Changing contours of PE/VC deal-making

By Hemendra Mathur

  • 18 Jan 2016

The deal-making in PE/VC industry has transformed in the last decade and my guess is that it’s going to change much more in the next decade. The effort in searching quality entrepreneurs is going to become more intense. Fund managers have to work harder to deploy capital in quality deals at relatively early stage of the fund’s life cycle and demonstrate tangible value add in the investment period.

Fund manager’s patience will be tested particularly by the new age entrepreneurs who usually have exceptional academic backgrounds, good teams, tech-orientation and hunger to prove themselves. However, majority of them do not have experience of handling down-cycles and in some cases even maturity to deal with investors.

The paradigm shifts in deal-making will happen with the industry maturing. Here are the top 10 trends in the PEVC industry and their implications for future:


1. There is much more discipline among investors in evaluating and negotiating deals. The management quality supersedes almost every other investment parameter. The promoters’ integrity and their two hundred per cent commitment to the business are key investment filters. Investors are doing much more forensic checks and diligence on promoters than ever before. Technology has facilitated micro forensic checks about promoters as well as key management.

2. Secondly, alignment between promoters and investors is the most discussed issue on negotiation table. India is still largely a growth capital market where investors typically have minority stakes in the company. As minority protection rights, investors are demanding a lot more rights on information sharing, reporting, governance and more  flexibility on exits (drag/tag along, buybacks, defined time periods etc). 

3. Thirdly, entry valuations are becoming more palatable (except for ecommerce/tech led businesses). Investors have realised that a brilliant company at an expensive valuation is not worth it. Investors are more prepared to walk out of deal if entry valuations are not reasonable.


4. Fourth, the search for quality entrepreneurs is becoming more challenging. That's why many funds are chasing a few select deals. Going forward, ability to source and cook proprietary deals will be a key differentiator for fund managers.

5. The role of i-bankers and deal makers has also evolved. The ones who are on the sell-side need to work closely with promoters to set their valuation expectation right, to make them deal ready and conveying the implications of clauses negotiated in the term sheet.

6. The deal-making time is going up. Most investors prefer to have courtship of at least 6 to 12 months. This is an important period for both investors and promoters to understand mutual expectations and way of working together.


7. For new-age businesses (ecommerce /tech/marketplace/aggregation), their ability to attract funds will be driven by demonstration of business sustainability. Today, most entrepreneurs are sacrificing bottom line for pushing top line growth. Investors are also culprit in spoiling profitability discipline among entrepreneurs by linking valuation to revenue, GMV, app meters etc.  Going forward, the company's ability to break even and demonstrate visibility of cash flows will be key to driving valuations and investors’ interest. 

8. Investors’ ability to work with promoters and constantly add value will gain more importance. Funds need to demonstrate domain/operational expertise in the investment period. Promoters, particularly who are cash-rich and averse to dilution are becoming more demanding and looking for smart capital. Investors are expected to raise debt, reduce cost of debt, hire and manage talent, assist in market development, global expansion etc in addition to conventional work on budgeting, control and governance.

9. Reporting is becoming more detailed and frequent. Weekly/monthly dashboards are common now. No one is willing to wait till the end of the quarter. Investors clearly prefer prognosis than diagnosis. They are pushing for good ERPs and it is now usually a precondition to investment.


10. Last but not the least, given Indian PE’s relatively poor track on exits, investors need to work on exits right from the word go. In addition to driving performance and governance, investors need to start dialogue with potential buyers (strategics as well as funds) and keep them posted on the progress of the relevant investees. In case, IPO is the preferred exit route, investors need to educate and work with companies to make them IPO ready which can be two to three years prior to IPO.

In nutshell, fund managers need to brace themselves and work harder from sourcing quality deals to negotiating to managing portfolio to exits. Fund managers themselves need to inculcate entrepreneurial aptitude to become successful investors.

(Hemendra Mathur is managing director at SEAF India Investment Advisors. Views are personal.)


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