The KKR way to smart returns

November 2013. In a deal that didn’t create too many ripples then, KKR India, the domestic arm of global investment giant Kohlberg Kravis Roberts & Co., invested $200 million (Rs 1,263 crore at today’s exchange rate) in a Hyderabad-based generic pharmaceutical products company called Gland Pharma. It was just another deal for KKR India, which got a 36% stake in Gland.

So far, so ordinary. Then, in October 2017, China’s Fosun Group agreed to acquire 74% in Gland Pharma for $1.1 billion. That meant KKR’s stake was valued at over $540 million, or 2.7 times its investment. The internal rate of return (IRR), the metric used to measure the profitability of an investment, was 28.2%. It’s a big deal in the private equity (PE) world, where investors wait for up to nine years seeking an IRR of 15%.

That wasn’t KKR India’s only success in 2017. Seven years ago, KKR India had invested Rs 750 crore in cement maker Dalmia Cement. After a part exit in 2016, it completely exited Dalmia in a block deal in April 2017. That gave the PE firm a whopping 3.6 times returns at Rs 2,752 crore, with an IRR of 20.41%. For any PE player, sweet dreams are made of exits like these. At a time when few investors are making profits, such multi-baggers are even sweeter.

Over the past decade or so, KKR has invested over $8 billion in Indian companies—half that in PE deals, and the rest in credit to more than 100 companies through its non-banking finance company. This is one of the largest capital exposures by a global PE investor in India. More important, KKR has half a dozen PE portfolio exits under its belt currently and its returns from the country already stand at over $3 billion. From its credit portfolio, it has exited from over 60 firms.

According to industry estimates, while over $160 billion has been invested across venture capital and PE deals in India since 2000, nearly 65% of the capital is yet to see returns. The big question, then, is what makes KKR different?

When KKR entered India back in 2009 (it had made substantial investments in the country before setting up an office), many were expecting it to carry on the legacy of its parent—KKR was Wall Street’s giant shark; was it going to be the same in India?

Events proved otherwise. In 2011, when Sanjay Nayar, CEO of KKR India, first met Fortune India, he spoke of his vision for the company he had then helmed for just about two years. He had spoken of KKR as being less hungry for control, but more like the erstwhile merchant banking firms, which gave promoters advice across multiple asset classes.

That vision hasn’t changed. “We view companies as our clients and look to provide them with tailored solutions to meet their range of capital needs,” Nayar says in the course of one of many telephone chats. “In our role as a private capital provider, we’ve realised that private equity is not always the form of capital that is most helpful to companies—a company might need some form of debt or mezzanine funding, in addition to or instead of equity, for example.” That, says Nayar, has led to KKR India structuring its business to become “a more flexible provider of solutions”.

That flexibility was seen in KKR’s investment in hospital management company Radiant Life Care last year. KKR was already a lender to Radiant via its NBFC. Nayar was keen on a healthcare platform in India and was already evaluating a few opportunities in the space. Veteran banker Munesh Khanna, who knew both Nayar and Abhay Soi, Radiant’s chairman and managing director, initiated the conversation with Nayar. But there was a hitch: KKR wanted a 70% stake, while Soi wanted to offload far less.

As the talks began, it did not take long for Soi and Nayar to understand each other’s aspirations. KKR agreed to invest nearly $200 million to acquire a 49% stake in Radiant, to help the company expand its footprint. “One thing which stood out about KKR and Sanjay’s approach was that whatever they agreed upfront didn’t change through the deal. There was no bait and switch,” says Soi.

Nayar knows a thing or two about the capital needs of promoters. For 23 years before he joined KKR, he was at Citi, managing the bank’s several crucial businesses in India, including corporate and investment banking, and consumer banking. At KKR now, he is busy creating products that will help the firm offer capital to cater to a promoter’s financial needs in the most suitable form.

Nayar calls what he is putting together a “toolkit”; the credit business, including corporate and real estate credit, the NBFC, special situations business, and the recently approved asset reconstruction company (ARC.) Right now, each of these businesses is ready with capital and teams with strong expertise. “The vision is that each of these cylinders will be fully firing in the next one year or so,” says Nayar.

This multi-capital vehicle strategy makes KKR a unique and formidable investment firm in the country today. What it also means is that KKR is not restricted in terms of the financing options that it can offer promoters and can work around structures with equity or debt or both, unlike other PE firms such as TPG, who can only do equity deals in India, as outlined by their fund mandate.

Ameera Shah, managing director of Metropolis Healthcare, a multinational chain of pathology centres, has raised Rs 560 crore in promoter debt funding from KKR. In 2015, when KKR backed Shah, promoter funding was a rare phenomenon. Also, investors were shy of writing large debt cheques. But KKR defied both industry norms. “Sanjay and BVK [B.V. Krishnan, CEO, KKR India Financial Services] are very empowered to make decisions locally. Going by KKR’s structure and the way they have structured it in India, I think there is a lot of empowerment, which means there is no puppeteering happening. Decisions are actually made in India which allows a lot of flexibility and speed,” says Shah.

Ultimately, it comes down to one person: Nayar. Getting KKR, the parent, to agree to do so many new things in India is no mean feat, particularly when it doesn’t even have a dedicated PE fund in the country. (It dips into its Asia fund when needed.) In the credit business, one of KKR’s moves that took the market by surprise was the launch of the real estate NBFC nearly three years ago. The real estate industry was shunned by investors due to delayed projects, regulatory hurdles, unsold inventory and lack of returns. KKR believed that the tide was shifting in the Indian real estate sector and developers will need access to capital. Its real estate lending platform has raised funds from GIC, Singapore’s sovereign wealth fund, and has invested nearly $1 billion across 20 developers. It invested almost $500 million in 2017 alone. Krishnan expects demand to only grow from here.

There have been other “different” moves as well. Last year, KKR India rolled out its direct lending model to cater to the working capital needs of companies. Indian banks are battling massive toxic assets (NPAs) which have kept them away from lending to mid-sized firms. This has created ample opportunities for direct lending for firms like KKR. “In the long run, much like the U.S., we believe you will have people like us doing wholesale lending, extending flexible term loans to mid-market companies and banks will focus largely on working capital revolvers, aggregation of loans, and lending to the retail side. The larger, high-grade companies will go to the bond market. That’s how we see the markets evolve,” says Krishnan.

When it comes to credit, loan repayment is crucial, so it’s important for a company to set realistic expectations. KKR’s belief is that Indian businesses cannot pay more than early-teens in terms of fixed returns. Beyond that, businesses don’t make money, as the return on capital isn’t high. So, when it structures loans, apart from aligning the loan terms to the business cycle, it focusses on alignment to the shareholders, and in many cases, takes some equity risk.

More important, KKR has got the necessary government approvals for its asset reconstruction company (ARC). This may prove to be a game-changer. India is sitting on a bad loans pile of nearly $154 billion. ARCs buy the bad loans from banks and financial institutions so that the latter can clean up their balance sheets. “We are trying to create a resolutions company with a mix of consultants and operators to turn these assets around. We are not buying assets to sell. Our approach is to turn distressed assets around with the help of a small team for resolutions and operations,” says Nayar.

While KKR may see value in this business, none of the ARCs in India have made much money so far. Ravi Chachra, founder of Eight Capital, a company that provides interim finance to distressed companies, says many ARCs could unravel because the assets they had taken over were not at market clearing prices.

While the jury is still out on how ARCs will pan out, for KKR, it’s about keeping the toolkit ready. For example, an NBFC could do super senior loans that an ARC cannot do. An ARC can aggregate debt more efficiently, so there are places where these vehicles could work together in specific deal situations.

In the end, of course, it’s all about the investments. And here’s where Nayar’s skills are most admired. Take the case of KKR’s investment in Avendus in 2015, a marquee deal in the financial services space. While most would remember KKR’s investment of $120 million in lieu of a majority stake, not many know that Nayar had been keeping track of the Avendus co-founders for a decade or so. Nayar had seen the work of Ranu Vohra, Gaurav Deepak, and Kaushal Aggarwal, when the trio became a channel to service Citi’s small and medium enterprises or SME market segment. It has been over two years since KKR invested in Avendus for the first time. In November KKR re-invested in the firm, this time collaborating with Gaja Capital in a funding round of $152 million.

Vohra, chief executive and co-founder, Avendus, says the last two years have been “gamechanging” for his firm. Not only has the team grown from 120 to 240, the revenue composition has changed too. Earlier, the firm would see i-banking registering 80% of the revenues, while the remaining 20% would come from other businesses such as wealth management and asset management.

Now, i-banking contributes 50% to the topline and other businesses bring the rest. “The place where KKR has helped us most is thinking through our strategy. So, would we have been where we are today without KKR? Probably we would have been somewhere in the journey but not where we are today,” says Vohra.

Nayar says of the many considerations around investing, finding the right partner is the most important. “We have to be sure that we are backing the right person and that person aligns with us in values and terms as we move forward,” he says. This is vital, as the PE industry has seen several instances of promoter- investor fights in the country, which led to long court cases and writing off of investments, besides reputational damages and a general ill will in the market.

Several years ago, New Delhi-based Lilliput Kidswear had moved court to prevent its PE investors, Bain Capital and TPG Growth, from exiting the company. The two investors had accused Lilliput’s founder, Sanjeev Narula, of fudging the company’s books. Narula, in turn, had said the investors were trying to halt the firm’s planned Rs 850 crore IPO and get hold of a majority stake. Eventually, both Bain and TPG stopped counting Lilliput as an investment.

That’s probably the reason why Nayar believes in leveraging his formidable network and meets each promoter several times before a deal is sealed. That network is another Nayar hallmark. The investment world is small and interconnected. Earlier this month, India’s largest mortgage lender, HDFC, said it will raise Rs 11,104 crore in investment from GIC, KKR, Ontario Municipal Employees Retirement System, Carmignac Group, and Premji Invest. Nayar is close to Deepak Parekh, who spearheads HDFC. For real estate credit deals, KKR often connects with banks such as HDFC, Axis Bank, and Kotak Mahindra Bank, who tend to be associated with the developer and the project in one way or the other.

Those who know Nayar stress on the fact that he’s a banker at heart and gets the pulse of Indian promoters. “Sanjay is less judgmental and more of a solutions centric individual,” says Vohra. Rajiv Maliwal, founder and managing partner at Sabre Partners, who has known Nayar since 1986—they joined Citi together—says Nayar is fairly consistent both professionally and personally. “His ups and down are few. At all times, you know where you stand with him.”

According to Maliwal, nurturing and managing relationships come naturally to Nayar. “To him, some of his friends are very important and he makes an effort to nurture and connect with them deeply,” Maliwal says. In fact, he says, most of their conversations revolve around the next holiday destinations, children, and their future plans, among others.“He is a good tennis player. I wish he would spend more time on sports and recreation,” adds Maliwal. But slowing down may not be in the offing for Nayar or KKR. With KKR Asian Fund III, a $9.3 billion fund focussed on investments in private equity transactions across the Asia Pacific region, things are only slated to become bigger and more hectic. KKR will now look at writing bigger cheques, mostly $100 million upwards and acquire significant stakes.

A competitor says managing clients at so many different levels can become hard as the portfolio expands. “It all comes down to having the right people in the team. Once they have 50-60 or more clients, managing them is very hard. How do you ensure there is no slippage, cash is handled well, business continues to grow…that’s critical,” he says.

Finding people who want to be associated with KKR isn’t really hard. Look at Radiant’s Soi. As a young finance student, he always wanted to join KKR but never managed to get himself hired. Today, he’s a partner with the firm, he says happily.

( The article was originally published in the February 2018 issue of the magazine. )