OFS-IPO boom: A boon for seamless PE exits

Ever since SEBI tweaked the OFS rules in 2014 allowing non-promoters holding more than 10 per cent equity to offload stakes, the primary market opened the floodgates for Private Equity (PE) and Venture Capital (VC) exits. PE players could now afford to stretch their holding spans, help their firms achieve significant scale and size, escape the IPO lock-ins, and fetch attractive returns through market sale, not party-specific block deals.

Given the role they play, it is only fair that PE and VC players get an efficient conduit for exit. They help emerging companies move up the value chain faster and offer tailored and timely advice on how to mitigate risks and achieve scale in optimal time. They have the talent and temperament to place calculated bets even amid looming uncertainty and disruption. Given the typically shorter time frames of intervention and control over their investments, opportune exits help them on many counts: in redeeming capital to limited partners, enhancing their market reputation, and unlocking funds for other strategic buys. A thriving primary market is thus critical to their divestment agendas.

India received $232.4 b in PE-VC investments during 2011-2020

Covid and after

Post 2014, PE exits galloped steadily — $287 million in 2015, $935 million in 2016, and a record $1.17 billion in 2017, a year that saw PE investors like Warburg Pincus, ChrysCapital, Lightspeed Ventures, Madison India, Temasek, Atticus and Quantum Funds making partial or total exits from IPOs including AU Small Finance Bank, Eris Lifesciences, Indian Energy Exchange, Godrej Agrovet, and Bombay Stock Exchange.

However, the primary market was marred by liquidity issues in 2018-19. Poor response to IPOs and consequent low valuations prompted many PE and VC investors to hold back their exit plans and turn to the conventional routes of secondary sales and strategic stake sales for making exits. In 2018, the PE and VC exits dropped over 70 per cent compared to the previous year. 2019 was a year of record PE investments but poor exits: only four IPO exits worth $884.6 million.

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2020, the year of the unfortunate Covid emergence, showed little promise for obvious reasons, but the second half of 2020 saw a resurgence led by the PE-led public issues like Burger King India and Mrs. Bectors Food Specialities. In a virus-dictated environment, several capex projects were scrapped or postponed. As corporates wrestled with unutilised capacities, the need for growth capital was arrested if not abandoned. Expansion and diversification were not as pressing a need as survival and sustenance. No wonder, stake offloads followed as soon as the stock market looked up following the trying months of the first Covid wave.

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That PE players in India have reclaimed the primary market exit route is the outcome of a host of factors, including but not limited to the highly resilient stock market and the Covid surge. Among the other triggers are maturing capital markets with PEs adopting a more disciplined approach to exits, as also increasing onus on them to repay capital to their limited partners.

Rich exit harvest

This sunrise is now expected to reap a rich exit harvest in the current year. Already, the market has seen as many as nine PE-led IPOs in the first quarter including the Sequoia Capital-backed companies Indigo Paints and Stove Kraft. According to EY India’s IPO report, over 20 companies have filed their DRHPs, while more than 30 PE-backed entities have chalked out elaborate exit plans.

More importantly, this trend of offloading stakes through the primary market is beneficial for all stakeholders, provided players with professional managements, sustainable themes, and robust, forward-looking models approach the market. No wonder, IPOs are now acting as expedient conduits to provide timely exits to many early-stage investors and founders through the OFS route. Over time, companies are getting better at striking a judicious blend: of offloading stakes and inviting fresh capital in the same stroke.

In the context of OFS, it is pertinent to highlight the fact that offloading of stakes, whether by promoters or non-promoters, is needlessly linked to a negative connotation. The main argument against the stake offload is that it allows owners to pocket the extracted value with no effect whatsoever on the company’s balance sheet. Indeed, an OFS through the secondary market invariably becomes questionable if the said company is not inherently growth-oriented and forward-looking. A few promoters may desperately cash in on the firm’s market value fearing either overvaluations or fading prospects, and perhaps offer discounts solely to lure stock market investors into the defendant game. Worse, market manipulation can mar the OFS prospects like it allegedly happened in the case of Wabco India and GMM Pfaudler.

A primary market OFS is launched by promoters and PE investors solely on their non-public reputation and performance, in the absence of a listed value. More importantly, the stake sale happens in a transparent and equitable manner, and at a reasonable discount. That the promoters do not need significant public money to fund their expansions is no ground to question their offloading motives. A case in point is the OFS-cum-IPO of Narayana Hrudayalaya launched in 2015, which saw promoters and key investors offloading part of their stakes. This divestment was by no means a sign of low confidence in the enterprise, which has since launched mega expansions, both globally and locally.

Win-win window

The OFS done right becomes a window of win-win prospects. While the promoters and private investors can monetise the fruits of their seeding efforts, institutional and common investors have the opportunity to take up part ownership in a profitable or promising enterprise.

For private equity players, the OFS-IPO boom is even more heartening, given the sticky challenges of strategic M&A sales. Thanks to the chronic issues plaguing Indian businesses, including mind-boggling debt levels and unhealthy balance sheets, coupled with a discernibly cautious approach adopted by overseas investors, scouting for buyers has become increasingly difficult in recent times. Even when a strategic buyer is found, the price tag is invariably far from exciting. The primary market always offered PE and VC funds the dual benefit of partially reducing stakes while continuing to ride stock upturns post listing. OFS has made the exit deal even more attractive and rightly so.

The author is MD & CEO, Yes Securities

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