Davos 2020: Not Just India, The NBFC Problem Exists Across Nations, Says Bain Capital’s Steve Pagliuca

Bain Capital’s Steve Pagliuca talks about the future of private equity investing and how the corporate world will change.

Stephen Pagliuca. (Source: BloombergQuint)
Stephen Pagliuca. (Source: BloombergQuint)

An industry-wide funding squeeze crippled India’s non-bank lenders in the last two years, prompting the government and regulator to spring to action. But Bain Capital’s Steve Pagliuca said the problem wasn’t unique to India.

“The NBFC sector is an interesting issue because it has transcended many countries,” Pagliuca, co-chair at the private equity firm, which manages more than $100 billion in assets globally, told BloombergQuint at the annual meeting of the World Economic Forum in Davos, Switzerland. “There wasn’t as much regulation earlier, there was more freewheeling. They got reined in the U.S. with the new financial regulations and I think they are getting reined in India.”

Davos 2020: Not Just India, The NBFC Problem Exists Across Nations, Says Bain Capital’s Steve Pagliuca

India’s non-bank financial companies have been facing liquidity stress since September 2018 when shock defaults at IL&FS Group subsidiaries triggered a credit crunch. That raised borrowing costs for small lenders. The government and the Reserve Bank of India stepped in to support by assuring increased liquidity and a provision for a partial guarantee to help these firms sell loans.

Still, Pagliuca thinks that the regulator has acted “reasonably aggressively” to make things better. “In all countries it is an ongoing issue to stay ahead of new technology, new ways of banking and how to properly regulate that, so you’re not taking too much risk. That’s a process.”

Bain Capital, which counts Axis Bank Ltd. and L&T Finance Holdings Ltd. among its key investments in India, will continue to hunt for deals in India’s financial services sector, Pagliuca said without commenting on any specific deal. Media reports suggest Bain Capital maybe considering an investment in Max Financial Services Ltd.

“We’ve done many successful deals in the financial services area. That’s going to be a growing area with digitisation and technology and actually making services available for more people so we are excited about it,” said Pagliuca, who serves on the board of Axis Bank.

WATCH | Bain Capital’s Steve Pagliuca on the future of private equity

Here are the edited excerpts from the interview...

Let’s start with the global economy. It’s not looking that bad. There’s been a minor step-down in the forecast by the IMF. And markets worldwide are close to record highs.

The mood here in Davos is one or more of the same. People are looking for 2020 to be like in 2019. There’s some justification for that. The U.S. has done the phase-one trade deal with China so that’s calmed down a bit. The Mexico agreement, Nafta, so that’s calmed down a little bit. Brexit has a clear, maybe not totally clear, but a clear path. Record low unemployment in the U.S., low-interest rates globally. So people are kind of looking for more of the same in 2020. There are some issues like the national debt in U.S. is up to $22 trillion now. And that’s a big number. Just 10 years ago it was around $10-11 trillion. But that hasn’t been a problem because interest rates are very low. If I see a risk that could be if we have a political blow-up in the Middle East which affects oil suppliers, LNG prices because the world has lived with great energy dividend since the crisis. The conversation has been interesting because it has not a lot been about economics. It has been about combining economics with sustainability. How do we protect the planet? That’s core to business strategy.

There’s a political event this year in your country, the U.S. presidential elections. President Trump was here. And from all I could hear, his speech here in Davos was much better received than it was two years ago.

I wasn’t here for the speech. But people in Davos told he was really on-message. He talked about some of his successes so I am glad it went well for the President.

Does it look like he might win a second term? How does business feel about that?

I am private equity and an investor. I haven’t predicted any of the last 10-11 elections. Let the people decide that.

Let me come to India and the expansion of Bain Capital in India. You have about $3.5 trillion in private equity, the stressed asset fund and now entered the credit market in India. This is investing more faith in the economy of India?

For the last 10 years, India has been a core market for Bain Capital. It’s one of the world’s largest economies, you’ve seen incredible growth over there. It has slowed down a bit but it is still twice the growth of most Western economies. It has a great education, a growing middle class—there’s a lot of good things to be said about India. There’s a lot of progress.

So you continue to put more money in India? You’re not discouraged by the 5 percent growth figure?

Well, 5 percent growth in India is comparable to 1 percent in Europe. So everything is relative in the world. At Bain Capital, we have teams that look at businesses on a micro-basis. In any kind of economy, if you invest in the right businesses that have the right kind of products or strategy of growth or exports or merging companies for the better you can make money for investors. We have a fantastic and one of the most stable teams in India. We’ve had that for the last 10 years. I spent a lot of time there. It has been a pleasure to work.

Your largest exposure from the equity side is in the financial services business with your exposure to Axis Bank and L&T Finance. What do you make of the difficulties that this sector has faced over the last several years and the ability of the regulators and the government to respond in an efficient fashion?

Look all countries have had sporadic problems. In the U.S., probably over 30 years, there have been three bank crises. Banking is an inherently difficult situation because you want to loan enough money to make the economy work but you cannot take so much risk that you lose depositors’ money. When we invest we like to look at a solid company like Axis Bank. Our thesis was that we would fulfill the capital needs they had and if you look at the banking sector in India if you look 20 years ago banking was all government banks. Now private banks like Axis or Kotak have taken 30 percent of the market share. Our thesis with Axis is that it is a very strong bank. The capital hole was filled. It has very strong management. India is still growing at 6 percent a year and banking should grow more. You’ve had a blip recently but hopefully, you’ll come out of that. But that’s not unexpected. We thought there’d be a blip at some point in time. And that blip is being managed by Axis by being conservative with their loans, trying to grow business, they’re growing their branches and so we are very happy with our investment.

Do you feel the same about the NBFC sector in which L&T Finance works because that, in the last two years, the stress has built up?

Well, L&T Finance has done fine for us. We got much of our capital back already and that could be a great situation for us. The NBFC sector is an interesting issue because it has transcended in many countries. There wasn’t as much regulation, there was more freewheeling, they got reined in the U.S. with the new financial regulations and I think they are getting reined in India. And India has a very sophisticated banking authority. We work with them on a daily basis. I think that will protect what happens in the future. But I think you have to go through that then decide where you draw the line on regulations to not put them in a fold where you won’t have those kinds of problems.

So you believe we’ve done what we can to mitigate the situation over the last two years?

I believe they’ve acted reasonably aggressively to make things better. But in all countries, it is an ongoing issue to stay ahead of new technology, new ways of banking and how to properly regulate that, so you’re not taking too much risk. That’s a process.

I am sure your faith stays steady in the Indian financial services sector because I hear you are in the process of striking yet another deal in that sector with Max Financial Services. Are you?

We can’t talk about deals obviously. But we do have a very strong financial services group globally led by Phil Loughlin and we’re looking at opportunities all the time. But we can’t talk about specific opportunities. We’ve done many successful deals in the financial services area. That’s going to be a growing area with digitisation and technology and actually making services available for more people so we are excited about it.

Don’t tell me if you’re doing the deal or not. Can you tell me if you’re keen to actually invest more money in the space?

We’re never keen to invest money unless we see a specific great opportunity. Every opportunity has to stay on its own merits.

And if you were to invest in another financial services player, would you look to merge it with L&T Finance? Or would you be happy having three different entities?

We look at everything individually. If we find situations where things fit together, obviously we try to make that happen. Everything’s bespoke in this business. That’s why its so great. We’re trying to create what they call an alpha in the U.S. We’re not just moving papers around, we are actually trying to build great companies. That’s the fundamental tenet at Bain Capital.

With markets at near-record highs, how easy or difficult is to achieve or make alphas?

It’s difficult. But the good news is that private equity has been able to do that in these kinds of markets and markets that are not good. If you look at the 35-year history of Bain Capital’s every investment we made from 1985-86 to now, by year not by the fund, the lowest year was the crisis year where we returned somewhat two times the money to investors. Maybe a little less. In 35 years the average is somewhere between 2 and 2.5. That’s a long period of the cycle, the crash of 1987, the tech bubble and the 2008 crash. So for 35 years, investors have got great returns from private equity. Why is that? Because it is a necessary and a better model for companies. There’s a misnomer that private equity is out there just to cut costs. That couldn’t be true. You don’t make money unless you grow businesses. So we’re trying to grow Axis, we’re trying to grow our companies in the U.S. Canada Goose has grown from a small company to a large company making the world’s best jackets like I have here today. It’s all about growth. Specifically on Bain Capital, we’ve developed vertical expertise, and also functional expertise. Digital marketing, we have vertical groups globally focusing on retail consumer and financial services. And finally, the model itself. We’re owner-operators in partnership with the management of the companies. We don’t have 12-15 people boards. Everyone on the board is an expert. There’s a monthly communication with managers and not just quarterly meetings. We help with strategy, we help with resources as I said with digital marketing.

We really build our organisation of 1,000 people to focus on how to grow companies. And no politics. It is all about meritocracy, all about delivery of great products whether financial services or jackets. When I started there were probably 10 private equity companies, 20 globally, there are 4,000 today. We started with a $36-million fund, we have $100 billion now. The model has really worked. In the U.S., only 15 years ago there were probably 9,000 public companies, there’s 4,500 now. The private equity market cap in the U.S. is somewhere around $4.5 trillion and the stock markets are $35 trillion. So you’ve seen a penetration that the private equity companies are employing 9 million people in the U.S. And growth like at Bain Capital portfolio, we did an analysis of how many people do we have in companies and it was over a million. A million increase in people. To my mind, the model has worked and the model has actually worked fantastically in Asia because people who come to us want more than money. They want that strategy, those capabilities. I am bullish. We are in the early stages. It is only going to get bigger and better as a model. The public model will always be there, a more good model for more stable companies. But the companies that need to grow and invest don’t want quarterly earnings or need deep global expertise private equity is fantastic for them.

What’s going to change about how private equity functions over in this new decade?

All of the corporate world will change. Because there is a focus of the next generation on sustainability, as there should be. Technology is disrupting the world so quickly. It used to be cycles of 10-20 years. Right now the cycle is very fast. Capitalism and technology, India and China, have lifted a billion people out of poverty over the last 10 years. That’s been great but there’s been dislocation at least in the Western economies. In private equity companies you have to look at all stakeholders and Jamie Dimon talked about it. It’s not about return on capital, it’s about return for people and stakeholders. If I step back in the beauty of Davos, you’re seeing a change in the world order. If you go back 1,000-2,000 years, the global GDP was dominated by India and China. Then in the 80s, India and China were about 15 percent of the global GDP, down from 80 percent 2,000 years ago. The world order is changing. When you come to Davos, you see Indian companies and Chinese companies. This didn’t happen 15 years ago. This was more European and U.S.-centric congregation. This change over with WTO explosion in global trade we are in a critical time now and I hope places like Davos can bring people and say let’s put a set of rules in so that people benefits. Globally, we work together to make sure that we are not losing our planet.