Indian Equity and Debt ecosystem is tougher than the West
In India, the same story was witnessed with home grown e-commerce players like FlipKart and SnapDeal but patience of PE players soon fizzled out. Focus soon shifted from GMV (Gross Merchandise Value) growth to “Unit economics”, thus squeezing access to further capital for these players at a valuation they had already reached.
There are many reasons for this phenomenon in India, which is given in greater detail ahead.
Indian Venture capitalists and Private Equity players all prefer borrowing abroad, owing, off course, to low yield. But mostly, they have to live with evincing Funds from Indian investors (Angels/ Partners), who themselves have a choice to either get an 8% fixed, risk-free return on Treasury products or look for better returns from investing in Startups. Hence, the return expectations are higher with faster exit expectations, than the West.
On Debt side – Crux of the problem in India, apart from the fact that Indian debt bears high interest liability, is that Project Funding as the term goes is infeasible in India, due to Judiciary being in permanent Coma. Project Funding abroad means Banks take project risk (Primary Collateral being Charge on cash flows and Charge on fixed & variable assets being created). But in India, since project risk is traditionally sky high (because Judiciary is unreliable), Banks interpret Project Funding to mean inclusion of Personal Guarantees, Corporate Guarantees, Charge on personal assets of Promoters, Charge on shares/ equity of promoters etc. While this is understandable, but look at history of Banks trying to enforce such Guarantees and charge on assets to recover bad loans – Loopholes in Judicial process and delays are exploited to the hilt by Promoters who have loads of money siphoned off from the Loans to their company!
How difficult is it for Indian Buyers and Sellers to manage Working Capital and LC’s/ BG’s? It is exponentially difficult to procure these from the formal financial system. Indians Banks ask for collateral, which is not the stock-in-trade but Promoter’s real estate, jewelry or even FD’s (Fixed deposits). The same Banks, though, go all the way in lending huge amounts to big corporates, basis charge on assets being created by their lending. This perversity has been reinforced since Bank’s balance sheets have been burnt by loans to crony corporates, many of which turned into NPA’s (Non-Performing Assets), thereby decreasing Risk-taking capacity of the Bank.
Schemes of Government such as the Mudra Bank are not a direct relief to MSME’s because Mudra is a refinancer of small loans and the front-end still remains the PSU (Public Sector Unit) Banks. In this scenario, MSME’s have to resort to taking working capital from Black money market at exorbitant rates of 15-40% p.a.
Indian Banks create their own rules, beyond mandated by RBI (Reserve Bank of India), to accommodate high Risk and to beat the air of lawlessness. Thus, Government’s initiatives to lend more to MSME’s face roadblocks. In contrast, the same Banks go long on lending huge sums to large Corporates, a large part of which have become NPA’s (Non-Performing Assets), thus constraining their lending capacity. As it is said, when you borrow small, you are after the Bank; but when you borrow big, the Bank is after you!
The same phenomenon manifests in Banks wanting to invest in AAA rated companies and securities, being low risk, but these companies are already flush with cash and hence offer low yields. The needy MSME, being high risk, is denied its share, in spite of holding the potential of the next Unicorn!
On the listed equities front, SEBI (Securities and Exchange Board of India), has been talking of an exclusive Startup exchange – keeping in view that most startups would not meet the existing listing criterion on NSE and BSE! For one, they have a long tail investment horizon, with persistent losses. Then there are compliance issues emanating from the long KYC (Know your customer) norms. But the launch of such an exchange seems to have been put off, for now. It doesn’t help that India has no such Startup exchange of the likes of AIM (Alternative Investment Market), London.
So, if you are an Indian startup, be ready to face a stiff Money ecosystem, keep collateral ready and be prepared for a high price of failure.
Some of my articles explained these issues in greater detail, see below:
More in next Part, next week