Crossing the Rubicon

Some time back, as a reluctant
eleventh hour speaker at a seminar, I had to come up with
something to catch my hapless audience’s fancy. I came up with this rather
publicist-sounding list of questions, hoping to strike a responsive chord somewhere in the
minds of the 70-odd prospective and already-in-business entrepreneurs.

Before I launch into these
questions, it is important to state that I do believe that the Indian entrepreneur can now
choose to partner with a host of venture capital (VC) investors. Granted, the ranks of
such VC investors are not swelling in any great hurry yet, but their numbers and
enthusiasm are enough to cheer an aspiring entrepreneur who has an interesting investment
story to present. Even better, IT is the flavor of the season with many of these money
managers. The numerous investment deals that were completed in the last 12 months and the
fancy prices that investors paid are proof of the emerging, albeit nascent, phenomenon of
competition among VC investors in India. Why is it critical to choose your VC partner? Why
not let the highest bidder (in terms of price) be the partner?

It is important to choose the right
VC fund because raising equity from a VC investor has long-term implications that could
change the destiny of the entrepreneur’s business. And that destiny depends pretty much
upon the relationship between investor and entrepreneur. Each VC fund has its own
individual investment philosophy and its own individual style of relating to its investee
companies. It is, therefore, important to align the style and interests of the fund with
that of the entrepreneur and his business so that a successful and happy relationship may
develop.

What is the VC’s
investment philosophy?

Most VC funds invest for a financial return. Some VC funds, however, invest for strategic
reasons, such as, gaining assess to technology, markets or a resource base like a pool of
engineers, or to promote use of a certain technology or product. Intel’s investments in
India, for instance, appear to be driven by a stated objective of promoting applications
that will run on Intel platforms. Canon is believed to have made an investment in a
document imaging technology company, purportedly with the idea of gaining access to the
investee company’s technology and cost competitive engineering resources. Strategic
investors could potentially bring value by providing access to their worldwide resources
and network, apart from being relatively long-term investors. On the flip side, though,
they could potentially seek such privileges as preferred or exclusive rights to market the
investee’s products, captive access to the manufacturing facilities and dedicated use of
the engineering resources. These could limit the entrepreneur’s operating freedom and
sometimes deny the prospects of doing business with other lucrative customers.

What is the VC
fund’s investment focus?

Does the VC fund’s investment activity focus on the IT industry? Or will your firm be the
VC fund’s first IT investment? Investing in technology requires a different mindset from
that of investing in traditional businesses. There have been instances of managers with
successful track records in investing in manufacturing businesses straying into IT, not
wanting to be left out of the ‘action’. The result has brought grief to both investors and
investees.

What is the
firm’s investment horizon?

Is the VC fund investing for long-term returns? Or, is it investing for short-term gains
in less than 24 months? Young IT companies would need the comfort of an investor who can
afford to wait for three to five years so that they can build the business based on
fundamental and sustainable business and ethical values. In a world of growing
uncertainty, and rapid changes, such investors are a vanishing tribe. But if you can hunt
one down, it is well worth the effort. Investors who have a short horizon can attempt to
accelerate the growth at unhealthy rates that spell long-term harm to the company. They
can then sell their shares at an early public offering or, worse, some times force an ill
advised and ill-timed sale of the company.

What is the VC
fund’s organization?

There are VC funds and VC funds. Some of them are offshoots of large financial
institutions. Their executives may have advanced large, secure loans to financially robust
companies before they set out to ply VC as a trade. For no fault of theirs, they could be
disastrous VC partners as they bring their large secure loan approach to make and manage
small entrepreneurial equity investments.

What is the VC
fund’s source? How deep are their pockets?

Let me warn you-not many VC funds will take very kindly to this question. After all, they
are the ones with the money. And you would not have been talking to them if they did not
have the funds. Right? Well, not necessarily. There was a time in our market, not long
ago, when eager twenty-somethings, who had raised public fixed deposits, aspired to make
long-term investments of over three years. What happens to you if, as an entrepreneur, you
raise money from one of them?

The investor will start howling at
you to have you ‘buy back’ his shares in less than two years if he cannot force you to
make a public offering. So, you as an entrepreneur, have the right to ensure that the VC
fund has back-to-back long term funding. This is yet another common situation. Many a time
an investor will be happy to give you the first Rs50 lakh that you badly need. But come
next round, 18 months down the line, the VC fund will not have the Rs3 crore that you need
to jump to the next level of growth. Or the VC fund’s ‘investment policies’ do not allow
it to ‘take further exposure in your company’. Nor does the fund have the credibility to
get someone else to provide you the Rs3 crore. But should that bother you? My answer is,
yes. Because when you go to another investor without the backing of a credible existing
investor, you will have to start all over again.

Does the VC fund
have money in the bank? Or, is it still raising the money?

I know of an instance where a foreign fund, which went on to become a successful IT
industry investor in India eventually, did not have funds in place to ‘write the cheque’
for an investment after months of intense negotiation and due diligence.

How old is the
fund?

Most funds have a limited life of seven to ten years at the end of which they have to sell
their investments and return the money to the people they raised it from. If you are
raising money in the fourth year of a seven-year fund, you know that the fund will try and
force you to make a public offering or sale, like it or not, within two years of raising
the money.

Does the VC fund
have an international connection?

I suggest this question at the risk of appearing to be pushing an agenda. But look at it
this way-The IT industry has been, and will, continue to derive a bulk of its revenue from
outside India, especially, the Western Hemisphere. A VC fund, which is part of a reputed
international network, can definitely help in developing a market for the entrepreneur’s
products, services and technologies. It can help develop powerful international strategic
partnerships.

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