Venture Funding in Bihar

Venture Fund for Bihar

A substantial part of India has not benefited from it’s economic growth during the previous 18 years. For instance, Bihar’s economic growth that was very close to the national average in the 1980s, became far lower subsequently. A World bank report on Bihar states, that the state experienced zero growth in the first half of the 1990s, and since 1994, when data for divided Bihar became available, annual growth has averaged around 3.8% or about 1% per annum in per capita terms[1]. As a result income and consumption growth in Bihar have lagged seriously thereby increasing the gap between Bihar and the rest of India. Lagging social infrastructure and poor law and order situation have meant that the state has not been able to productively utilize its agricultural as well as human resource base. The total value of output of Agro-based industries in Bihar is less than 1% of the national output, despite the fact that Bihar produces about 10% of India’s total output of common fruits and vegetables. The availability of banking services in Bihar is much below the national average. The Credit to Deposit ratio of banks in Bihar is extremely low (measured at 31.4% in 2004-05), and banks are very reluctant when it comes to providing project financing in the state.

The investment climate in the state is gradually improving. While challenges remain in terms of high regulatory burden,[2]poor power situation and road networks, opportunities exist because of improving law and order perception as well as higher investments in infrastructure. The World Bank is reported to have sanctioned a US$ 225 million debt to the state to support implementation of structural reforms in governance, road infrastructure and agriculture among others. The state has been focusing on building a supportive industrial infrastructure. The table below presents some of the initiatives in the state.

Industrial Development Initiatives (Source: India Brand Equity Foundation, 2008)

The state has also sought to make investment friendly policies to encourage investments. The Industrial Policy of 2006 aims to ensure accelerated industrial development, with special focus on key industries, catalyze economic growth and ensure balanced regional growth[3]. Its objectives include promoting industries specifically identified as thrust areas - Pharmaceuticals, Drugs and Biotech Industries, Food Processing and Agro-based Industries, IT and IT-enabled services, Eco Tourism/Heritage Tourism/Adventure Tourism/Event Tourism/Medical Tourism and Entertainment Industry. It also puts in place Single Window Clearance systems for the benefit of potential investors.

In all probability, the state will now witness improved growth and entrepreneurial opportunities will emerge. However, given the state of financial services and capital market in the state, financing of entrepreneurial initiatives will present a key challenge. Readily available risk-capital financing is critical for enterprises (and industry) to flourish, more so in areas that are under developed. There has been a growing excitement in microfinance circles about the “microfinance market” in Bihar. Microfinance plays an important role by enabling the poor to build sustainable local scale livelihoods. This augurs well as a substantial proportion of enterprises in the state are unregistered and informal. Infact unregistered units dominate the overall industrial sector in the state, accounting for more than half of its total income. The number of large and medium industries is only 259. Its an imperative that investments be made in scalable businesses in the state for it to move on to a higher cycle of economic activity and income. The average size of a micro-loan is small, and insufficient for promoting a formal enterprise.

It is in this context that a Bihar focused venture fund can serve to promote enterprises and benefit from the potential returns that can be made. Assuming an average investment size of Rs 3 million (US$ 75,000), a Rs 60 million (US$ 1.5 million) fund can support twenty such investments and serve to demonstrate the latent economic potential the state possesses. Importantly, these investments will also help in generating comfort among banks and this will possibly facilitate the flow of loan funds. The key challenges for creating such a fund are:

1. Finding investors
2. Creating a Special Investment Vehicle (SIV) with the required regulatory clearances
3. Advocacy with the government in order to get a “buy-in” from the state
4. Simultaneously creating a management team that can seek investment proposals or business plans from interested entrepreneurs.

A fund of this kind will face several challenges in order to provide returns to its investors. Even after investments are made, local enterprises will need hand holding support as well as professional advice on an on-going basis, so that they can scale up. Finding an exit for the fund will remain another challenge. The Securities and Exchange Board of India has approved setting up of a SME stock exchange. Such a stock exchange may provide an exit for the fund, provided the enterprises are able to scale up to listing levels. Trade sales or buy-outs by larger funds are other alternatives that could provide an exit. There is no denying that equity investments made in enterprises in Bihar carry double the risk as compared to equity investments elsewhere. However, the potential returns that could be had not only in Financial ROEs but also in terms of the socio economic benefits these investments could generate is immense.

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[1] Bihar – Towards a Development Strategy, 2005, The World Bank

[2] The World Bank defines regulatory burden as onerous regulations and intrusive and disruptive visits from Government officials.

[3] industries.bih.nic.in/Archive/IndPolicy2006en.pdf