frame: Though time is a factor of flexibility, a typical PE transaction takes roughly about 3 months to conclude.
2. Monetary Aspects: Money can be availed through any other form of funding. But, money alone cannot catalyse the working of the organisation.
3. Mutual Interest: The PE deal has to be aligned with the interest of the Promoter, execution capability, mutual comfort and the like.
4. End Utility: The PE partners should be ensured of Performance linked convertible to bridge the expectation gap, if any.
5. Success Factor: Success of PE Fund is dependent on success of the venture. PE funds make sure that their star entrepreneur are helped with all the resources and learning which can be mustered by the fund to help him realise his dream.
6. Agreement: Shareholders and Subscription agreement is the crux of a PE deal and one must ensure the inclusion of the following:
• Minority protection rights
• Rights and obligations of each party
• Force majeure
• Exit proviso
• Tag along rights, etc
7. Exit of PE partner: The PE partners prefer IPO as the exit route but other exit routes such as trade sale are often practiced. This is because, PE funded companies enjoy higher PE multiple at listing, than their contemporary non PE funded companies.


Conclusion:

Essentially, PE funds raise money from high net worth individuals, financial institutions, etc. for a period of seven-ten years and then invest in opportunities as and when they arise, either in early-stage, maturing or even public companies. The work involves of course, valuing the companies and deciding how much of the company stake is actually worth, what the company’s growth prospects are, etc. Structuring the transactions for tax-efficiency and industry-specific reasons is also part of the job. Post-stake taking, day-to-day monitoring and growth plans are monitored by the fund, with a senior director taking a seat on the company’s board. Since the target is also to exit the investment in a few years and return money to investors, the deal teams also constantly monitor the capital markets for suitable times to do an Initial Public Offering or find a strategic investor to sell to.