What Now?

By Cyrus Driver

  • 03 Nov 2008

The fireworks in global financial markets have provided an ironic prelude to the festival of lights. May the New Year bring liquidity, reduced volatility, a shallow recession in the US and GDP growth of over 7% in India (can’t really hope for more than that).

The world has changed dramatically since Diwali of 2007. An era of excessive leveraging, characterized most notably by the sub-prime crisis, came to an abrupt end this year with the collapse of some iconic names in the financial world (Lehman, Bear Stearns – we shall miss you). Stock markets have fallen by 30%-70% since January in most parts of the world and credit markets were frozen until very recently.

It took massive government interventions to keep banks solvent and to get them lending to one another again. The growth outlook for the world economy turned darkly negative. Esoteric financial terms such as collateralized debt obligations, carry trade and credit default swaps entered dinner table conversations as CNBC tried to make sense of it all for the lay public.


In an atmosphere of heightened risk, global investors pulled money out of emerging markets and rushed to the safety of the dollar. At the time of writing this article, net FII outflows from India this year had already crossed $12 bn (vs. net inflows of $17 bn in 2007) and the Sensex had dropped below 9,000. The same forces could push the Sensex lower, despite India’s GDP growth rate being projected at over 6% by worst estimates (a sizzling rate of growth by historical standards and far higher than the developed world).

So where does this leave the PE/VC community in India? What are they thinking? Here’s what I’ve been hearing:



I have yet to meet an investment professional who can honestly claim that he/she foresaw a financial crisis of this severity. Most investors were amazed at the speed at which markets tumbled after the weekend that saw Lehman go bust and Merill Lynch get sold. Even old hands that have been around from the mid ‘90s have seen nothing like it before. Over time, many best sellers and PhD theses will be written about this crash, but for now everyone is still trying to figure out how things got so out of control.


All funds that were active investors through 2007 and 2008 are badly hit. Almost half of PE investments in this period were made in listed companies and often at a premium to the prevailing stock price; these investments have fallen 40-80% in value in line with stock indices. No one has been spared – globally respected firms such as Blackstone and Warburg Pincus as well as home-grown leaders such as Chryscapital have suffered such mark-to-market losses on the listed investments they made in 2007 and 2008.


In private investments, the mark-to-market write-downs are less evident, but every investor recognizes that the likelihood of exit and the likely value realizable at exit have declined substantially over the past two months. Most funds are now busy working with their portfolio to mitigate the risks of an impending economic slowdown and their teams’ morale is weighed down by the burden of having to repeatedly explain these losses in their internal portfolio reviews.

The fortunate few are those funds that completed fund raising relatively recently and therefore have kept their powder dry. These funds – Gaja Capital ($200mm fund raised in 2008), Lighthouse Funds ($125mm fund raised in 2008), etc are relatively untouched by the crisis, both financially and in terms of morale, and are best positioned to make the most of buying opportunities over the next year.



Most PE investors have already revised downwards their expectations of earnings growth for their portfolio companies. This holds true across sectors – real estate, infrastructure, IT & ITES, financial services; the only possible exception being consumer goods. They are transmitting their caution to the entrepreneurs they work with and are urging a focus on cost control, conservation of cash and capex cutbacks.

Those investors that still have an appetite for immediate fresh investments are bargaining hard on valuations and are taking longer to make up their mind on investments. Deal flow in cash generating businesses (the kind investors would love to back during a recession in tight money conditions) has all but dried up as entrepreneurs in such businesses prefer to wait out this period. Very few PE deals have closed in the past two months and very few are expected to close in the rest of the year.

Some PE investors have shifted their attention to secondary purchase opportunities in public markets and are planning to make large purchases over the next 2-3 quarters.


Within PE firms, big bonuses and pay check increases are now history (alas!) as these firms prepare to practice the same belt tightening that they are preaching to their portfolio companies. Hiring has been virtually frozen as firms adopt a “wait and watch” stance for the rest of the year.

2009 will separate the men from the boys. The financial crisis has not played itself out completely yet, so there may be more surprises in store. PE firms that can hold their nerve, retain the confidence of their investment committees and look beyond the immediate slowdown will likely reap big gains eventually. Watch this space.


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