Indian private markets bracing for correction

The writer is general manager of BlackRock

For private equity and venture capital firms in Bangalore, 2021 has been a great year. Flows have surged to record levels and a wave of tech companies have achieved “unicorn” status, with capital raisings valued at $1 billion or higher.

With the generosity of central banks supporting markets around the world, there were about $65 billion in inflows into the Indian private equity and venture capital industry in 2020, according to data from Credit Suisse.

India added 43 “rhinos” during the year, bringing the total in the country to 93 with a combined value of $330 billion. This is approximately 10 percent of the estimated 1,000 unicorns by Credit Suisse located worldwide.

However, it is clear that 2021 could be as good as it is for some time for young private companies as tighter financial conditions emerge. Interest rates are now rising from the lows that have held since the 2008 global financial crisis faster than anyone expected just a few months ago. Investors are likely to be more demanding in terms of the terms and returns they are looking for as a result.

Bangalore is preparing for the final correction in the assessments. The only question is how bad it will be and how long the effects of the second round will prove.

The contribution of India’s unicorns to economic activity is significant. Their collective value is equivalent to 10 percent of the market value of listed companies, compared to 4 percent to 5 percent in the United States and China, according to Credit Suisse. New economy icons like Ola, the ride-sharing company and food delivery service, create hundreds of thousands of jobs each year for the relatively unskilled youth.

The wealth effect was evident in India’s megacities where young tech entrepreneurs leveraged their holdings to buy luxury residential homes – before their stock prices corrected. Previously, only older tenants who saved up for decades to afford such extravagance could buy in the pockets in Gurgaon and Bangalore.

In retrospect, many industry figures believe that central bank liquidity created a bubble in India’s digital regions, just as it did in the United States.

Until the end of last year, there was little differentiation between stronger and weaker business models. “We will see companies being valued based on metrics like price to vision,” one Mumbai investor quipped.

Credit Suisse analysts also noted that “inflows have exceeded companies’ absorptive capacity.” Only a few of those tech companies that went public last year are now above the initial public offering price.

“It’s as if the US was back in 1995 after the initial public offering of Netscape. Rahul Khanna, founder of Mumbai-based Trifecta Capital, a company that delivers project debt and growth equity to Indian start-ups,” said Rahul Khanna, founder of Mumbai-based Trifecta Capital.

But with the potential for pressure on valuations, some investors are wary of what comes after Netscape. Companies such as General Atlantic and Lightspeed did not actually conduct any new transactions in 2021, focusing instead on supporting their existing portfolio companies.

“We see the same opportunities we saw last year, but now the founders are no longer calling for decisions in a couple of days,” said Bijul Somaya, partner at Lightspeed in Delhi. “We can get to know the entrepreneurs and build a conviction. In the past year, there has been a lot of anxiety.”

The correction hit the public market more than the private market. Thus, food delivery service Swiggy remains private and is worth $10.7 billion compared to Zomato, which has seen its share price nearly halve from its November peak to a level just 5 percent more than its IPO pricing last July.

This is partly because investors have more freedom to mark their private portfolios than their public holdings. With the latter, accounting standards are becoming clearer, making it easier to measure companies’ performance. But it is inevitable that the current valuation gap between private and public markets will narrow.

In the long term, strong fundamentals and more differentiation mean that it may be possible for young companies to play a greater role in supporting the Indian government’s aspirations to outpace other emerging and developed markets in everything from artificial intelligence to decarbonization.

But as in the United States in 2001 and 2002, there may be a rough period as some start-ups collapse from within while stricter scrutiny uncovers wrongdoing in others. Going down from dizzying heights is often painful in the short term.

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