The early bird in the Indian venture capital story

The early bird in the Indian venture capital story

Sarath Naru, managing partner at Ventureast, one of India’s oldest venture capital (VC) firms, has pioneered several firsts in the Indian VC industry. His latest bet: India’s first micro-equity fund to provide equity-like financing to small neighbourhood businesses

Sarath Naru, Managing Partner, Ventureast

On a balmy Bengaluru evening, Sarath Naru told me, “I think India is going to do well and I am betting on Dhoni to bat well.” This was a day ahead of the historic India versus Pakistan ICC World Cup 2011 semi-final in Mohali. As managing partner at Ventureast, Naru bets on people for a living. In spite of Dhoni’s shoddy performances with the bat till then, Naru was betting on the Indian captain to come good when it counted the most. And he was proven right as a few days later, as is well known, India lifted the World Cup courtesy Dhoni’s gritty performance with the bat in the finals.

Perhaps, it was his gut which drove Naru to bet on Dhoni when the world at large was skeptical. Again, an astute observer would suggest that Naru brings this gut to the business table; while picking out entrepreneurs and backing them with his money. Typically, he ensures that this gut is backed up by a thorough analysis and reading of a potential investment.

Take for instance the time he invested in Jairaj Kumar’s Ocean Sparkle, a port management services company, in 1997. The company’s role in the port-management sector was in line with Naru’s analysis that the need for services in the infrastructure sector was going to boom in the late 1990s and early 2000s. Naru went ahead and invested US $0.58 million into Ocean Sparkle for a 22 per cent stake. Over the next few years, Ventureast made multiple rounds of investment into the company and eventually exited the bulk of its investment in 2007 by selling its stake to India Equity Partners, a private equity firm. Naru says it is among Ventureast’s best investments till date and the fund touched an exit multiple of 43x on its investment.

Since founding the firm in 1997, Naru has made a mark for himself as a venture-style fund manager by betting on over fifty such entrepreneurs. He currently manages over US $300 million in funds and has invested in companies across sectors including technology, clean technology, biotechnology, healthcare and life sciences.

Naru and his team not only urge the companies they invest in to innovate, but also believe in innovating and differentiating in their own investment strategies. And the BYST Growth Fund, a micro-equity fund, is one such innovation. (The fund was created in partnership with Bharatiya Yuva Shakti Trust, an NGO with a countrywide mentor network that gives out loans to micro entrepreneurs). In 2008, Ventureast started managing the micro-equity fund that would invest in small, neighbourhood businesses typically started by disadvantaged entrepreneurs.

Through this story, we bring to you the inside workings of the venture-style fund manager, the thought process behind managing the BYST Growth Fund and why Naru is willing to bet on early-stage entrepreneurs and help them get to the next level of growth.


“We exhort our entrepreneurs to innovate, to take risks, so as fund managers we’re constantly asking ourselves – how do we innovate and differentiate at Ventureast?”


Phase one

Since being founded as APIDC Venture Capital in the year 1997 (later renamed Ventureast), when the VC arm of the Andhra Pradesh (AP) State Government was privatised, Naru and his team have been a key component of the Indian VC industry. When the AP government invited bids to privatise the VC arm, Naru had put together a team of professionals to start a VC firm in India. They won the bid competing against the likes of Mahindra Group and CRISIL. Naru says, “I think we won the bid because the most successful VC firms around the world were run by owner-managers rather than by corporate houses or bureaucrats.” The AP government liked their pitch and the background of the team members, but the government was not convinced about the fund-raising capabilities of the founders. They let Naru’s team buy a 51 per cent stake in APIDC on a conditional basis: it had to raise US $3 million within nine months to prove that it could raise money. “We raised the money in about four months from SIDBI and some non-residential Indians in the U.S.,” says Naru.

Since then, Ventureast has silently delivered value to its limited partners. It has also invested in unchartered territory and managed to implement several firsts in the Indian VC space. To name a few, it started India’s first biotech-focused fund (Biotechnology Venture Fund), the first seed-stage fund in partnership with an academic institution (Ventureast Tenet Fund-I in partnership with Indian Institute of Technology-Madras) and the Ventureast Proactive Fund largely focused on rural technology companies. As far as investments went, the company took its chances and several of those paid off. It invested in a semiconductor company, Moschip Semiconductor Technology Ltd., which eventually became the first listed semiconductor company in the Indian stock markets (it was listed in the year 2000 providing a return of 4x to its investors). In addition, Ventureast invested in India’s first drug discovery company that eventually listed in the Swiss stock exchange. Naru explains, “The advantage of getting into a sector before it becomes obvious to others is that you become some sort of an expert in that industry. The flip side, of course, is that it is riskier.”

Over the years, the firm has continuously attracted big name limited partners, including the likes of International Finance Corporation (part of the World Bank Group), Google, Bank of Baroda, Punjab National Bank and several other foreign investors.

The next ‘small’ thing

Ventureast’s BYST Growth Fund invests in certain small businesses, which neither can raise equity (since there is no exit option) nor raise debt (because of the lack of collateral).  Naru says, “We had several discussions with the Reserve Bank of India and our view is, to help these businesses grow, the funds invested should have some features of both equity and debt.”

Naru’s thinking here is fairly simple: The Indian entrepreneurial dream is not restricted to the educated class. India is filled with several small, disadvantaged, yet, street-smart entrepreneurs and there ought to be a model to empower them.

Recently, BYST invested in Rajesh and Dhayalan, two cousins who founded a hair salon called Studio Essentials in Chennai. The duo come from relatively poor backgrounds and are uneducated. It was in their late teens that they picked up the skill of becoming hair stylists. Their entrepreneurial drive saw them open their first unisex hair salon. Snigdha Vangapally and Rahul Raghavan who work with Naru in the BYST fund spotted the potential to expand Studio Essentials. A second branch was opened with funding from the BYST fund with an equity-like model. Naru says, “In this model, we are looking at returns greater than banking, but certainly not venture capital like returns.” Typically, the BYST fund will take a percentage of profits or revenues or a combination of the two from the investee company. In some cases, it could even be a percentage of the cost of goods. “Whatever we make, it has to be tied in to the success of the venture,” says Naru. Typically, the BYST fund invests anywhere between Rs. 10 lakh and Rs. 50 lakh in such ventures. For a stipulated time period (say five to eight years), the investee company provides returns in the form of share of profits or revenues (usually).

Playing mentor

Funding is just one aspect of this exercise. The more important part of funding such micro-enterprises is the mentoring one can provide. In the case of the Studio Essentials, Ventureast has provided mentorship in several aspects, right from attracting customers to etiquette and skills training.

Naru compares the whole model to how McDonald’s handholds its franchises. “From the layout and ergonomics to imparting skills, there is a standardised process to get a new franchise owner up to speed. This is no different. Once we have a cookie-cutter model, we can replicate this in ten more salons.” Since establishing the BYST fund in 2008, Naru has funded five such ventures. One of its investee companies, Rex Miller Garments, a garment manufacturer that supplies uniforms to corporate clients was started by Raja, a tailor. BYST’s mentoring program helped him understand the processes that needed to be established, and setup the company’s accounting system. The fund also helped Raja acquire clients in the pharmaceuticals and healthcare space.

Of note, Naru does understand that some of the things he is trying out now are only experiments that will shape up the way the fund is operated. He identifies the three big challenges in growing the micro-equity model:  establishing scale, finding the right micro-entrepreneurs and making them understand this model and structuring of the financial return model. Naru recognises the fact that it is not going to be easy, especially to find such micro-entrepreneurs who are also thinking about scale. “Helping micro-entrepreneurs understand the financial structuring model is also a challenge,” he adds. Going forward, he hopes to create a formal process by which each of these challenges can be met.

Naru’s vision for the future is to create a process for effective mentorship. His belief is, for the model to scale, the fund needs to engage with relevant mentors who can train these micro-entrepreneurs effectively. For now, the process is informal with retired professionals and consultants being roped in to create that process. Unlike at McDonalds, each business the fund invests in requires different areas of expertise. Such micro-enterprises need handholding both in core and non-core activities and Ventureast’s role in shaping up both these category of activities is critical.

While the BYST fund is only one among many innovations pioneered by Ventureast, if implemented well, it could be a game changer in India’s entrepreneurial story.  Micro-equity could add a whole new dimension to India –imagine a world where your neighbourhood grocer, your vegetable vendor and your tailor are all thinking about growth, scale and branding, not to mention the number of jobs that could be created in the process.

Modus operandi

While the BYST fund is a big bet on a completely new thesis, the confidence to manage such a fund comes from its successful past. Ventureast’s portfolio companies are not always in sectors that are considered hot by the VC community.  In its first ever fund, it invested in a port management services company, an auto ancillary player and an industrial manufacturing company, among others.  Naru says, “At that time in the late 1990s, early 2000s we were saying we wanted to invest in very specific sectors in India. This was a time when limited partners were willing to bet on the overall India growth story. But, we were overseas, raising money, with a very clear focus on where exactly we were going to invest the money.”

Naru admits that there are some deals he knows he is going to make, within the first few minutes of meeting the entrepreneur.  When Bijaei Jayaraj, an aspiring entrepreneur at the time, met with Naru at TiE-ISB Summit in Hyderabad to make a pitch about building a customer loyalty and relationship management business, Naru was convinced within the first 30 minutes about Jayaraj’s ability to build a business in this space. “But I had already committed an investment to eYantra, a corporate gifting company that had some plans in the loyalty space. So, we structured the deal in such a way that eYantra invested in Jayaraj’s Loylty Rewardz. Ventureast made the investment into eYantra.”

Even today, after its early foray into the life sciences space, Ventureast continues to invest in the sector. It is currently raising a life fund (when the fund is closed, Ventureast’s assets under management will reach US $400 million) focused on investing in clean environment solutions using life sciences. A new sector Naru is eyeing these days is the food and agriculture sector. He is looking at the role logistics plays in the agriculture sector, especially at companies that can bring efficiency into the logistical process.

Naru admits that he has missed out on several investment opportunities that, in hindsight, would have been great investments. He specifically talks about Equitas Microfinance, founded by P.N. Vasudevan. Naru says he loved the concept of urban microfinance, the innovations that Vasudevan brought to the operational process to reduce costs, but just could not agree on the final valuation. Naru says, “It would have been a great investment. But, that is the way it is. We are still very good friends and in fact, I am on the advisory board of Vasudevan’s micro-housing venture.”

The conversation with Naru could go on and on. Almost every investment the fund makes is matched with a thesis one of partners strongly believes in – be it in life sciences or customer loyalty management. Naru also believes in sticking by the thesis in the long run. He says, “In this business, we need to be prepared for short-term hiccups. Once you believe in a company and the sector, there might be a need to pump in more cash. In several cases, we have gone ahead and invested further.”

Naru draws us to a close by saying, “As Warren Buffet often says, as investors we just need to be smart enough, certainly not over-smart.” It is a mantra he tries to follow across the various funds Ventureast manages today. Once the money has been raised from limited partners it diligently invests, in the words of Naru, “in wonderful people who are working on an idea whose time has come.”


A “to do” list for someone starting a VC firm

I have a favourite quote from Guy Kawasaki, an ex-Apple bigwig, entrepreneur, author and the chief-executive officer of Garage Technology Ventures, a venture capital (VC) firm for technology companies. On being asked what it takes to become a VC, he said, “First, do not go straight into venture capital from school. This would irreparably harm your level-headedness. The right way to become a venture capitalist is to first get a minimum of 10 years of operating experience. Then, if you’re a horrendous failure or a fabulous success, you can become a venture capitalist.” While it is a bit tongue-in-cheek, I subscribe to this philosophy.

To be perennially successful in this field, the experience and understanding of entrepreneurship and what makes a business tick, is a must. But, after that, having worked with a VC firm would be another critical step, unless one has timed it to a boom cycle (such as during 2006 to mid-2008), in order to be able to attract capital for the fund. This can justify a track record of building businesses and hopefully, successful investments. Beyond this, the next critical step is to have a team that has worked with you as there is a demonstration of good compatibility. The final ‘must have’ is a sugar daddy who is willing to bet on you first. Typically, this person is the anchor investor and it is necessary that there is a significant quantum of commitment to the fund by this anchor, and it would be ‘very’ helpful if this anchor were of some recognisable repute for the fund-of-funds community. Beyond this it is only a long litany of obvious things and the astuteness that one has to kiss many frogs to find a prince.

– Sarath Naru

Prem Sivakumaran is co-founder & CEO of Growth Mechanics, a leadership and entrepreneurship-focused business content company in India. Growth Mechanics publishes The Smart CEO, a publication focused on enabling peer-to-peer knowledge exchange among C-level executives and board members. The platform reaches over 1.2 lakh CXOs across its website, app, print publication & CEO Round Tables, and has featured on the cover India’s leading business leaders/founders from Infosys, Mindtree, Tata Sons, ICICI Bank, Biocon, Yes Bank and several others. In addition of Smart CEO, Growth Mechanics also organises the Startup50 Conference & Awards, an annual event to recognize India’s top 50 startups every year. Startup50 Alumni include Freshdesk, Oyo Rooms, Urban Ladder, Capital Float, Paperboat Beverages, among others. Growth Mechanics’ primary business model revolves around linking CXOs and Brands around engaging content and has worked with India’s leading companies including Mahindra Group, Godrej & Boyce, BASF, Airtel, Tata Docomo, Fiat, IDA Ireland, Yes Bank, Prestige Estates, Frederique Constant, Indian Terrain

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