Notes

Aztec Group Inc Florida Singapore Tokyo Japan Investments Scam-Wary private-equity firms


MUMBAI: When a Mumbai-based executive at a US private-equity firm got a phone call about how the senior management of an Indian company majority held by it was siphoning off money, he didn't believe it. Still, the PE firm hired one of the big four auditors to investigate, and what came out of the probe was shocking.

"The management team was dishing out contracts, including purchasing of machines, materials and services through one company without going through a tendering process. The evidence collected revealed that the management team owned this company though which purchasing was done," said a person directly involved in the investigations.

The PE firm, which owned about 90% stake in the Indian company, sacked the senior management and brought in a new one. Before this could be done, the investigations found, around Rs 80 crore had already been siphoned off.

This US investor is among an increasing number of PE firms rushing to corporate investigators, suspecting governance issues including fraud and corruption at companies where they hold stakes. "PE funds are increasingly carrying out post-investment investigations to monitor their investments, particularly when there is an allegation or suspicion of fraud," said Nikhil Bedi, senior director at Deloitte Forensic in India. "Given that PE funds generally invest in minority positions with limited operational control, the course of action to salvage the investment when such an issue is discovered tends to therefore be is limited."

But PEs have full control of such situations when they acquire a majority stake. And, according to industry trackers, the trend of post-investment investigations has been growing as more PE funds are buying controlling stakes in Indian companies. "PEs in India are taking a number of steps to avoid risk of fraud post acquisition," said Dhruv Phophalia, managing director, India leader, for global forensics and disputes at business management advisory firm Alvarez & Marsal.

Hiding crucial information from investors could lead to a lot of problems. That was the issue at a Chennai-based real-estate company's special purpose vehicle where a PE player had invested around Rs 200 crore. "A few months after the investigations, the investors realised that the project was not going ahead and the real-estate developer was not even responding to their calls," said the head of the forensic consultancy that investigated the case. "Investigations revealed that the developer had not revealed an ongoing legal battle between himself and someone who claimed the land parcel was his. The chance of the project getting completed was nil," he added. In cases where the PE players do not hold a majority stake, it is really tough to resolve issues, say experts.

"The post-investment conflict resolution is a huge problem in India. Firstly going to the court could be time-consuming, not to mention that it would mean the world would come to know that the PE fund is sitting on a toxic asset.

Also, PEs are worried about limited partners, or investors, putting pressure on them for returns if such a deal comes in the public domain," said Reshmi Khurana, managing director of Kroll India, a corporate investigations and risk consulting firm.

In the last financial year through March 2014, litigations were filed in Indian courts related to PE deals worth over Rs 3,100 crore.

While many investors want to take the arbitration route to solve the issues, some just suffer the loss, try to convince the promoter to buy back the stake or pawn the investment off to another unsuspecting PE player, say industry trackers.