Edelweiss, a rare flower found in Switzerland, was introduced to a wider audience through a song in the hit musical, “The Sound of Music.” At Edelweiss Capital, a financial services company headquartered in Mumbai, it is not so much the sound of music as the sound of money that is the driver. Chairman and CEO Rashesh Shah spoke to India Knowledge at Wharton about the company, the Indian marketplace, the problems and prospects facing the financial services industry and the role Edelweiss intends to play in the sector’s future.
An edited transcript of the conversation appears below.
India Knowledge at Wharton: Why did you name your company Edelweiss?
Rashesh Shah: When we wanted to start a “new age” financial services company, we knew we had to be different. If you look at investment banks around the world, they are invariably named after the founders. We were clear that we wanted to avoid that. We were starting a new enterprise and did not want our decision — of what to name our company — to be un-enterprising.
We wanted the company’s name to be an object that symbolized certain core values that we believed in. After a lot of thought, we zeroed in on Edelweiss. The word Edelweiss is a derivation of German words edel (noble) and weiss (white). It is a rare Alpine flower that grows in a harsh environment. It seemed just right for the kind of institution we hoped to build.
India Knowledge at Wharton: You worked for several years at ICICI Bank before setting up Edelweiss. Today’s entrepreneurs from Indian Institute of Management, Ahmedabad launch companies directly from business school. What is different about the environment today? Don’t you think some outside work experience is necessary?
Shah: The big difference between when we started Edelweiss about 15 years ago and today is the ecosystem is much friendlier for entrepreneurs and enterprises. If I look back, I think the key inflection point was when India embarked on an economic liberalization program in the early 1990s. Up until then it was almost unheard of for two professionals with middle class backgrounds to even dream of starting their own enterprise. You needed family wealth [and] connections in high places. Liberalization changed all that. By the time we decided to start Edelweiss, it was obvious to us that there were a large number of people like us who were dreaming of starting out on their own. These start-ups needed capital and this created the opportunity for the emergence of players like Edelweiss, which were outside the traditional banking system but who could provide innovative advice and facilitate access to risk capital.
India Knowledge at Wharton: And work experience?
Shah: I believe prior work experience, especially in a good organization, helps in setting up and growing your enterprise. Apart from teaching you stuff like what pitfalls to watch out for, it also inculcates financial discipline. I think work experience also helps contextualize your ideas and aspirations so that you don’t lose focus of the big picture even as you are building your business. Having said that, let me clarify that prior work experience is not a necessary or mandatory condition. I have met enough extremely successful entrepreneurs who had no prior work experience.
India Knowledge at Wharton: Based on your experience and and the experience of others, do you think management education is more for professional executives? Entrepreneurship cannot be taught.
Shah: This argument about whether entrepreneurship can be taught or not is very old and tends to miss the point completely. Sure, if you look around, a lot of the world’s most successful companies — Microsoft, Google, Apple — were founded by people who never went to business school. But the point to consider is whether they would have become global leaders if they hadn’t been able to attract top-notch management talent, a lot whom did go to b-school.
Entrepreneurship is a state of mind, an attitude. It drives you to innovate, to take risks, to get out of your comfort zone. That surely cannot be taught. But management education can help you to exploit your innovation better in the marketplace, it helps you crystallize the risks better [and] it helps you in managing your growth. These are all necessary attributes for building an institution. As far as our own plans were concerned, we had to constantly innovate and change our business model to meet market conditions. I believe b-school education greatly helped in that process. But the real world is the real world and experience is also very useful. I don’t think b-school education and experience are substitutes. They complement each other.
To give you an example, when we were starting out, the existing rules of the market regulator Securities and Exchange Board of India (SEBI) mandated that Edelweiss should have a paid capital of Rs. 10 million (around US$220,000) if we wanted to be a “Category I” merchant banker — which would have allowed us to handle Initial Public Offerings (IPOs). Since we came from a professional background, we did not have that kind of savings and it entailed my father having to mortgage his house. However, by the time the mortgage money came through, SEBI increased its minimum paid up capital criteria to US$1.1 million. Since there was no way we could raise that kind of money at that stage, our entire business model was in a shambles.
We had to go back to the drawing board and relook at the whole thing. That is when we spotted an opportunity. At that point in time, there were several “new age” companies in India looking at raising risk capital. Since most of them were small or startups, their capital requirements were low and it couldn’t have come from IPOs. [Instead,] it would come from venture funds and private equity funds or high net worth investors. They needed an approach to investment banking that was then new to India. This suited us fine, all the more so because we couldn’t have managed IPOs anyway given the new minimum paid up capital requirements.
The economic and regulatory scenario in India has changed so rapidly over the past 15 years that at Edelweiss, we have had to showcase this nimble-footedness and agility several times.
India Knowledge at Wharton: Edelweiss has been called a financial powerhouse. How would you describe it?
Shah: Over the past 15 years, what we have been able to do at Edelweiss is enter a market segment, build a business, take it to a leadership position and then move into adjacent spaces. We started off raising venture and private capital for small companies or startups and today are a leading private equity syndication house. From there we moved into institutional broking. Once Indian stock markets allowed futures and options to be traded, we were quick to spot the coming wave and build up our expertise. Interestingly, almost every new business we got into was, in a sense, during adverse market or regulatory conditions. For example, we started our institutional broking arm in 2001, just a few months before turmoil hit the global and Indian stock markets. A lot of established brokerage houses were cutting down on their investments and here we were embarking upon a new business. But what this has taught us is the value of investing in businesses during a downturn so that when the market cycle changes, as it did in 2003 for the brokerage business, you reap the benefits.
The next challenge before us is to build our retail financing and insurance businesses. Again, it is happening when there are headwinds in the market for both these segments.
India Knowledge at Wharton: You mentioned “new age” companies. Can you tell us about some of them?
Shah: Over the years, we have helped raise finance for many companies. But the ones that stick in my mind are Reva — makers of the electric car [since acquired by the Mahindra Group]; Deccan Airways [later merged with Kingfisher Airlines], which launched the low cost air travel revolution in India; Café Coffee Day, the largest café chain in India; and, recently, Moser Baer Projects, which is setting up thermal and solar power plants across India.
What sets these companies apart is that in each one of them there was a spirit of entrepreneurship, a new age idea — either as a sunrise industry or a new category. The promoters were professionals with game-changing ideas backed with a strategic rollout plan that would be a paradigm shift in their respective spheres. While these are challenging elements to promote or find investors for, these are also the most satisfying.
India Knowledge at Wharton: In October last year, you published a study titled “India 2020.” Have your projections for the economy changed in light of current concerns? Where do you see India in 2030?
Shah: In our research report “India 2020,” we predicted that the Indian GDP will grow four times to about $4.5 trillion over the next 10 years. While there undoubtedly have been some headwinds over the past few months, we believe the basic story remains strong and intact. We think 8 to 9% GDP growth is more or less certain. The bigger question is can India get its economic, political and regulatory act together and push GDP growth rate to the 10 to 11% orbit.
Chinese growth has been one-dimensional. While its economy has grown, politically it continues to deny basic human rights to its citizens. On the other hand, if a democratic India can get its act together and achieve a 10 to 12% GDP growth over the next two decades, we could come back to [the landscape of] few hundred years ago, when India was the world’s strongest economy.
India Knowledge at Wharton: Edelweiss has been active in the wholesale side of the finance business, such as brokerage and asset management. You are now moving to the retail side. Why?
Shah: If you look at the financial services space in India, the capital market linked space, [including] wholesale and retail broking, asset management, insurance … is about 8-10%. The rest is occupied by financing and banking. Of the capital market linked space, only about half — 4to 5% of the total financial services space — is wholesale and the rest is retail. It is therefore inevitable that any entity that has achieved a significant presence on the wholesale side of the capital market linked financial services business will seek to expand and also get a share of the retail side of the business. We are following the same logic. That is why two years ago we launched our retail broking and asset management operations and have been consistently investing in them. Our life insurance [joint venture] with Tokio Marine of Japan has received in-principle approval from the insurance regulator and once we have the final approval, we will launch that business and invest in it as well.
Large parts of the non-capital markets linked space are not accessible to Edelweiss because we are not a bank. But we are still allowed to enter the retail financing space, which is what we have done. We have recently launched our housing finance business, as the home mortgage business is called in India. We eventually plan to straddle the entire retail financing space in areas like auto loans, personal loans and credit cards.
India Knowledge at Wharton: Many finance majors — like ICICI — have reduced their emphasis on the retail side because it adds to their bad loans. Many foreign banks have been selling off the retail portion of their business in India. Is the core problem the fact that you can’t recover dues from defaulters?
Shah: Some banks have scaled down the size of their retail loan books. But then again, there are several others who have actually aggressively expanded them. So it is not a systemic issue or even an issue of demand. Those that have scaled back have done so because of their internal dynamics.
The fact is that in an economy of over a billion people that is growing at 8 to 9% per annum, there is bound to be huge demand for all kinds of retail financing. Now it depends on your balance sheet, execution skills and distribution network, how far you want to exploit this opportunity.
We believe that it is too good an opportunity to forego. Obviously to ensure that the process does not backfire from defaults, you need to have state-of-the-art risk monitoring and management mechanisms. At Edelweiss, we have always been acutely conscious of risk management and continuously and consistently invest significantly in having the right people and processes for it.
India Knowledge at Wharton: What is the status of your housing finance venture?
Shah: Our wholly-owned housing finance subsidiary — Edelweiss Housing Finance — has got all the necessary approvals from the housing finance regulator, National Housing Bank, and has commenced operations. Initially, it has commenced work from Mumbai and New Delhi and we plan to expand to 23 metros and mini-metros over the next 24 months. These 25 cities cover almost 80% of the housing finance market in India. By the end of financial year 2013, we hope to capture a 2 to 3% share of the housing finance market, which will give us a loan book of about US$1 billion.
India Knowledge at Wharton: Do you plan to apply for a bank license when the Reserve Bank opens the gates?
Shah: For a broad-based financial services player, a banking business is a natural extension. The banking platform allows a lot of activities on the asset side as well on the liability side to converge and provide synergistic benefits. Whether or not we plan to apply for a license or, more importantly, are even qualified to apply will depend on the guidelines the Reserve Bank announces. This a discussion that is best left to the future.
India Knowledge at Wharton: Are you planning any foreign forays; the future in finance is for global players. Or are you seeking tie-ups and takeovers?
Shah: In spite of all the globalization, at its very heart, financial services is a very local business. We believe that this inevitability of globalization of financial services is a myth, especially if you look at India and China. None of China’s top three banks have any foreign tie-up. All of them have a market cap that is way higher than the so-called global behemoths. The fact is that India and China present huge and unique opportunities for smart, well-managed financial services companies to grow. There is enough capital available, [and enough] management talent. You don’t need a foreign tie-up to grow or thrive.
Having said that, let me also be clear that it does not mean that we are closed to any tie-ups or inorganic growth. It only means that we will judge these as opportunities in their specific market [and] time related context, instead of taking a blanket call.