By G Sabarinathan, Aditya Muralidhar & Ahana Shetty
Economic Times in ET Commentary, March 27, 2017
Popular perception about the Indian venture capital and private equity industry would probably suggest that it is a marginal part of the larger capital market in India. But that may not be true anymore. Assuming that the approximately $120 billion of VC and PE funds deployed in India represent an average equity ownership of 40 per cent, the funded enterprises could be as big as 15 per cent, or more of the market capitalisation on the National Stock Exchage (NSE).
On a different dimension, the 4,000-plus enterprises that have been funded by the industry need to be compared against around 1,847 enterprises that have been listed on the NSE over 23 years and 5,500 on the Bombay Stock Exchange have been added over more than 140 years.
The industry has grown from less than 100 enterprises that it funded annually in the early 2000s, to more than 500 in 2007. The financial crisis brought those numbers down to less than 300 in 2009. But the industry was back to funding over 700 enterprises in 2015.
More striking than the number of enterprises supported is the breadth of the industries supported. The VC industry used to be associated with technology enterprises in the early years and with more visible businesses like ecommerce recently.
The reality, on the other hand, is that VC has been supporting enterprises across more than 35 broad categories of industries. VC-funded enterprises today touch nearly every aspect of our lives — from schools to real estate to beauty salons to hospitals of various specialties to transportation companies to fine dining restaurants and retailers of nearly all kinds of goods.
A third feature is that in the past decade or so, the Indian VC industry has supported enterprises by providing them with what is known as ‘follow-on funding’. Some VC-funded enterprises have managed to raise as many as eight rounds of financing before they got acquired or went public. This has to be interpreted as a sign of the growing maturity of the industry.
VC has created a line-up of public offerings and acquisition candidates.
As many as 20 per cent of VC-funded enterprises have gone on to be acquired, or have their shares listed on an Indian stock exchange. The 130 VC-funded enterprises that listed their shares on an Indian stock exchange constitute around 15 per cent of the initial public offerings in the past 17 years.
The venture investment marketplace has seen the entry of around 850 investment funds. As of 2016, close to half of them had stopped making investments for two years or more. Economists would consider this rate of entry and exit of firms as the sign of a competitive marketplace where capital by way of investment funds flows to the most efficient players.
These achievements of the industry are in spite of the absence of a regulatory regime that is supportive of venture investment. The industry continues to operate under the foreign direct investment (FDI) regime, with some added rules thrown on top that restrict the flexibility in structuring deals. It has had to deal with problems relating to poor governance in many of the investee enterprises and dispute resolution mechanisms that deliver too little justice, too late.
Notwithstanding its contribution as a source of startup funding, the Indian VC industry remains poorly appreciated and even more poorly understood.
Serious doubts have been cast upon the rates of return realised by these funds. There have also been concerns about lax oversight by VC firms of regulatory compliance on the part of investees, and of relocating valuable Indian enterprises outside the country through a restructuring mechanism, euphemistically known as ‘externalisation’.
To dispel these perceptions, the industry has to engage with independent constituencies by sharing more data that will help a more objective assessment of its contribution. Its North American counterparts have done so in spite of being thought to be notoriously secretive.
The industry has further been accused of funding ideas that are mere copycats of what have been proven in the US. When one looks at the kind of businesses that have been funded, one is led to wonder if there isn’t some merit in that view. Accolades and criticisms aside, one thing that emerges is this: Love them or hate them, you cannot ignore those VCs any more.
(Sabarinathan is professor, IIM-B. Muralidhar and Shetty are students, IIM-B)