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Hedge Funds Swoop Low in India E-Frenzy Chasing Next Alibaba

Such is the excitement over Internet startups in India that practically every other week this year there’s been a conference in a luxury hotel aimed at luring investors.
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  • Bloomberg

MUMBAI, India — Such is the excitement over Internet startups in India that practically every other week this year there's been a conference in a luxury hotel aimed at luring investors. Global hedge funds, private-equity firms and fund managers have been swarming India to grab a share.

Falcon Edge Capital of New York, Maverick Capital from Dallas and Hong Kong’s Tybourne Capital Management and Steadview Capital Management are among 14 hedge funds, investment firms and asset managers that have pumped $3.8 billion into 26 Indian technology and e-commerce startups since the start of last year, according to data compiled by Bengaluru-based analytics firm Tracxn.

They're taking an early-stage funding role more typical of venture capital and are joined by private-equity giants such as Warburg Pincus and Carlyle Group LP, as well as Iconiq Capital, the San Francisco firm that manages money for Mark Zuckerberg and Sheryl Sandberg of Facebook Inc. Even Jack Ma, founder of China's Alibaba Group Holding Ltd., visited India looking for investment opportunities in the past six months.

“After Alibaba’s IPO, funds began looking out for a frontier market where that story will be repeated,” said Aashish Bhinde, executive director at Mumbai-based Avendus Capital Ltd., the country’s most active adviser on e-commerce fundraising. “India is the clear answer.”

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Record-Setting

Target companies include online grocers, a bill-payment service, a seller of baby clothes and accessories, and websites that list classified ads and restaurants, or broker housing and budget accommodations. The market is expected to grow rapidly, as 75 percent of India’s Internet users are in the 15-to-34 age group that shops online and just 19 percent of Indians are Internet users, according to a February report by PricewaterhouseCoopers LLP.

The number of investments in the Indian e-commerce industry by global hedge funds and asset managers in the first quarter of this year set a record since deals began gathering pace in 2013, according to data compiled by New York-based researcher CB Insights. Spokesmen or principals for Falcon Edge, Maverick Capital, Iconiq Capital, Steadview Capital and Tybourne Capital all declined to comment on their deals.

“Hedge funds are tempted to jump into early-stage funding rounds, which was the exclusive territory of venture capital funds,” said Ravi Gururaj, a Bengaluru-based angel investor with holdings in more than 20 startups. “Valuations are stepping up so fast between rounds that they feel compelled to come in early or get priced out in their traditional rounds. They want a horse to ride on and the rights to invest in later stages.”

‘Rich’ Valuations

Indian media has been filled with commentary over whether Internet startups are experiencing a bubble or a genuine boom. An Ernst & Young Inc. report back in 2013 raised “concerns relating to a valuation bubble” due to companies’ lack of profitability. A UBS Group AG research report last month titled “Is India in an e-commerce bubble?” asserted that the answer is no and that investor concerns are “misplaced.”

Still, valuations are “rich” compared with global peers, according to Gautam Chhaochharia, the UBS report’s lead author. His analysis of implied valuations for the industry as a whole finds Indian Internet companies may be collectively overvalued by as much as $8 billion. Investors are paying a premium based on expectations of exponential growth, Chhaochharia wrote.

Combined sales of India’s three largest e-tailers — Flipkart Online Services Pvt, Snapdeal.com and Amazon.com’s India portal — was $85 million in the year to March 2014, while losses totaled about $160 million, the UBS note pointed out.

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Due Diligence

Yet the total valuation of India’s e-commerce companies, which is about $40 billion now, will soar to almost $300 billion by 2020, according to Avendus Capital.

“The hedge funds which invest in India do rigorous due diligence,” said Avendus’s Bhinde. “It is not a spray-and-pray approach. They put in concentrated effort for two-three weeks with specific focus on a company and meet a very large universe of people related to that company or industry.”

Earlier this year, Sweden’s Investment AB Kinnevik committed another $40 million to Quikr India Pvt, an Internet classified-listing company similar to Craigslist, joining fellow existing shareholder Tiger Global Management and new investor Steadview Capital in the funding round.

“We do see most of the stretched valuations coming in the late-stage investments, and we are primarily a growth- and early-stage investor,” Chris Bischoff, senior investment director at Kinnevik, said in a phone interview. “We are much more focused on finding the next set of opportunities where there is more virgin territory.”

Faster Funding

Iconiq Capital invested in online retailer Flipkart. Tybourne Capital took a stake in Freecharge.in, which offers online bill payment, and Falcon Edge invested in Locon Solutions Ltd., which operates the listing site housing.com, deals compiled by Bloomberg show. Alibaba’s finance arm purchased a stake in Indian payments processor One97 Communications Ltd. in February. An attempt by Alibaba to buy into Snapdeal fell apart in March due to differences over the valuation, according to the Press Trust of India.

Startups in Bengaluru are now waiting only nine months or less between rounds of funding, rather than 18 to 24 months previously, said Seshadri Krishnan, co-founder of Trip38 Technologies Pvt, a travel-information aggregator which started last year and drew backing from the parent of IndiGo, India’s biggest domestic airline by market share.

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“Companies with even a vague idea or business plan are able to get funding, and the time between getting funds has shrunk drastically,” he said. “The only challenge is that this is giving a wrong sense of validation to the entrepreneur.”

Double China

Compared with China, India’s Internet and e-commerce companies have seen almost double the number of financing deals in the first three months of this year: 47 versus 27 in China, data from London-based research firm Preqin Ltd. show. Yet the size is smaller: $21 million on average, compared with $106 million in China.

“I see deals being highly valued in later stages if we consider the metrics,” said Anand Prasanna, Shanghai-based director at Morgan Creek Capital Management, a U.S. fund of funds and private-equity firm that is currently scouting for e- commerce investments in India. “The best opportunity now is in finding the winning teams earlier on in important categories and backing them to create category leaders early on, and also in backing companies which have truly innovative and sustainable business models for India.”

Risks to profitability include a lack of definitions for regulatory and tax issues for online retailers, the UBS report said, calling it “a gray area and open to interpretation by tax authorities in a more aggressive manner than may have been envisaged by the legislators.”

While valuations may appear high, investors who stay in for three to five years will see returns, especially if the companies they backed go on to become leaders in their fields, said Avendus’s Bhinde, who describes himself as a “perennial bull” on Indian e-commerce.

“We expect the Indian digital opportunity to grow eight to 10 times in the next five years,” he said.

By Anto Antony, George Smith Alexander, with assistance from Adi Narayan, Hari Govind, Saijel Kishan, Bei Hu and Stefania Bianchi. Editors: Ben Scent, Marcus Wright, Sheridan Prasso.

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