Fund managers hiring consultancies to run background checks on startup promoters

Early stage investors such as Sequoia Capital, Kalaari Capital, Helion Venture Partners, Nexus Venture Partners and Accel Partners, among others, are increasingly running checks on the personal lives of entrepreneurs, wary of extravagant, reckless, raucous, even promiscuous behaviour, before funding them.

They have approached a bunch of consultancies in the past one year to launch a personal due diligence on promoters of companies in which they were about to invest. Such exercises involve an element of stealth, but sources in these funds confirmed that such checks were carried out for most of the investments this past year and red flags were raised in a number of deals. The funds, however, declined official comment.

Consultancies such as Deloitte, KPMG, Kroll and Alvarez & Marsal, among others, which offer behavioural due diligence and forensic diligence, have seen a 20% rise in this business.

Evaluating Qualitative Risks

“Today, funds are backing the promoters rather than the companies, as new-age businesses have limited operating history. In such a scenario, evaluation of the qualitative risks becomes much more important,” said Nikhil Bedi, senior director, Deloitte India. Bedi heads the business intelligence vertical in his company.

Last month, Rahul Yadav, the cofounder and chief executive of Housing.com, a real estate search portal, was fired by the board for repeated instances of rude behaviour with various stakeholders. “The board believed that his behaviour is not befitting of a CEO and is detrimental to the company,” Housing.com said in statement then. The difficulty investors face is that promoters of most startups have no financial background that can be scrutinised.

Bedi said due diligences were even earlier carried out on promoters. With a change in the type of companies being funded and the average age of the entrepreneur, old-school checks have mostly become irrelevant. The number of such diligences by Bedi’s team has doubled to seven a month.

Going Beyond Antecedents

Checks now extend beyond the antecedents of promoters. The experience of seed investors, financialcommitments of promoters and their relationship with the team all come under the gaze of consultants. Dinesh Anand, partner and head of forensic services at PricewaterhouseCoopers India, said in addition to financial records, his team relies on public information. “We talk to professional and social acquaintances of the promoters for such checks.

These are done with the consent of the promoter,” he said. Recently, a global venture fund decided against investing in a company when it found the promoter led a lavish lifestyle disproportionate to the business’ state.

“We realised the promoter was taking home a fat pay package despite the business still being in an early stage and far from being profitable,” the managing director of the fund said. “Such businesses often risk siphoning of money or financial frauds by promoters.” An India-based early stage fund withdrew from investing in an IT services distribution company because the promoter forced his sales team to be unduly aggressive.

“We have observed cases where investment has been withdrawn due to promoters demonstrating certain behavioral concerns at the senior management level. This can potentially impact employee morale as well as the dynamics within the company, eventually affecting the business going forward,” said Bedi of Deloitte. Investors are also checking if promoters are promiscuous.

“Certain aspects of a promoters’ personal life may have an impact on the business in which case funds may ask us to focus on that as part of the due diligence process such as if the promoter has a serious health issue or has a lavish lifestyle which is not commensurate with his position in the company or issues of promiscuity which may impact the reputation of the target business,” said Reshmi Khurana, India head of global consulting firm Kroll.

There For The Money

Anirudh Suri, founding partner at India Internet Fund, an early stage investor, justified the extreme caution in investments. “A lot of people are there just because of the money,” he said, adding that his firm watches entrepreneurs for months and conducts thorough reference checks.

In India, most private equity and venture capital funds own minority stakes in companies. Ergo, enforcing shareholder rights is difficult. The prudence of funds thus isn’t surprising.

In at least one company, difference of opinion between two cofounders was cited as a red flag. Infighting and severe disagreements among promoters involving business plans and strategy can adversely impact the target’s future operations. Investing in such a target without being aware of promoter conflicts can put an investor’s capital at significant risk, said Dhruv Phophalia, managing director, Alvarez & Marsal.

Khurana of Kroll said funds also want to know whether a promoter respects the opinion of board members before taking a decision. “The entrepreneur’s attitude or behaviour with the board is important and often potential investors want to understand how the board functions and whether the promoter consults the board in the manner that would be considered desirable by the potential investor.”

Source : http://retail.economictimes.indiatimes.com/news/industry/fund-managers-hiring-consultancies-to-run-background-checks-on-startup-promoters/48399299

How to spend first million in your startups?

The first $1 million raised is critical to cement a startup’s foundation and the basis on which future funding rounds will be built. Even as RedBus was being sold to Ibibo for Rs 600 crore in July 2013, visitors could see batteries for an inverter lying beside a shabby staircase that led to a very basic office. “We had learnt to conserve cash early, learning from the crisis of Lehman Brothers. At the time of exit we still had a lot of unused cash in the company’s account,” Phanindra Sama, founder of India’s largest bus-ticketing platform, told ET after the sale. The RedBus team had decided to work out of a basic office, take small salaries and conserve all cash in building a business that make for the largest exit in Financial Advisory Firms. “A lot of startups, when they receive large funding, start spending on unproductive areas such as office upgrades, unnecessary technology tools… These should be avoided,” said Sanjay Parthasarathy, CEO of data analytics firm Indix that recently raised $15 million.   Parthasarathy said he did all he could to avoid having a workspace in the initial days. “I worked out of home, then at Starbucks and sometimes even Barnes and Noble,” he said. The first $1 million (about Rs 6.4 crore) raised is critical to cement a startup’s foundation and the basis on which future funding rounds will be built. If wasted, the company may not get a second chance. Sai Srinivas Kiran, CEO of media streaming device maker TeeWee, agrees. “The whole thing about starting up is that you don’t spend on workspace and unnecessary enhancements,” said Kiran, who raised Rs 11 crore in March. It is also important to pay more attention to customers. “Set aside money for taking care of your customer. Ensure there is a system in place to take calls and customer queries all the time,” said Sanjay Anandram, venture partner with Seedfund. While it is important to not splurge, startups could do well to spend some of the first million dollars on employees. Vijay Sharma, cofounder of recruitment firm Belong that recently raised $5 million, said he bought his employees the basic stuff: Ergonomic chairs, big monitors. Importantly, he employed a cook for the office. “The (first $1 million) should be used to find the sweet spot where an acute pain point meets a fantastic solution,” said Anshuman Bapna, founder of travel planner MyGola that MakeMyTrip recently acquired, “and you find your first set of users coming back to you over and over again”.

Source : http://retail.economictimes.indiatimes.com/news/industry/how-to-spend-first-million-in-your-startups/48353877

Now, Indian startups have access to twice as many investors

The Indian startup ecosystem is being propelled by a 123 per cent rise in the country’s active investor count,  IT industry body NASSCOM and Zinnov Consulting said in a new report.

“Number of active investors grew from 220 in 2014 to 490, (reflecting a) growth of about 123 per cent over 2014,” the report titled ‘Start-up India – Momentous Rise of the Indian Start-up Ecosystem’, said.

The number of accelerators/incubators in India grew by 40 per cent to 110 this year as compared to 2014.

On the other hand, the country’s angel investor count grew by over 150 per cent to 292 from 115 last year, the study found.

Rajan Anandan (Google Asia Pacific chief) and Ratan Naval Tata (former chairman of Tata Sons) are two of India’s most active angel investor. As on September 3, Tata had made 16 personal investments in startups while Anandan had put money in 29 startups.

Source : http://techcircle.vccircle.com/2015/10/14/indian-startups-benefit-from-rapid-surge-in-investor-count/

Start-ups, venture capital backers turn to investment banks for deals

Weak business models and a funding slowdown are forcing many Indian consumer Internet start-ups and their venture capital (VC) backers to seek help from investment bankers in order to secure fresh funds from new investors or find buyers.

Last year, several banks including Kotak Investment Banking, Motilal Oswal Financial Services Ltd, Morgan Stanley and others pitched to help fund start-ups as the number of deals and cheque sizes swelled.

Most investment banks, with the exception of Avendus Capital Pvt. Ltd, Citigroup and a handful of others, were unable to strike deals, partly as VC firms and other investors didn’t need much convincing to put money into start-ups.

Investors pumped in more than $9 billion into start-ups over the past two years.

This year, start-ups such as food-ordering app TinyOwl Technology Pvt. Ltd, logistics services provider Roadrunnr (Carthero Technologies Pvt. Ltd) and others that are fretful at not getting fresh funds are approaching investment banks to help them get cash, people familiar with the matter said.

Many VCs such as Sequoia Capital India, Accel Partners and even some early-stage investors such as Orios Venture Partners have sounded out investment banks about helping them find buyers for their portfolio companies that are struggling, the people cited above said on condition of anonymity.

Roadrunnr and TinyOwl didn’t respond to e-mails seeking comment.

Typically, a majority of start-ups raise cash directly from VCs without the help of investment banks. In Silicon Valley, for instance, investment banks rarely get involved in deals before start-ups list their shares. But as investors are increasingly turning cautious about Indian start-ups, investment banks expect a busy year ahead, especially in assisting with mergers and acquisitions (M&A).

Investment banks help start-ups prepare business plans and so-called pitch decks (investor pitches) and connect them with new investors. They also help position start-ups in the most attractive manner to investors, follow up with investors after initial talks and handle valuation negotiations on behalf of the young companies.

“We have seen a significant increase in the pipeline of deals,” said Gaurav Deepak, managing director at Avendus Capital. “A tighter market has led to the need for expanding and deepening investor coverage, leading to a larger role by the bankers.”

After an unprecedented funding boom for start-ups in 2014 and the first half of 2015, investors have turned cautious because of a mix of global macroeconomic factors such as an economic slowdown in China and an interest rate hike in the US, as well as growing concerns over unproven business models.

In a tough funding environment, the value of working with investment banks increases for start-ups, said Klaas Oskam, managing director at investment bank Signal Hill Capital Advisory India Pvt. Ltd.

“Signal Hill helps start-ups realize the best value by highlighting their strengths, positioning them correctly and introducing them to our strong network of investors. We expect to do more funding deals than last year. We also expect to see more M&A as consolidation is inevitable among consumer Internet start-ups,” he said.

Another investment bank, Merisis Advisors, said it had seen a fivefold jump in the number of Series A deal requests over the past two months, compared with early 2015.

“A lot of venture capital-funded companies are also being directed to us,” said Sumir Verma, co-founder of Merisis. “Given most of these companies have a runway of 3-4 months, even VCs want an investment bank to be involved from day one to close the deal faster. The (consumer Internet) sector is largely looking for strategic investors and hence the need for a banker to sell the right story the right way increases.”

Some international investment banks with their vast network of marquee investor clients also expect an increase in deal-making this year.

“We expect the investing landscape to change rapidly with new sources of capital coming to market, and we expect to be extremely active again this year in helping our clients raise capital from traditional and new sources, and pursue M&A and strategic partnerships,” said Madhur Deora, managing director, investment banking, Citi India. “We are encouraged by the fact that when we have in-depth conversations with our Internet clients, many of them are focused on making their capital last longer and building stronger businesses,” Deora said by e-mail.

Start-ups typically don’t work with global investment banks because they charge fees that aren’t affordable for young companies. However, even large e-commerce companies such as Flipkart Ltd, Snapdeal (Jasper Infotech Pvt. Ltd) and Ola (ANI Technologies Pvt. Ltd) have mostly avoided working with global investment banks over the past 18 months or so, primarily because of the vast networks provided by their own investors such as Tiger Global Management and SoftBank Group.

Citi is the exception, having advised payments and online marketplace Paytm (One97 Communications Ltd) on its $575 million fund-raising last February from Ant Financial Services Group, an affiliate of China’s e-commerce giant Alibaba Group. That was the largest consumer Internet deal that an investment bank helped facilitate in India.

Experts said investment banks need different skill sets in order to work with start-ups and e-commerce companies, as compared with other sectors.

“E-commerce is very different from old economy sectors and for investment banks to succeed in this space, they need to have a strong understanding of the dynamics of e-commerce and how it creates value,” said Ashish Basil, partner, EY.

“Most e-commerce companies may remain unprofitable for a long time due to high customer acquisition costs, and hence GMV (gross merchandise value), lifetime value of customer base, market leadership and other such metrics decide valuations rather than cash flow or earnings in the traditional sector.

“You also need to connect personally with entrepreneurs, most of whom are young and energetic. So you need to able to speak their language, understand their mindset, have similar energy and get their ambitions to work with them, among other traditional traits that investment bankers need to show,” he added.

Source: http://www.livemint.com/Companies/dYahBfcoSWDPDFsN7v1f8N/Startups-venture-capital-backers-turn-to-investment-banks.html

How Financial Advisory Firms Help In Start-Up Financing

Start-up Financing is not just about raising funds, it is a holistic process that involves proper business planning with thoughtful growth targets, deciding business valuation as per the current market standards, planning potential exit options for investors, calculating financial returns for investors, negotiations with investors, evaluating and deciding appropriate term-sheet clauses, and finalizing shareholder’s agreements.

Investors do not only invest in a particular business model based on a preferred sector theme, but they also judge various other critical aspects affiliated to the business, be it a team, revenue model, unit economics, promoters’ vision or competitiveness, growth plans, execution potential, exit options, or expected financial returns. Even minor areas like promoters clarity of thoughts, communication ethics, expressiveness, presentation, passion, and knowledge of the industry and competition, can set the investors off the process.

Knowing the complexity as well as the limited success possibility in start-up financing, financial advisory firms play a crucial role in managing the whole financing process efficiently.

The main role of financial advisor is to create a strategic roadmap for the start-up and help it in achieving its growth plans. Due to their regular nature of this work, financial advisors very well understand the expectations of investors. Financial advisors bring together a wide range of industry expertise and provide a hand-holding to start-up throughout the process. They help start-ups in summarizing their winning investor pitches for Venture Capital and Private Equity investors, and also guide them in various other financial matters such as developing financial model with right growth drivers, calculating the business value, effectively interacting with investors, soliciting term sheet from investors, support on finalizing shareholder’s agreement, support on transaction structuring, and finally a transaction closure.

At the inception stage of the financing process, financial advisors envision the whole process from the start to end in their mind and accordingly divide the whole process into multiple sets of actions. They start with basic steps and work up the flow, for e.g. they work on getting deal perspective from 6-7 funds, perform upfront analysis of the business, position the business rightly, and structure a business plan with a relevant pitch. Secondly, they work on connecting with investors beyond the usual suspects, also introduce domain specific reputed angels to add greater comfort to funds, bringing onboard strategic investors who can add value, and most importantly create a consortium of investors to mitigate rejection risk. Then, lastly financial advisors work on curating the funds, bringing the interested ones on board, create a bid process to achieve target valuation, create potential backups if lead investor backs out during due diligence, etc.

Financial advisors make sure that the whole process is executed within a reasonable time frame, as this is crucial, given the pace at which business environment changes and the limited cash runway promoters have for business.

The fundraising process is the real test for the start-up promoters and as well as for the financial advisors, as the amount of strategies, tactics, and psychological and factual work play they put in, can turn the whole dynamics of the deal into success.