Friday, March 28, 2008


I’ll come straight to the point. I was buying a house; and as the travails go in such cases, I was short of money. Given my ‘excellent’ credit rating within the family, my wife – my only practical hope for cash infusion – refused to even enter into any discussions of lending me money (I think a tube light would have stood a better chance). Gloriously confident that any bank/public institution would easily lend me the required investment, I was ready to walk out, when Dad ‘occurred’! My father questioned me on my intentions to take a loan from the outside public, and offered me his money. Though the offer was deliciously lucrative, my biggest worry was that if I accepted this ‘private equity’, Dad would get to make all the decisions with respect to how the house should be done up; and being typical South Indians, we’ll end up with a wash basin in the drawing room! Clearly a nightmare... I took a day off to decide...

But seriously, away from familial issues, I did start wondering whether private equity fund investment helps or actually destroys the performance of firms? Don’t private equity investors, who end up holding significant share holding within the company, interfere much more in the CEO’s and top management’s decisions than would have external banks or general public investors? Almost a year back, I had written an editorial on why promoter-owned private companies are much better than publicly held companies. But what about private equity from non-promoters? Wouldn’t that end up being a worse bargain?

A 2006 Wharton seminar on Private Equity showed how private equity investment for shareholders seemed to be more efficient than the normal stock markets...and even loans! The seminar summary quoted Warren Buffet’s comment, “Borrowed money is the most common way that smart guys go broke!” While The Economist magazine described private equity firms as the “sharp edge” of contemporary capitalism, Bloomberg’s Venture Economic report shows that over a period of 10 to 20 years, private equity has outperformed the markets by a thumping 66% to even more than 100% in some cases! The National Bureau of Economic Research, in their benchmark paper titled The Cash Flow, Return and Risk Characteristics of Private Equity, resoundingly proved how private equity always generates “excess returns” relative to ordinary equity markets. Very interestingly, Mercer came out with its 2007 private equity study that confirmed, “Not only has the rate of return for PE firms overall been substantially greater than that of public corporations, but such companies – once returned to public ownership – have outperformed the market as a whole.” To this effect, a recent Economist research concluded that “in an odd twist, all the money going to private equity has helped buoy shares of public companies!”

The case for private equity funding has remained strong throughout the world’s top economies. While the US and UK, according to the European Venture Capital Association data, had the “broadest and most developed private equity markets in the world (ranked at number 1 and 2),” such private equity investments had actually led to dramatic innovation and stunning economic growth too! Look at the situation in India. The Economist Intelligence Unit’s 2005-06 worldwide survey rates India second from bottom in terms of promoting environment for private equity. The famed Apax Partners, in 2007, in their yearly survey, Future Trends in Private Equity Investment Worldwide, statistically confirm the same with the cherry statement, “India has the second worst environment for private equity!” The survey, in fact, rates India last in all countries surveyed in the factor of ‘Market Opportunities’ (for Private Equity), an honour India could well do without!

But then, even if the case for private equity investment is thumpingly strong, how does a promoter retain decision making power despite private equity investors (or even public equity) being present? For that, we have the stunning concept of super-voting rights – that is, having more voting rights than your shareholding! For example, Page & Brin hold only 20% of shares of Google, but retain over 60% voting rights. Think about it, Rupert Murdoch’s family owns only 30% of shares in NewsCorp. What’s their voting power in the media behemoth? 100%!!! And now Rupert Murdoch might be trying to even invest in The Times of India group, if our cover story analysis is right, through private equity! Well, my decision was made. I went back to Dad, took his private equity without a hitch. And what about house renovation decisions? That was super-voting simple. My wife now holds 0% ‘shares’ of the house, and retains 100% voting and decision rights! Beat that for quick learning...


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