Author: Avishek Gupta

I help drive sustainable development by financing the growth of professionally managed entrepreneurial ventures that solve key social and environmental problems. Having financed and observed over 250 ventures from close quarters, I understand the challenges that such ventures face in scaling up. I have the knowledge of process, financing and technology solutions that can help overcome those challenges. Separately, I have the experience of building businesses that finance early/growth stage companies. Most recently, I was involved with growing Caspian Debt to a full-fledged operating company from an initial 3 member fund investments team.

Needed: A climate finance interchange – a railway junction for capital

(This is part 2 of a 3 part series on climate finance for India. Read part 1, 3 here.)

India needs a new type of financial institution that acts like a technologically advanced railway interchange (“capital interchange”). A capital interchange that will efficiently sort and redirect capital, structure transactions to ensure funds reach the right destinations, on time. It will use data driven approaches to align tracks and give signals to trains where it can move or slow down.

The interchange will attach concessional capital where necessary, couple commercial capital where practical. In the process, it will ensure that capital reaches both smaller, high-impact climate projects and the large-scale ones.

By doing that, the capital interchange will help investors across the capital spectrum – pension funds, endowments, insurance companies, development and commercial financial institutions, family offices, and foundations, increase the flow of capital into climate solutions.

The capital interchange will achieve this in several ways.

Curating investment opportunities: Connecting small stations with big ones

The Capital Interchange will support investors across the returns and impact spectrum to drive capital in the climate space, particularly those opportunities that they would otherwise not consider directly. 

Investors need clearly structured opportunities that match their risk appetite and return expectations.  The capital interchange will leverage its expertise in specific climate sector supply chains to source, screen, conduct due diligence and structure transactions that satisfy specific goals related to financial returns and impact. It will also assist in deal monitoring and facilitating value-creation (in some cases) during the life of an investment. As a result, the investors will not need to develop evaluation criteria for each small project, nor will they need to evaluate each small project separately. The capital interchange will also work towards standardising contracts and deal structures to speed up deals closures. 

To mitigate risk for investor partners, the Capital Interchange will always make mezzanine or pari-passu investments while also bringing in de-risking capital from other sources, where required. The Interchange will focus on transactions with a size range of USD 1- 60 million. It will fund the lower range of transaction sizes between USD 1-4 million directly from its own balance sheet as debt or mezzanine capital. For larger size of transactions, it will curate investment opportunities of USD 4-60 million for the partner investors while co-investing in the mezzanine or pari-passu tranches with the partner investors. The average exposure from the balance sheet is expected to be about USD 1.5 million for both senior and mezzanine exposures.

This would create scale and reduce efforts for investors, making such opportunities attractive.

Leveraging technology and research to create transparency: Sending prompt train status updates

A railway interchange uses a complex system of signals, switches and scheduling rules. Imagine entering a control room managing a railway network. In it, the operators use sophisticated dashboards to coordinate and route trains efficiently. Technology will play a similar role in improving climate finance. The Climate Interchange will use technology to convey information regarding risks and impact. Research and domain expertise based specific evaluation frameworks will show investment suitability and early warnings. This transparency will enable investors to take quick decisions with confidence. It will make it easier to find investments that align with their risk appetite and impact goals. 

Capital interchange will draw on its domain expertise and deep industry connections to continually supply research and analytics to the partner investors to enable them to thoroughly assess investment opportunities which they would otherwise not have the time to build expertise on. The set of sectors and supply chains that are investable for different capital sources is expected to change rapidly depending upon regulatory changes and flow of funds. The Capital interchange with its local presence and deep connects with specific climate ecosystems, will continuously map this changing landscape. This practice will be expected to be financed by grants. Beyond enabling commercial institutional investors to invest, it will enable portfolio companies to build appropriate strategy. In addition, components of the research will be made publicly available as active contribution towards ecosystem building.

Blending capital: Replacing engines and adding coaches

Like a railway interchange matches engines and coaches to suit different terrains and routes, this capital interchange will match climate projects with varying types of capital. Hence, creating common ground for capital with different types of risk, return and impact expectations to work together.

For example, philanthropic capital can absorb early-stage risk and higher cost. This would make it easier for commercial investors to invest. This would in turn enable more such projects to be financed than what philanthropic capital alone could finance. Opportunities like climate-resilient agriculture, green buildings and nature-based solutions require concessional capital. It is often needed beyond the early stage. However, concessional capital alone is insufficient to meet the financing needs at scale.

Well-established assets like solar parks with multi-year contracts, offer stable cashflows that could attract pension funds and other long-term investors. However, there are critical financing gaps during the lifecycle of such well-established asset classes. While these projects require large amounts of capital over time, the initial phase requires smaller amounts, that a pension fund or even a bank may consider too little and too risky to be financed. Under these conditions, the best way to speed up the deployment of clean energy assets is to first attract small amounts of high-risk capital and then replace it with long-term capital as the project is deployed. 

Hence, coordinating different capital sources into clean energy projects becomes essential to unlocking institutional investments. Similar situations would be seen in newer types of assets like Cooling-as-aservice or Pay-as-you-go energy projects.

Creating new risk capital: Building new purpose-built trains

The capital interchange must develop a new type of risk capital. A type of capital that doesn’t require exponential growth like venture capital equity. Nor should the capital require hard assets like a bank loan. 

The capital interchange will need to offer financial products that fit the purpose. Better designed risk evaluation and product design will make this possible. By removing the expectation to scale rapidly and the need for mortgage collateral and by leveraging the strength of consistent cashflows tracked through a sophisticated risk tracking and signalling mechanism and leveraging credit protection from catalytic capital, the capital interchange could get commercial long-term investors fund a pool of similar projects directly at lower costs.

For example, the capital interchange could create a pool of assets that provide cooling as a service to hospitals and hotels. By doing this, the interchange could finance the adoption of the new technology, based on the long-term contracts between the hospitals/hotels and the cooling as a service provider. In such a structure, the cooling as service provider puts in a first loss, the capital interchange can put in mezzanine capital and the institutional investor can come in with senior long-term investments that gets paid back during the life of the contract.

There are several situations where new types of financial products are required. For example, there is a need for financing that encourages adoption of climate smart practices. A commercial investor cannot provide such a product. Here is one example of how it could work. A commercial lender may lend at commercial rates to an auto-component manufacturer. It can promise that the lender will give an interest rate rebate on a condition. The condition being that the manufacturer agrees to install a rooftop solar system. While the financing will be provided by the commercial lender, the interest rate rebate will be paid for by concessional capital sources.

(This is part 2 of a 3 part series on climate finance for India. Read part 1, 3 here.)

Climate finance for India: Connecting the right tracks for capital flow

(This is part 1 of a 3 part series on climate finance for India. Read part 2, 3 here.)

Climate change poses a significant threat to India’s economic growth and development. It is widely accepted that India needs to invest trillions of dollars to prevent severe economic losses due to climate change. Luckily, several investors have committed billions to invest for climate finance in India. 

And yet, the actual amount of capital invested to date is less than the total capital needed. Investors say there are few investable opportunities. But climate projects and organisations, solving climate issues, claim that finance is not available. 

Climate finance is like a poorly managed railway network

The climate finance situation in India is like a poorly managed railway system. Trains arrive but can’t reach their platforms. High-speed trains connecting major cities are prioritised over regional ones that carry far more passengers. Congestion slows everything down, delaying trains and leaving passengers frustrated.

Why are the climate finance trains delayed? 

Currently, climate finance in India, is focussed on large scale solar or wind parks. These types of projects have many years of investment history. Over time, investors have developed well-defined evaluation criteria. The perceived risk is low, and the investors can invest larger amounts per transaction. Electric vehicles and vehicles financing has recently been able to raise significant capital, largely due to policy tailwinds.

However, smaller climate projects, modern technologies and business models, struggle to secure financing. They have limited operating history and no standard evaluation criteria. This makes them harder and more expensive to assess compared to larger projects. Investing in these projects requires risk appetite and patience.

Lack of investor domain expertise and inability to invest time leads to focus on larger investments: 

Investing in any new area requires a commitment of time and people to build expertise on the relevant sectors and develop sources of deal-flow. Large investors, who deploy billions of dollars with relatively small teams, have to justify such commitments of time and people, especially if it is for sectors or opportunities that do not have a history of raising commercial capital. Often such efforts are found to be wasteful.

Difficult to find common ground for capital sources with different risk- return-impact expectations: 

Philanthropic concessional capital has risk appetite and patience for early and sub-scale projects and technologies, but such form of capital is limited. Commercial investors are not constrained by capital, but they do not have the risk appetite. They may also expect unrealistic financial returns. Concessional capital can promise to absorb the risk and make these opportunities safer to invest for commercial investors. Unfortunately, they do not find common ground to work with each other.

Traditional categorisation of investor types does not suit climate finance: 

Another problem is that investors are normally split into two distinct categories- Venture capital investors providing equity capital and banks providing debt capital. When venture capital investors invest, they expect companies to grow exponentially. When banks finance, they expect hard assets as collateral and years of track record. Significant majority of climate opportunities are not suited for either type of financing. They need something in between. Traditional categorisation of investors leads to climate projects not getting funded.

In summary, the current financial system is like an inefficiently run railway system that prioritizes highspeed express trains and neglects regional routes. It leaves out impactful projects that affects most of the people.

(This is part 1 of a 3 part series on climate finance for India. Read part 2, 3 here.)

Re-post How can Agritechs and FPOs build a bridge between Agribusiness corp and small farmers?

Now that some of the Farmers’ Bills are passed, what can happen to make things better and what role can Agritech companies play? What role can FPOs play? Why are they needed?

No single article can fully explain the complexity of Indian agriculture especially now that the bills are a political hot potato. This article doesn’t claim to answer all questions but does make an effort to try and show where the jigsaw pieces could fit. I have tried not to be swayed by the politics of the bill or the magical claims agtech.

https://www.cnbctv18.com/agriculture/how-can-agritechs-and-fpos-build-a-bridge-between-agribusiness-corp-and-small-farmers-6972361.htm

Re-post: Why debt funding is sometimes the smarter option

I wrote something on why and how debt should be used smartly by growing businesses and startups even in a post Covid world.

I say in the article “In difficult times like now, it is not just the product, process and marketing strategies that matter for businesses. It is also an appropriate capital strategy that ensures their very survival and long term value creation.”

The link to the article is here: https://www.techcircle.in/2020/06/18/why-debt-funding-is-sometimes-the-smarter-option

Ensuring Debt Finance for All Professionally-run MSMEs.

For several years, a number of policy initiatives have been taken to address the financing gaps for MSMEs. Of course, we have improved over the years. However, a lot still needs to be done. Here is a set of views, that I have, on how to go about doing it. Some of it is about approach and some of it is about actual implementation. Of course, this is a complex problem and I am not denying that genuine efforts have been made in the past. My argument is that those efforts have fallen short and it may be a time for policy makers to do a few things differently (to the extent that some of the suggestions may seem impractical but I am taking the liberty to list them out here.)

Note: Unsecured, small ticket lending to MSMEs based on credit of the individual promoter is largely (on the How to aspect) a solved problem (in India) and has got/getting a lot of attention. (We are miles to go for universal access to finance for MSMEs even in the small ticket, individual credit led lending.) The focus of this write-up is on corporate SMEs with high growth aspirations, where the funding requirements is in crores (individual promoters credit is not a good alternative for company credit) and is generally not done by traditional lenders without mortgage collateral. For new age, asset light but professionally run businesses, it is a key gap, that remains unsolved at scale. Hence, the focus on that segment in this write-up.This write-up is addressed to those shaping policy and regulation. This write-up is specific to the Indian context.

Do NOT broad brush: The MSME segment includes not just the local tea shop, or the puffed rice making factory but also includes the SME corporate with turnover upto INR 250 Cr (as per the recommended Budget 2018 classification) with some of them having raised institutional venture capital. Hence, the funding requirement, credit evaluation process and lending model will not be the same. If we don’t separate out the sub-segments and find specific solutions for each segment based on loan size, security and nature of entity, we will not have a comprehensive solution.

It may make sense to break down MSMEs into categories based on legal structure i.e. individual, proprietorship, partnership and OPC or private limited and have priority sector or lending target setting done separately for them. Have caps on loan amounts for each type of legal structure. The reason why I say this is, I am not sure why a firm with several crores of rupees in turnover, borrowing from banks, etc in crores should have the legal structure of a partnership/proprietorship. It should be a private limited company. The regulators have to make it easier for people to set up companies and be compliant. This will enable access to additional sources of data which can be leverage to take lending decisions.

(A note for SMEs seeking larger loans: If you don’t have mortgage or collateral security AND you haven’t put in much of your money as equity because you don’t have much AND you don’t have reasonable size of operations AND you don’t want to be compliant with additional regulations or provide verifiable data on various aspects of your business AND you still expect funding in crores – time to get some coffee. The purpose of adding compliance and improving access to different sources of data from the SME is to deal with the lack of security. Please note that unlike equity investors, lenders do not get a share on your upside but they do get a share of your downside for sure and hence they need to ensure that downside is limited. )

Accept that only Banks will NOT be able to help us in ensuring complete access to finance for MSMEs: Banks hold public/retail deposits and it is natural that they will have less risk appetite than NBFCs or specialised funds who are typically funded by entities that have the ability to manage risk unlike the retail depositor of a bank. By design, NBFCs or specialised funds will take more risk through sectoral specialisations. Historically, banks have been treated as the favoured child by regulators. If there is genuine interest in enabling access to finance for all segments of MSMEs, it has to be recognised that banks, NBFCs, specialised funds will together be able to address the funding needs of MSMEs.

How about allowing specialised MSME lenders partial access to the payments and settlements system? This will allow them to set up basic escrow accounts and current accounts with zero or close to zero EOD balance and ability to receive funds ONLY from corporates. NO cheques, NO savings or other deposits. This will enable specialised MSME lenders/NBFCs to offer payments, set up escrows to do a cash flow traping arrangements to deduct repayments without having to depend upon banks who create severe roadblocks in letting specialised lenders access to these simple operations. Sounds, kind of, like payment banks but I am talking about larger value transactions. Say, those who offer loans in INR crores to corporate SMEs and need to transact in several lakhs and crores and not in thousands.

Use Govt backed DFIs as market developers: India needs to find a way to use Govt backed DFIs in a market development role and not in competitor role. Their role should be to find ways to encourage other commercial lenders/investors (Banks, NBFCs, specialised funds) to do the job of lending to MSMEs instead of competing with them by trying to reach the MSMEs directly. I understand that there was a time when DFIs had to “show the way” because the commercial lenders/investors were not interested. However, over the past 8-10 years, it has been shown that private entities have been trying to find different ways of reaching out to the lucrative MSME finance gap. Frankly, if all the banks and NBFCs together are not able to directly reach all MSMEs, it is good reason to introspect and accept that one or two DFIs with limited geographic presence can reach out to all MSMEs.

Policy makers should encourage the use DFI funds to act as market developers through guarantees/credit enhancements for institutional investors to invest into NBFCs/specialised funds that are trying to fund MSMEs in India. This opens up a much larger tap of borrowings for the NBFCs and specialised funds (beyond banks) and also enables them to raise funding at a cheaper cost (assuming credit enhancement by DFI will lead to better rating of the transaction.). Oddly enough, I have seen multiple instances where Indian DFIs offer funding to NBFCs/specialised funds at a cost that is signifcantly higher than what the commercial banks or offshore commercial and DFI lenders are ready to offer at.

Consider Bank, NBFCs and specialised funds as partners and not adversaries: Banks in India (DFIs included) do not like sharing of pari-passu or second charge with NBFCs or specialised funds, as a practice, when lending to SMEs. Even though nothing in the regulation or law disallows it. This is a version of caste system propagated within our financial services industry under the excuse of lack of sufficient assets. Interestingly, I have seen multiple cases of companies that are profitable for more than 3 years with INR 50 Cr+ revenues (and fixed and current assets worth atleast INR 15-20 Cr) having INR 2 Cr worth short term facilities from banks backed by 75% cash deposits and security over entire current and future assets of the company (and possibly even the kidney’s of the promoters) NOT willing to share pari-passu charge over receivables (not on cash, not on fixed assets, just receivables) for NBFCs willing to lend higher amount than the bank and under more flexible terms. Since, forced regulation and orders will not solve this “social” problem, a better way is to encourage banks i.e. say that for the MSME loan accounts that the bank has, if the banks are able to demonstrate another non-bank lender on-board, they will be awarded 1.5x the value of their loans as priority sector.

Over-leverage of SMEs has to be addressed differently: Initiatives like the central credit registry is necessary to give a clear idea about over-leverage.(This is already being done.) It should be made compulsory to have all types of financial lenders (not just banks) add the details of the loans on the platform.

Data, data, data: Enable electronic access to data for all types of statutory, regulatory and transaction compliance done by companies. Eg: Specialised lenders or even banks should have access to data on taxes, electricity payments, EPFO, ESI, salary, bank transactions, etc. Security and privacy concerns are paramount but given that they are solvable issues, we need to find ways in which access to all that data is made extremely convenient, if we were to expand access to finance for MSMEs.

“World Domination”​ of the Agri Supply Chain

Historically misdirected/misutilised subsidies of the Govt made it very difficult for private players to operate in the agriculture supply chain. With the easing of regulations, we are seeing a large number of new private ventures (traditional and new age startups) entering agriculture. That is a good sign.

However, what worries me is that some of these companies (startups) and their VC investors are looking at the agri supply chain “domination” game with a similar approach like the Uber/Ola/Flipkart/Amazon model of “world domination” by burning huge volume of money to deliver market distorting “subsidies” to capture market share with the hope that the last startup standing will win it all. (Remember the days when drivers and riders were being paid to ferry you around? Or deep discounted sales prices for products?)

While Uber/Ola/Flipkart/Amazon is still to prove business viability, they are already shifting gears and causing significant distress to the affected. It may be argued that they have distorted local transportation markets for riders (costs have gone up significantly and availability is still a major problem) and have left several drivers with debt burdens they can’t service. We don’t know how this will end. (Anybody who knows, I am ready to buy you a coffee.)

If the startups and VCs replicate the same model of “world domination” in the agriculture supply chain (particularly when dealing directly with the farmer), they will most certainly leave the agri ecosystem with much more pain and damage than what the Govt did with misdirected subsidies.

VC Associates and Partners with no special expertise or knowledge of agri markets but with boatloads of cash will continue to wear Rolexes purchased with fund management fees whether or not their invested startup works. Startup entrepreneurs with “game changing” ideas but no capability to build a profitable business or achieve frugal growth, will buy mansions in Koramangala or Lutyens and select the next “Entrepreneur of the Year”, whether or not their startup works. But the farmer will be stuck between the devil (Govt) and the deep sea (startups) after enjoying a brief period of money induced trance and exuberance.

I know some will agree with all that I wrote. Good to know. Let’s get some coffee and discuss more. I also know that some will disagree with all that I have written and say that I can’t see the “big picture” and worse I am a “communist”. True, I can’t see the big picture but atleast, I am not blind or a communist. Let’s get some coffee and see if you can help me see the “big picture” and if I can get your eyesight back.

What is it to have succeeded?

This quotation has been a long time favourite, thought I should put it up here. It is by Ralph Waldo Emerson.

To laugh often and much; to win the respect of the intelligent people and the affection of children; to earn the appreciation of honest critics and endure the betrayal of false friends; to appreciate beauty; to find the beauty in others; to leave the world a bit better whether by a healthy child, a garden patch, or a redeemed social condition; to know that one life has breathed easier because you lived here. This is to have succeeded.