Last year, India received $8 billion in foreign direct investment and more than $10 billion in foreign institutional investment. Even with the ups and downs that typically mark investments in emerging economies, it seems everyone wants a piece of the action in India. But as capital inflows surge, what kind of returns can really be expected in a market that some believe is overvalued? How can investors reap rewards given the very real risks?
These questions were discussed at length in a session titled, “Investing in India: A Cyclical or Secular Story?” moderated by Goldman Sachs managing director Gaurav Bhandari, at the annual Wharton India Economic Forum held in Philadelphia, Pennsylvania. Overall, the investors on the panel were optimistic about the investment climate in India and offered some insights on what to look for when making deals in various sectors.
Maintain a Long-Range Vision
The key to investing in India, the panelists agreed, is patience and understanding coupled with thorough sector-specific research. Shiv Khemka, vice chairman of SUN Group, a family-owned investment firm, said that the opportunities in India were indeed secular. “We believe that the reorganization of India’s real estate is a long-term growth story, and we are quite attracted to infrastructure-related areas,” he noted. Opportunities are also emerging in the energy sector, he said, where demand will outstrip supply.
Khemka’s firm, which has investment experience in several markets including Russia, has learned lessons from its previous forays. In emerging markets, said Khemka, entry is easy but exit is difficult: “You really have to stick with it and have a hands-on style of managing operations.” Another key factor is having the right management team. “You have to have people who are dedicated and who have the right attitude,” he said. “The best people create the best investments.” Finally, Khemka added, his company looks for exciting investments: “That way, we’ll be able to focus on it for the length of time required.”
Akhil Gupta, senior managing director and chairman of The Blackstone Group, India, noted that the first thing his firm did when raising its Indian private equity fund was to adapt their strategy to Indian conditions. “In the U.S., our partners are not allowed to do deals of less than $250 million. Obviously in India that’s not the case. But Blackstone recognized India is very important strategically.” While traditionally the firm’s stronghold was in the U.S. and Europe, the partners decided to examine other areas and found that India was a prime place for entry. “Although there were growth opportunities elsewhere, there were institutions in India that made a private equity firm feel more comfortable,” he said.
Even so, Gupta explained, Blackstone didn’t jump right in to deal-making. “The first year was all about getting to know the country. We have seven professionals there on the ground. Now, people say, ‘Oh, you’ve only done one $50 million deal,’ but our view is different — we believe it takes two years to build the team and really get to know the land.” In the last year, Gupta noted, deal flow has increased dramatically, and the role of private equity is increasing. “While at first we said we’d do a $50 million deal only if the company was outstanding, now we’re looking at several deals of $100 million or more. So a lot has changed even within one year.”
Add Value or Quit
Gupta explained that when faced with a high level of deal flow, having a sound screening system is important. “The key thing we look at is our ability to add value to the company,” he said. “If we can’t, we pass on the deal, because then the emphasis would be on valuation and we’re not in that game. If management can recognize that we can come in and add value, then it’s good.”
Convincing the management that what they’re offering is a good deal isn’t always easy. “In private equity, we are not as influenced by public market valuations,” said Gupta. “We look at a company’s fundamentals, and we look at companies that may be undervalued. We can add value that the market can’t discount. Now of course, entrepreneurs’ expectations are often defined by the market, but if there is a gap between the market valuation and what we bring to the table, we can often offset that by the value we’re adding.”
Gupta noted that one of the biggest contributions his firm can make to companies in which it invests is the ability to take a company global. “With every company we’ve been involved with, we also look at potential synergies with other portfolio companies. Every deal we have goes through the same process, so it benefits all partners, and we all get the expertise.”
Neeraj Bharadwaj, a partner at Apax Partners, agreed. “Many Indian sectors are highly fragmented,” said Bharadwaj. “Instead of finding companies of scale, we might find one that serves as the consolidator for that segment. If you look at Ranbaxy, Wockhardt, Dr. Reddy’s, and so on, they don’t simply hope to be large in India but to be global players. That provides opportunities for the private equity firms. Now, private equity always looks more expensive to the entrepreneur, so we have to find companies that truly believe in our vision.”
One deal that his company passed on, Bharadwaj said, was Idea Cellular. “We are strong investors in the telecom space. We looked at Idea in 2004. We thought it was attractive and believed that mobile penetration was definitely growing. The problem was, we didn’t think the shareholder issues between Tata, Birla, and AT&T Wireless would ever get resolved. In hindsight, of course, we probably should have stuck with it.” Just last month, Providence Equity Partners announced that it was buying a 16% stake in Idea, and an IPO may be in the works next year.
For a real estate perspective, the panel turned to Prakash Gurbaxani, CEO of TSI Ventures, a joint venture between Tishman Speyer and ICICI Venture. “Our fund is focused on real estate, but we don’t just take a financial stake — we’re also the developer,” noted Gurbaxani. He said that foreign direct investment in Indian real estate was deregulated about 18 months ago, and his was one of the first companies to enter the market. “The industry is fairly fragmented in India. On the one hand, we work like a developer, but we also have proprietary capital that we raise and invest. We are planning to launch our first project early next year.”
While some areas of the country might be overvalued, said Gurbaxani, the sheer demand for infrastructure keeps the market attractive. “There’s been a huge increase in per capita and personal income. Also, until about five to ten years ago, there wasn’t any consumer finance availability. There are more five-star hotel rooms in Las Vegas than in all of India. So there’s just a huge supply and demand disconnect.”
The growth India is experiencing, Gurbaxani added, isn’t confined to major cities. “It’s not just Mumbai or Delhi or Bangalore — it really is spreading and significantly affecting more people than ever. If you look at the affordability index in housing, you’ll see that ten years ago people bought homes mostly after they retired. It would take their whole life to save up for it. The average home price was 15 to 20 times annual earnings. Now, it’s four to five times annual earnings, and mortgage financing is available on top of that.” Because of these factors, Gurbaxani believes the market is ripe for prudent players to make serious money.