Sunday, April 29, 2012

Successful PPP models hold significant promise for essential services

Successful PPP models hold significant promise for essential services

India has seen several successful Public Private Partnership projects in the recent years across central, state and urban local bodies for providing various essential public services. These successful projects, spread across a wide variety of sectors such as healthcare, education, public transport and infrastructure hold significant promise for providing essential services of acceptable standards to large sections of the population. This can be achieved without seriously denting the fiscal situation of the Government, which is already under considerable stress as recently observed by Standard & Poor’s, when rating outlook for India was revised from “Stable” to “Negative”. Some of the successful PPP models are discussed here.

Healthcare sector has seen reasonably successful PPP models in several states.  The typical model envisages providing healthcare to weaker sections of the society, through health insurance schemes and co-opting both government and private sector hospitals for providing quality healthcare delivery. The insurance premium is shared between the Central and State governments. While this is seen as draining much needed resources from the public healthcare system, the hitherto low penetration of health insurance and the creaking public health infrastructure of India make a strong case for a PPP model in this sector.  The popularity of such schemes in recent years and the resultant political mileage has kindled high interest across several states for this model.

Urban infrastructure is another area that is highly amenable to PPP models.  Multilevel car parks in congested urban localities, public transport through buses, garbage collection and disposal, developing tourism destinations and related services such as adventure sports or hop-on / hop-off services, etc. are highly successful PPP models in several countries and India has also started witnessing early success in these initiatives.

Education is a controversial sector where allowing ‘for profit’ entities to provide good quality education is viewed with considerable skepticism.  However, this sector has also seen successful PPP models in Rajasthan, Karnataka and a few other states where non-profit private sector entities have partnered with state governments to improve the quality of education imparted in public schools.

Roads, ports, airports and other large infrastructure sectors have already witnessed successful PPP models, benefiting all the stake holders viz. the public who use these services, the concessionaire who invests to earn decent returns and the government which gets robust revenue share besides ownership of assets at the end of the concession period. 

India is in a critical juncture where the capital starved Governments may not be able to meet the growing demand for these services, while private sector has accumulated significant capital, awaiting decent investment opportunities.  A proactive policy framework for PPP models, transparent award of concessions, appropriate structuring to capitalize on innovative revenue streams and clear rules of the game without any surprises/shocks can help India leapfrog on several essential services without having to wait for government allocations.

 N. Muthuraman is ex-Director Ratings, CRISIL and Co-founder of RiverBridge Investment Advisors Pvt. Ltd., a boutique financial advisory firm.

This is the blog of the Print Version published in Business Line dated 30th April 2012

Sunday, April 15, 2012

Talent attraction pose serious challenge for SMEs

The steady growth of the Indian economy over the last several years has led to serious shortage of good quality talent across every sector. The challenges in attracting good talent is more acute for SMEs due to both supply side – reluctance of many qualified professionals to join SMEs  – as well as demand side – willingness of SME entrepreneurs to hire and delegate responsibility to professionals.

The challenge for SMEs gets exacerbated by steady poaching of experienced talent by large corporates who, in the process also inflate the salary levels adding significant monetary impact on SMEs. While the challenges at lower levels of hierarchy will continue to persist, SME entrepreneurs can adopt a few innovative strategies to mitigate this challenge for developing a professional second line senior management team.

The Supply Side
There are several talented middle management people in larger companies who would be keen to move out to SMEs, looking for operational freedom, greater challenges or channelize their entrepreneurial instincts.  There are also a number of professionals who had moved out from traditional manufacturing / services sector to IT companies during the technology boom of the last decade, who may be keen to get back to their core domain. The challenge for the SME entrepreneurs is in reaching out to such talent and attracting them with a suitable package comprising monetary rewards, appropriate designation as well as authority and responsibility.  

A classic example of such reverse drain is being witnessed in the IT sector where senior professionals from well-reputed IT companies are moving out to head smaller IT companies as CEO / CXO as they hit the glass ceiling in the larger setup. A similar trend is also emerging in manufacturing sector, which SME entrepreneurs should be prepared to capitalize on.

Changing mindset
SME entrepreneurs should acknowledge the fact that the balance of power in hiring good talent for senior management position has shifted from the demand side to the supply side. They should change their mindset and be willing to spend serious amount of time and effort in identifying the correct resource. They should also be prepared to hire professionals at market-based salaries; appropriate structuring of the compensation package with significant variable pay component, profit sharing and even some equity stake if required can help bridge the gap to a certain extent, without adding significant risk to the entrepreneur. Entrepreneurs should also adopt innovative methods such as campus interviews, alumni forums, social media and online advertisements to reach out and present a compelling case for such professionals to join them.

N. Muthuraman is Co-founder of RiverBridge Investment Advisors Pvt. Ltd., a boutique financial advisory firm and can be reached at  

This is the blog of the Print Version published in Business Line dated 16th April 2012

Sunday, April 1, 2012

Exit Strategies for SME Entrepreneurs

Exit Strategies for SME Entrepreneurs

Several trends that were observed only among large corporates in the past are now distinctly visible among SMEs; adopting profitable exit strategy from business is one such clearly emerging trend. Indian entrepreneurs today are lot more open to exit their business, unlike their counterparts in the previous generations. This is probably due to less emotional attachment and lot more commercial orientation in their decision making.   The most common motivations for exit from business and popular exit strategies are discussed here.

Motivation for exit
The most common motivation for business exit by SME entrepreneurs is to make it big by joining hands with a large corporate and thereby leave a larger legacy.  Several entrepreneurs face significant challenges to scale up because of lack of own resources to meet growing funding needs in line with growth in business. The result is stagnation in business forcing entrepreneurs to look for a larger strategic partner to grow.  Another motivation prevalent for business exit is threat of long term survival due to consolidation of the industry with entry of bigger players. Branded consumer goods sector in India is a classic example, where smaller regional brands have exited to MNC players, in the consolidation process.  Company specific issues such as absence of a clear succession plan or financial distress are other frequently observed reasons for entrepreneurs to exit their business.

Exit strategies
The most common exit strategy for SMEs is outright sale of the business to a large corporate. In India, a few hundreds of such transactions happen in a year, though scope exists for a significantly larger number. Sale of majority stake to a large corporate to infuse capital and continuing to manage the operations is also reasonably popular.  A common misconception among SMEs is to perceive Initial Public Offer as an exit strategy; in reality, it is just the first step for a long-drawn phase of growth and maturity for an enterprise. Buyouts by Private Equity investors is in nascent stage in India, but significant interest exist among global investors to enter this segment in the coming years.  Another unique exit strategy, particularly popular in principal cities, is retention of land and sale of assets / business, as land value has yielded immense results for many mid-size companies,  far in excess of profits from their core business.

Sectors witnessing significant action
The outright acquisition route has become very common among consumer products – white goods, electrical appliances, consumer financial services are all attracting buyers from Europe, Japan and US besides large Indian corporates as ready client base and channel network help the acquirers jumpstart their business. Other niche sectors such as industrial valves and cranes, small regional branded products, logistics and engineering services are also witnessing significant interest from buyers.   

N. Muthuraman is ex-Director Ratings, CRISIL and Co-founder of RiverBridge Investment Advisors Pvt. Ltd., a boutique financial advisory firm.

This is the blog of the Print Version published in Business Line dated 2nd April 2012\

Sunday, March 18, 2012

Mezzanine Capital is an attractive option for SME entrepreneurs

Mezzanine Capital is an attractive option for SME entrepreneurs

Mezzanine capital is rapidly emerging as an attractive source of capital for mid-size corporates.  This recent growth is driven by several new NBFCs and funds that have started offering mezzanine capital products to Small and Medium Enterprises, in search of higher yields. This funding option, typically invested in the form of preference shares, convertible debentures or debt with warrants, is also gaining increasing acceptance among the SME entrepreneurs because of the flexibility that it offers. 

Flexible terms
Mezzanine capital typically has characteristics of both debt and equity, combined to provide significant flexibility to the company, though at relatively higher cost of funds than debt.  The funds raised can be used for a broad range of end-use, some of which may even be prohibited through bank funding – such as financing an acquisition, purchase of land, creating intangible assets like brands, etc. The repayment terms are also typically flexible, with requisite moratorium and ‘pay when able’ features, which are particularly useful for projects with uncertain timing of cash flows.   The typical cost of mezzanine capital could be in the range of 18% - 20%, payable through a combination of periodic coupon, redemption premium as well as warrants / profit sharing.

Minimal equity dilution
Mezzanine capital funding typically involves minimal or no dilution of equity stake, provided the future cash flows are sufficient to redeem the same. This non-dilutive nature makes it an attractive proposition for companies with healthy growth prospects, as formal equity fund raise – such as through Private Equity or Initial Public Offer – can be deferred by a few years to divest at significantly higher valuation.

Sectors preferred by investors
Mezzanine capital investors look to invest in companies across a wide range of sectors, including manufacturing, real estate, infrastructure and service sector. Companies with revenues of Rs. 100 crores or more, with good credit standing, established track record and good growth prospects are the most sought after by mezzanine capital investors.

In well-developed financial markets, investors with a wide range of risk appetite operate in different segments of the market starting from the low risk Government treasury bills to high risk distressed assets and structured products. Mezzanine capital is a well-developed segment in the medium-high risk category with return expectations slightly higher than debt. The development of such a segment in India bodes well in the long run, both for the companies as well as for the financial markets.

N. Muthuraman is Co-founder of RiverBridge Investment Advisors Pvt. Ltd., a boutique financial advisory firm and can be reached at

This is the blog of the Print Version published in Business Line dated 19th March 2012

Sunday, March 4, 2012

Budget Expectations of SMEs

Budget Expectations of SMEs

This is that time of the year when every interest group articulates their wish list and expectations from the upcoming budget. Here is one such wish list on behalf of the Small and Medium Enterprises (SME) segment, which acts as the bulwark of the economy, contributing almost half of India’s industrial output and employs over 25 million people, the largest sector after agriculture.  A boost to this sector would go a long way in reviving the sagging economic growth rates and have a much wider impact on large section of the population.

Progressive Tax Rates for SMEs

A Progressive Tax regime for Corporate Tax i.e. higher marginal tax rates for higher levels of income akin to personal income tax rates, can benefit SMEs to a great extent.  The marginal utility of the tax saved by SMEs are far greater than that for large corporates, and the cash preserved can increase higher levels of re-investment in business and aid the growth of SMEs. United Kingdom has a progressive tax slab for corporates, while Canada and Russia have special (lower) tax slabs for SMEs. While the current fiscal condition in India may not warrant any major reduction in marginal tax rates, a progressive tax regime can meet the fiscal objective while benefiting several small enterprises.

Encourage Capital Expenditure by SMEs

A fiscal incentive that encourages locally sourced capital expenditure can initiate a virtuous cycle of growth in demand for capital goods which in turn spurs demand for components, basic commodities, logistics and related services.  Allowance of higher depreciation benefits for capital expenditure for  a limited period can kickstart demand cycle without seriously denting the Government’s fiscal situation as shortfall in corporate taxation will be more than offset by indirect tax growth on capital goods and intermediate products.

Early implementation of GST

The current service tax / VAT regime in India, that varies from State to State is very complex, seriously affecting the climate for entrepreneurship.  A transparent and stable Goods and Service Tax (GST) regime is a crying need of the hour, and the Budget should aim at implementing this progressive tax regime immediately across the country. The flaws in implementation in the current regime such as in Service Tax which is liable for payment immediately upon raising invoice irrespective of credit period and collection should be addressed in GST implementation as this has serious implications on the already precarious working capital position of most SMEs.

Large corporates not only have stronger voice in opinion making, but also have quick feet; they can channelize their investments to the lowest cost country anytime as is being witnessed now in India where outbound investments are growing rapidly. On the other hand, SMEs continue to remain where they are, making local investments and providing local employment.  The Budget presents an opportunity to take targeted policy initiatives outlined above to help SMEs grow.

N. Muthuraman is ex-Director Ratings, CRISIL and Co-founder of RiverBridge Investment Advisors Pvt. Ltd., a boutique financial advisory firm.

This is the blog of the Print Version published in Business Line dated 5th March 2012

Sunday, February 19, 2012

Improving viability of desalination holds promise against water shortages

Improving viability of desalination holds promise against water shortages

Desalination of sea water to meet the industrial and residential water requirements has been in vogue for many decades now.  However, the cost of water obtained through this source has been very expensive, preventing large scale adoption of reverse osmosis (RO) technology commonly used in such plants. In the recent times, the costs are dropping significantly because of economies of scale, improvement in technology such as enhanced life of membranes used in such plants and sharp drop in membrane costs thereby improving viability of desalination plants.   This holds significant promise for both industries as well as municipal bodies to meet their acute water shortages currently prevalent in many parts of the country.

Global Scenario
97.5% of earth’s water is sea water, 2% is in the form of ice leaving only 0.5% as fresh water. While harnessing sea water could potentially end water scarcity forever, the costs have been prohibitively expensive in the past, preventing widespread adoption. Middle East has been the leader in this technology as vast arid landscape has left limited options for these countries; today about 50% of world’s desalination plants are located in Middle East.  The growth, however, is coming from Africa and China which are taking big leap in desalination for municipal water supply. Today, the world’s largest desalination plant is located in Magta, Algeria with a capacity of 500 million litres per day (MLD). This is almost 4 times increase in size of the largest plant in the last decade.  The increasing size of the desalination plants has improved economic viability of this technology significantly.

Power sector is driving costs lower in India
In India, most new power plants are coming up in coastal areas, mainly to meet their water requirements through desalination.  This has increased demand for desalination, and at the same time rapidly increased competition in the desalination industry. This has resulted in sharp drop in price of membranes, a key component in desalination plants accounting for almost one third of the total plant cost, by over 50% drop in the last decade. The life of membrane has also been steadily increasing because of improvement in technology such as ultra-filtration and pre-treatment processes.

Cost comparison
Increasing scale of desalination plants, sharp drop in membrane costs and enhanced life of membrane have together resulted in lower capital expenditure as well as operating costs per MLD capacity for a new plant. Today, a new plant can produce water at about 3-3.5 paise per litre; while it is still higher than 1-1.5 paise per litre from traditional sources, it is vastly cheaper than 7 paise per litre that consumers pay for water through tanker lorries.

Attracting Private sector capital
While the industrial sector has been quick to adopt desalination route to meet their water shortages, municipal bodies as well as central and state governments have shown lukewarm interest till date. Chennai Metro Water is the only municipal body in the country to have an operational desalination plant in the country, which meets about 7% of the city’s water needs.  Co-opting private sector participation through Public Private Partnership projects and BOOT model plants would attract significant capital to this sector.   Increasing cost of power, which accounts for 30% of operating costs and huge power deficits are serious concerns for such plants. A combination of solar energy units to power desalination plants can work eminently well in the near term as costs of solar energy as well as that of desalination plants are sharply declining, improving viability of such plants. In the long run, consumers would also be willing to paying meaningful tariff for good quality water and continuous water supply.

N. Muthuraman is ex-Director Ratings, CRISIL and Co-founder of RiverBridge Investment Advisors Pvt. Ltd., a boutique financial advisory firm.

This is the blog of the Print Version published in Business Line dated 20th Feb 2012

Sunday, February 5, 2012

Credit Guarantee can help improve funding access for SMEs

Credit Guarantee can help improve funding access for SMEs

The prelude to the Budget session of the Parliament elicits expectations from various interest groups every year. Here is one such expectation from the Small and Medium Enterprises – improved access to capital at reasonable cost by enabling liberal credit guarantee schemes for the sector.  The current scheme, christened Credit Guarantee Fund Trust for Micro and Small Enterprises (CGTMSE), founded in 2000 has made some progress in its 12 years of existence. However given size and scale of SME sector in India, a much broader credit guarantee scheme with higher credit limits should be enabled by the Government of India to address the needs of the sector. This initiative, coupled with defined mandates for banks to implement the scheme could dramatically improve access to finance for SMEs that account for almost half of India’s industrial output and exports. 

SMEs in India have traditionally been hamstrung by poor access to capital to fund their growth needs.  As per RBI data for 2010, 94% of non-consumer banking accounts enjoy less than 30% of the non-consumer bank credit facilities, which clearly highlights the dearth of access to banking facilities for SMEs.  While the Government has clearly identified this as an area of concern several years back, very few initiatives have been taken to address this lacuna.

International experience

Credit guarantee schemes, with certain minimal risk sharing by the lender and significant credit loss absorption by the Guarantor, will significantly improve access to credit facilities for SMEs, as has been witnessed in several other countries. Japan and Korea, both with vibrant SME sectors, have outstanding SME credit guarantee in excess of 5% of their GDP, as compared to approx. Rs. 10,000 crores accounting for less than 0.2% of GDP in India.  China had identified the same concern in late 1990’s and encouraged state-sponsored credit guarantee institutions by regional and provincial governments; today China has over 4000 credit guarantee institutions, with over RMB 1 trillion outstanding credit guarantee, or about 3% of its GDP.

India has a long way to go

Credit guarantee in India started in 2000 with a well-defined scheme – central government guarantee against default for loans to SMEs that are extended without any collateral, upto 75% of the credit loss to the lending bank.  Even new enterprises without any track record can avail this facility, if the proposal meets the credit requirements of the lending bank.  However, 12 years later, most banks have not popularized this product and are still reluctant to freely extend collateral-free loans to SMEs.  Also, the cap on the amount, recently enhanced from Rs. 50 lakhs to Rs. 100 lakhs is still measly in the current context and need significant upward revision to, say, Rs. 5 crores.

Ways to improve reach of credit guarantee schemes

India can replicate the Chinese model and encourage multiple credit guarantee institutions, licensed by the insurance regulator. Once the government-supported institutions prove the business model, private sector participation in creating credit guarantee institutions – by banks, insurance companies, etc. - can be encouraged.  Simultaneously, the banking regulator should actively encourage banks to give thrust to this product, in ways similar to the incentives provided to the housing finance by banks.
Despite the current fiscal scenario faced by the Central Government, credit guarantee schemes can be easily supported by the Government as corpus fund contribution by Government can support credit to the tune of over 50 to 100 times the contribution as funds may be needed only to meet the credit losses of 1-2% over and above the guarantee fees collected.

N. Muthuraman is Director, RiverBridge Investment Advisors Pvt. Ltd., a boutique financial advisory firm and can be reached at 

This is the blog of the Print Version published in Business Line dated 6th Feb 2012