Return-of-capital record must improve for funds to venture in

Sarath Naru, Managing Partner, Ventureast, an India-centric venture capital firm, feels that 2013 will be better for the VC industry compared to the previous year. “I am bullish from the perspective that we will see lot more exits,” he says.

This, he says, is because fund managers in VC and private equity firms have put in a lot of effort to build value in the companies they have invested in, so that strategic and financial investors look at these businesses and acquire them. “That will also create the kind of track record that we need to show investors globally that Indian fund managers are generating good results,” he says in a recent interview.

Investing will continue to be selective and sober. There is a little bit of ebullience in seed stage investing. However, he feels the excitement should not be restricted to investing in a venture but also thinking about growth and who the next investor will be.

Fund Raising

On the fund raising side, Sarath feels that 2013 will not be worse than last year. “It will only get better,” he adds. This is important from Ventureast’s perspective because it will start thinking of raising funds this year. “It might go up to $200 million, but our funds have been around $100-150 million,” says Sarath, a B.Tech from IIT-Madras and an MBA from the Booth School, University of Chicago.

Ventureast has around $300 million under management through three funds and invests in seed, early and growth stage ventures. It has backed over 60 companies since the late 1990s. The fund raising will be through two funds – one that invests in technology and technology-enabled companies and the other a seed stage fund.

The fund raising environment for the VC/PE sector is “pretty tough,” according to Sarath. While there is money waiting to find a home from an allocation angle, the actual cash distribution back to the investors in funds from India has not been exemplary. China, on the other hand, has been able to return a lot of capital. “The Chinese were able to show that they were able to return capital in as little as three years. And we struggled,” says Sarath. The exit scenario on the stock markets in India is not also good enough. Considering the money that has been returned as a proportion of the total funds that have been invested, it is important to note whether it falls in the top quartile or the medium quartile, in order to be considered significant value.

“That is the rub. India is falling into the lower quartile. That is the challenge,” says Sarath. Fund managers still believe India is a good place to invest, but it should not be just for the sake of investing. The fund managers need to show growth and then monetise their investment. That ability to monetise the investment and whether India has met comparable benchmarks, are the challenges. India has not met the benchmarks of funds of similar vintage, according to Sarath.

The last calendar year, according to him, was bleak from a fund-raising perspective. A number of VC/PE firms got caught in the international turmoil and were not been able to complete their fund raising plans. From the point of view of amount invested too, there was a significant drop over 2011. However, the one bright spot was that there was a lot of investment activity in seed stage ventures.

Positive development

One positive development was that private equity growth capital funds were morphing their style to say they would not do only growth capital. Earlier, they would invest their money in one shot, but are now looking at investing through multiple rounds. “They are taking baby steps.” That will increase the capital for all those deals that have cleared the seed stage.

On the exits side, there were a lot more exits through strategic sale and larger funds buying out the existing investors.

According to Sarath, almost 80 per cent of Ventureast’s investments go into companies that are India centric and the balance that are India based but have business elsewhere, or what he calls the opportunistic bucket. It stays invested in the companies anywhere from four years to seven years and in some cases up to 10 years. In the seed stage, Ventureast will invest as low as $500,000 in the first round and up to $1.5 million in subsequent rounds. From the two other funds it manages, Ventureast’s sweet spot is $2-3 million and up to $10-15 million in subsequent rounds. It generally picks up more than 25 per cent but less than 50 per cent stake in these companies. “We want to let the entrepreneur team and the promoter team to have a reasonably strong shareholding so that they continue to be motivated.”

Attractive sectors

On sectors that look attractive, Sarath says there are three broad categories – consumer oriented, B2B and export driven, and the one driven by government initiatives. Technology focussed companies will fall in all three categories. Consumer-oriented sector, including education, healthcare, food and agri-business will continue to see a lot of action. The sector that depends most on government initiatives is infrastructure, where dramatic changes are needed. If the government starts taking steps to improve infrastructure, then clearly there will be a lot of investment activity in that sector as well.

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