Received wisdom in Asia-Pacific has been that one country’s loss could be another’s gain. Diplomatic tensions, regulatory risks and macroeconomic uncertainty have led some investors to rethink their allocations to China with some positing that its fast-growing peer, India, could benefit from any resulting outflows.

At face value, data suggests they might be right. The south Asian country’s share of Asia-Pacific’s private equity deal value grew to 23 percent in 2022, compared with a 17 percent average in the previous five years, according to Bain & Co’s Asia Pacific Private Equity Report 2023. Meanwhile, China’s share dropped from 46 percent to 31 percent in 2022.

Soaring inflation and tightened monetary policies in the US and Europe, combined with the Russia-Ukraine war and a US-China decoupling, has chilled deal activity globally.

India’s deal landscape, however, seems to have remained comparatively stable in the face of these headwinds. The country’s investment value closed at $61.6 billion last year, representing a modest decline of 12 percent from 2021’s record-high of $69.8 billion. Last year’s deal value was still more than twice that of 2018 and thrice that of 2013, according to historic Bain & Co figures.

The push and pull

The China-to-India narrative has been driven in part by undeniable similarities between their respective economies, albeit at different stages of growth. Bain & Co’s Greater China Private Equity Report 2023 expects the next five years to be slower than before as China enters a “transformational” stage of maturation, meaning explosive growth may be a story of the past. On the contrary, India is a developing country with an expanding population, young workforce, strong digital infrastructure and a large consumer base.

India’s appeal is being reflected in larger LP appetites. San Francisco-based Asia Alternatives, for example, plans to allocate 15-20 percent of its $2 billion Partners VI fund of funds to India, a larger proportion than its predecessor. Ontario Teachers’ Pension Plan, for its part, launched a Mumbai office in 2022 and Korea Investment Corporation is in early discussions to set up a new overseas office, with Mumbai among the locations considered.

Though investors are clearly interested in the market, Vish Ramaswami, head of Asia-Pacific private investments at LP advisory Cambridge Associates, said appetites to China won’t necessarily pivot to India en masse.

“I think the allocation to China has been on a decline, there have been public reports about this happening with pan-Asia funds – I think that’s true – but that is not a zero sum [game] between India and China,” Ramaswami said. “It is not, in my opinion, a given that that capital will go to India – some of them are going to put that in buyouts in Australia or Japan, depending on strength… If you’re going to retrench from somewhere, that capital will go where you’re strong.”

Indeed, domestic managers are also pragmatic about the opportunity to capture allocations that would otherwise have gone to China. “They may be going a little slow in China but that is not going to directly translate to an avalanche of capital coming to India,” said Srini Sriniwasan, managing director of India-based Kotak Investment Advisors. “There is obviously a much greater level of interest among investors, particularly those who are either closer to India, or who already have a presence in India.”

Global blue-chip managers are increasingly active in the Indian market. BPEA EQT, for example, has had large exposure to India since inception and, as it stands, about 30 percent of its total capital deployment in the country, Jimmy Mahtani, partner and head of BPEA EQT India, told Private Equity International. Its Fund VIII, which closed on $11.2 billion late last year, has so far invested in two Indian companies and, according to its website, BPEA EQT currently holds ten India assets spanning healthcare, energy and services sectors.

“[India] is our largest market in our Asian business and it’s the fastest growing major economy in the world,” EQT chief executive Christian Sinding noted on the firm’s Q1 earnings call in April. “It’s supported by favourable governmental policies and a young, digitalised population. And here we see very interesting growth opportunities in sectors that are at the core of EQT’s long term strategy like tech services.”

KKR is also highly active. It was named Firm of the Year in India for the first time in the latest PEI Awards, having been understood to have completed four Indian PE investments over the period, including a $300 million investment in agricultural solutions provider Advanta. The firm has at least 12 India businesses in its private equity portfolio alone, according to its website.

“The pace of capital deployment in India has accelerated. It took us several years to deploy the first $5 billion of equity, then it’s taken us only the past few years to deploy the next $5 billion,” KKR’s director of private equity in Mumbai, Rohan Suri, said.

Economies of scale

While efforts to diversify away from China may well have contributed to India’s rising popularity, industry players say structural growth in the country plays a bigger role.

“We believe that India is a long-term structural story. If you look at all the underlying drivers, India is attracting a tremendous amount of foreign capital, and I think a lot of that has to do with fundamentals of the economy,” Suri said.

From a demographic standpoint, India’s young workforce and emerging middle class are tailwinds for consumption and discretionary spending. Tech, IT, consumer, healthcare, financial services are among the most popular sectors for GPs in the market.

Global tech valuations plummeted last year. According to Bain & Co’s 2023 India report, consumer tech and information technology deal value also saw a sharp decline, dropping from 60 percent of total deal value in 2021 to just 30 percent in 2022. That said, the combined investment value in IT, SaaS and new-age tech sectors still accounted for 50 percent of India’s annual PE-VC investment value.

With falling tech valuations comes opportunity. “It has given us confidence that we can do more deals in the technology space” said Aditya Joshi, managing partner and head of private equity in India and Middle East at Brookfield Asset Management. “The technology vertical is a key part of our investment strategy for our global fund.”

Market and deal complexity can be a good indicator of maturity. According to KKR’s Suri, the Indian economy is at an “inflection point” where the size and complexity of deals will only increase going forward.

Greater appetites from pan-Asia and global firms means heightened competition. “It was a lot easier to do deals five years ago than it is now,” BPEA EQT’s Mahtani noted.

The competitive environment is pushing managers to identify and focus on their expertise – limiting themselves to a handful of sectors. “Nobody is focused on becoming a specialist in 15 sectors and we have also decided to specialise in three to four sectors,” Joshi added, noting that these are technology, financial services, healthcare and industrials.

Structural changes

Exiting investments in India was historically a major concern for managers and their LPs. India recorded $24 billion of total exit value last year, according to Bain & Co. Though a decline from $36 billion in 2021, it was 140 percent higher than 2016’s $10 billion total – a record at the time.

“Maybe eight to 10 years ago, people would often cite the concern that we really don’t see exits in India,” said KKR’s Suri, noting the Indian market has grown in terms of capital markets depth. “Over the last decade, there have been multiple examples of successful.”

KKR appears to have been among them; the firm last year sold its entire investments in the hospital chain Max Healthcare for a near five-fold payback in less than three years, according to The Economic Times.

Though currency fluctuations have been another concern for investors, the Indian rupee is currently proving more stable than the likes of the Japanese yen. “If you look at the last five years, it has appreciated against the yen, for example, [and] the depreciation against the Canadian dollar is on average [only] about 1.75-2 percent,” said Kotak’s Sriniwasan.

India’s return prospects also seem to be improving. “Those managers have learned from their own or others past mistakes how to price, how to be rational in competing and so on, so I think it’s become a better market,” said Ramaswami at Cambridge. “What we would look for is a manager capable of returning above median or first-quartile returns, the chances of that manager being found in India today are better than it was ten years ago.”

Growth prospects

Of course, India’s private equity market won’t become fully formed overnight, and there appear to be temporary limits to its growth. Kotak, for example, paused fundraising in April for a domestic fund of funds strategy. Launched in 2022, India Alternate Allocation Fund was intended to back PE and VC funds from early stage through to late stage. “In PE/VC investment, vintage of the fund, ie the time to start deploying capital, is very important,” a KIAL spokesperson told PEI at the time. “Presently, valuations are correcting, hence it is prudent for the FoF to defer investing and catch a better vintage of funds.”

Kotak’s Sriniwasan also cited the limited opportunity set. “Even if I raise $200 million where am I going to put it to use? If I can’t find ten managers, where I can put $20 million each? Because each of those ten managers has to be able to raise at least $200 million for me to be gaining 10 percent of that fund, and I’m not going to find that, that’s the problem,” he said.

Looking forward, Sriniwasan thinks an inflection point for Indian private equity will occur when more LPs start allocating to India as an independent geography focus, rather than through pan-Asia strategies, noting that there are not yet enough India-focused strategies of scale.

Given the positive outlook for private equity investors in the market, this might come sooner rather than later. “It’s a $3.2 trillion economy with expectations to go to $5 trillion,” said BPEA EQT’s Mahtani. “If it has a 5 percent growth rate over the next few years, we get to a $5 trillion economy.”