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Indrajit Gupta: Are employee-run spinoffs here to stay?

Keep your eyes peeled on spinouts, that is, entrepreneurial ventures founded by ex-employees of incumbent firms within the same industry

Indrajit Gupta 

Indrajit Gupta

A friend who is a senior executive in a leading logistics business has been patiently waiting for the promoter to let go of their business. His maverick promoter is a typical Indian businessman who forgot to stop diversifying - and when the markets turned rough, inevitably found himself burdened with more debt than he could handle.

For well over a year now, the management team at the logistics company has been straining at the leash. The market opportunity is staring at them. The chief executive officer (CEO) has loads of requisite experience and the complete backing of his leadership team to take the business to the next level. But they desperately need capital, and lots of it, to invest in technology and infrastructure and thereby, scale up the business. Their promoter, however, won't let go of his stake. Would he be open instead to a management buyout? Getting into a conversation with his promoter on that seemingly touchy subject isn't easy for the CEO. What does he then do? The CEO and his leadership team have been mulling a possible spinout, if they get a strong private equity (PE) investor to back them.

Keep your eyes peeled on spinouts, that is, entrepreneurial ventures founded by ex-employees of incumbent firms within the same industry. I'm willing to wager that spinouts may emerge as a growing phenomenon - for three reasons.

One, quite a few Indian business groups have strayed too far from their core competence and no longer have the organisational coherence they need. If they divest or shutter these non-core businesses, it might provide the impetus for enterprising employees to take the plunge into setting up their own venture. A large Indian conglomerate with interests in financial services recently quietly divested its stake in its private equity arm to its CEO. There was, of course, the tacit understanding that the venture would continue to use its original corporate brand, lest anyone say that they were starting to sell their family jewels in a bid to reduce debt.

Two, promoters that fail to create space for their leadership team may soon find them out-growing the firm. Consulting and law firms have been particularly vulnerable around the world. And India is no exception. The usual trigger for spinouts is a lack of a profit-sharing, co-ownership culture in the parent firm. Or sometimes, the partnership model remains closed for the next wave of upcoming stars. Any perceived inequity, if it remains unaddressed for long, can ignite the spark for employee entrepreneurship.

Three, private equity is starting to reduce the threshold for professionals thirsting for new entrepreneurial opportunities. These days, many global private equity funds are willing to offer a three-four year "lifestyle guarantee" for any competent professionals with a track record and a reputation. That obviates any perceived start-up struggles that an entrepreneur is likely to go through.

No doubt there are some obvious challenges in teaming up with a PE fund, but here's the larger point. For too long, the equation between promoters and professionals was somewhat lopsided. Promoters had the upper hand. After all, they brought in the scarce capital. And professionals often did not get their place in the sun. Today, capital is a lot more freely available. And there is a premium on professional leaders who can deliver scale and sustainable growth.

That's why top leadership talent can hope to have greater bargaining power. They will be increasingly picky about the employers they work for. And these new PE-led opportunities might offer both money and the entrepreneurial freedom.

Does that sound utopian? In fact, I'd say this is inevitable. Consider this: one of the largest industrial groups in the country with a formidable reputation was scouting for an entrepreneurial leader for a key business cluster where they hoped to invest billions. The candidate they cherry-picked had the right credentials: very high integrity, reputation and the track record of building enterprises and spotting new opportunities. There was one problem though: the candidate in question simply wouldn't bite. He said he was happy managing his own enterprise, even though it was several times smaller. At least, he remained the master of his own destiny.

I know of yet another CEO of a global tech multinational, who spurned an offer from a multi-billionaire to head up his telecom venture. Instead, he chose to take on a management buyout opportunity for a global PE fund. Today, he is on the cusp of a multi-billion-dollar stake sale - with a range of PE funds swarming around to bid for the company he helped build. (Meanwhile, if whispers emanating from the telecom venture are to be believed, most senior pros there are completely disillusioned with the work environment and are simply waiting to head for the exit.)

Would this have happened a decade ago? I'd argue that these are early signs that employee entrepreneurship is finally starting to come into its own in this country. And the romanticism associated with working for a big name employer will increasingly come under scrutiny, especially if the work environment does not keep pace with employee expectations.

Large doses of PE will continue to come into the Indian market to address growing opportunities in distressed asset plays. This in turn will fuel new venture formation. Spinout activity will ratchet up. Helmed by experienced professionals, the progress of these new ventures will be particularly interesting to watch.

The writer is a former editor of Forbes India and is on the cusp of starting a new entrepreneurial venture

First Published: Thu, October 30 2014. 22:44 IST