Private equity (PE) firms looking to invest in India are playing it safe in a volatile market by pitching for flexible valuations linked to performance. Investors now want a larger stake in an investee company during the period of investment if the performance falls below expectation.
In other words, the investors are telling the company: If you cannot increase my money’s worth, give us a larger stake instead.
The new conditions are drawn up in advance.
“We are now actively monitoring the companies where we are invested, and if required, we are working with the management to re-evaluate our investments there,” said Ajoy Veer Kapoor, founder and managing director, Saffron Asset Advisors, which runs India-focused PE funds.
Industry insiders say flexible valuations can be worked out in many ways.
For instance, a PE investor can invest the required money upfront with a pre-determined number of shares that belong to the founder kept with a trustee.
If the company’s valuation falls below expectations, the set-aside shares are transferred to the investor.
Another way is to increase the paid-up share capital of the company, where the founder pays up the increase after shareholder approval, while a third method is to issue convertible debentures linked to a conversion formula based on the earnings of a company.
“We cannot change the rate of return we promise to our investors, which is why we need to be more involved with the companies we have invested in,” said Suraj Kalra, investment banker at Enam.
This increased vigilance is now showing up in sectors such as media and real estate, according to investment bankers.