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<Apr 17, 21> ‘Tis the Season to be Jolly… - An Article by U. Sinha in Business World

If India plays its cards right, 2021 will be a year for significant growth in the VC and PE landscapes; of massive new fundraises focused on India, and of an ever-higher rate of deployment of that capital.

Six unicorns in four days. USD 6 billion in new investible capital earmarked for India. The return of Tiger Global. Health and happiness in the later-stage funding cycles. FY21 has certainly started out on a merry note, and we are only seeing the tip of the iceberg.

While the numbers above may seem frothy and overly optimistic, truth is that there is a significant funding gap in the Indian ecosystem, particularly as it pertains to early-stage deals in both the tech / media focused venture capital landscape, and non-tech early-stage private equity. According to IVCA’s landscape report, India’s startup population is growing at a steady rate of c.16% - 17%, but just over 9% of these are currently funded, leaving significant room for newer venture funds to strike deals. The story in the PE landscape is even more dire, with a mammoth equity funding gap for non-tech ventures. But the global LP appetite for Indian funds is at its highest: these factors, married together, imply that the years ahead promise significant growth in investible capital on our shores.

Let us examine all these trends in more detail, starting with the renewed LP focus on India. The US, and other developed markets, have entered a phase of ultra-low interest rates that are here to stay. A Bloomberg review of monetary policy covering 90% of the world economy shows that no major western central bank is expected to hike interest rates this year, with some projected to make further cuts. This is a conscious monetary policy move on the part of most economies, a deliberate action aimed at increasing the flow of investible capital and real money in the economy, geared towards aiding a recovery.

But capital flows enjoy their own special variant of fluid dynamics, causing a flow towards greatest returns with the lowest risk. As large LPs - pension and mutual funds, fund-of-funds and large financial institutions make adjustments in their portfolio mix to meet their targets, a dynamic re-allocation is underway that is favoring the flow of equity (and some debt) capital to fund growth in promising economies. And no economy is starting this FY more favorably than India.

IMF’s 2021 World Economic Output projected 12.5% growth for India just this month, despite an 8% contraction last year. The projections for 2022 are at 6.9% - both the rates are the highest of any nation, including China, which is projected to grow at 8.4% and 5.6% respectively. As the only large economy projected to grow at such a massive rate, one can expect the fluid dynamics of capital flow to carve wide and deep channels of capital flows towards India, aided in no small part by the glacial melt of capital holding reallocation in the US and other Western institutions. India has done well in establishing itself as a preferred destination for capital, particularly in contrast to China, which shall serve the Indian investing landscape well as it hits the roads to raise additional capital. We have a stable regulatory environment, predictability in government policies and enforcement action and an open and accessible capital market, that provides investors the liquidity and security they need to deploy capital without concern, especially when contrasted with China - where the inherent uncertainties across all these dimensions is a hurdle that must be (and often is) jumped in order to participate in the growth story.

That is coupled with the massive headroom for growth available in India: while the Indian VC landscape is vociferous, the truth is that we are funding but a minute fraction of the startups that have the potential to deliver returns. And a bulk of that funding is going towards a narrow few sectors that are buoyed by the Indian consumption story. There too, the bulk of Bharat consumption still lies untapped. Early-stage aversion to riskier sectors - manufacturing, supply chains, deep tech, biotech, drones, battery tech, electric vehicles and the like - is largely a function of the lack of venture capital funds dedicated to these spaces. One can expect a lot of this to change in the next couple of years. We are already seeing the rise of dedicated funds in each of these spaces, and can expect that trend to continue into 2021. The era of hardware and deep-tech startup funding in India may finally be upon us.

The story in non-tech manufacturing is even more appealing. We are presently a nation of bonsai MSMEs: they have grown to the extent they could within the constraints they have around them. Often family owned and operated and almost entirely debt funded, these are firms that are waiting to be replanted into the terra-ferma where they can be tended to by professional managers and feed on equity capital flows to mushroom into the giants they are capable of being. In many regards, the Indian non-tech MSME landscape is where the US was in the 80s and 90s, with large scale conglomeration and growth constrained small family firms, lying around as dry lumber that can be ignited with equity capital.

The irony is that we have a healthy and mature ecosystem of late-stage private equity in India, just across the river. On this side are companies that have matured to a level of revenue and EBITDA that is just short of their interest threshold. What is needed is a cadre of early and growth stage non-tech private equity - boatmen and women who can ferry these companies across the river. Who can invest $10m - $25m in to shake up stunted companies, install professional management and systems, and over 3 - 5 years, realize a doubling or tripling of toplines to make these attractive for the later-stage PE players, booking great exits and returns in the process. We can expect some activity in fresh fundraising in this ecosystem as well.

If India plays its cards right, 2021 will be a year for significant growth in the VC and PE landscapes; of massive new fundraises focused on India, and of an ever-higher rate of deployment of that capital.

So, strike the harp and join the chorus… merry times await.

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