Exclusive: 3one4 Capital plans to cut bigger cheques, eyes new sectors with second fund

3one4 Capital Team

As the number of early-stage deals dipped last year, Bengaluru-based 3one4 Capital kept up its pace. With 40 companies in its portfolio already, it is now ready to add more, having recently closed its second fund of Rs 250 crore ($39 million) that exceeded its initial target.

3one4 Capital was founded in 2015 by Pranav Pai and Siddarth Pai, sons of TV Mohandas Pai, a former senior executive at Infosys Ltd and an active angel investor. It had launched its first fund in early 2016 with a corpus of Rs 100 crore. It has since invested in a number of companies, including Darwinbox, Licious, Bugworks, Magic Crate, Oust Labs and Faircent.com.

In an interview with DEALSTREETASIA, the co-founders of 3one4 Capital Pranav talk about the investment strategy for the new fund and the current early-stage investment ecosystem in the country. Edited excerpts:

How is the investment ecosystem right now in India?

We’ve been doing venture capital investment since 2010 through different vehicles. What we’ve seen is that there are definitely corrections. The big takeaways in the last three years have been that firstly, there is more money in venture capital as a sub-asset class than before anywhere in the world. India closed around $10 billion in venture capital and early private equity last year. It is also important to see that fewer deals are closing every year than what was expected, which means that money is flowing in larger packages to fewer companies. However, the number of deals in India is still fairly large. After the US, UK and China, India is ranked as the fourth largest in terms of capital deployed.

There are two important points for early-stage investors now. First is that there are still some regulatory issues when it comes to angel investment, which is dissuading some of the standard interest in early-stage investment which was earlier seen in 2014 to 2016. So, fewer angel rounds are being announced.

What is also seen is that the higher networth angels are now also putting their money into funds. This has brought some organisation and stability to early-stage investment. What’s needed now is a little more clarity on the regulations so that people are aware of issues such as taxation. More importantly, a good signal for India is that with the SME exchanges coming on both NSE and BSE, you will see a new avenue for early-stage companies to provide exits. Companies with two-three rounds of financing that have hit revenues of Rs 20-50 crore will be prime targets to go and list there. So with the SME listing and clarifications on taxation issues, I think you will see some unplugging of the early stage capital and there will be more predictable, reliable and consistent exits as well, which has been a big complaint.

With 40-odd companies already in your portfolio, would you slow down the pace of the deals that you do?

The reason that we invested in so many companies was that if you look at the theme of our investments, our focus was to enter certain companies in certain spaces, aiming for models where we can add certain value. For example, a company like Licious, no one ever thought someone would buy meat like that, but now they are the leading player in that space in just one and a half years. Our learning from those kind of companies is that if you time it correctly and you have a solid problem that you’re solving and there’s a sustainable way to solve it, it’s fairly straight forward to build that company up. The reason that we invested in those 40 companies is that it was the right time for us. If we continue to see opportunities where the timing is right for us, we will continue to invest in the same velocity. It will be a combination of where we want to invest, what are the companies that are available to us and whether the timing is right. In my opinion, I don’t think we will be able to find the same velocity in all our investments, for example, education moves very slowly in India, as compared to enterprise software or ambient intelligence. Healthcare sector moves even slower than education. Different themes for us will have different velocity.

How was 2017 for 3one4 Capital? Did you also face a slowdown last year?

We didn’t actually slow down, we kept going at our regular pace. 2017 was also a year where we closed some of our largest follow-on rounds, for example, YouStory and Licious. We didn’t experience much of slowdown. Like I said, if you have decent companies, you will always have a good chance of raising capital, that would not be a problem. We don’t foresee any catastrophic slowdown in 2018 either. As of now, we are growing our companies and there is enough investor interest. We don’t see any slowdown as far as we are concerned.

Is there a change in this fund in the size of cheques that you’d cut as compared to the previous fund?

In our first fund, our range of cheques was between $100,000 and $500,000. What we found was that we were making most of our game when we follow our best companies for as long as possible, beyond Series B also, if possible. That’s how our cheque size started increasing. In our second fund, now that we are institutionalised, we can see how far we can take our best companies over their entire funding cycle. Our goal is now to invest anywhere between $250,000 to $2 million, depending on what the stage the round is. We believe that within this range, we will be able to keep up with our best companies over time.

Is there any deviation in your investment strategy as compared your earlier fund?

There are quite a few deviations. When we were investing from our first fund, we were working very closely with angels. What we’re finding now is that our interventions are slightly deeper and we spend a lot more time with the companies and are strategically involved. Given the amount of work that we put in, it makes sense for us to put a little more money and be a bigger part of a round. So, how much of the round that we take up in our first cheque has changed significantly. We are now being very judicious as to the kind of companies that we spend more of our time with. Time is our biggest bandwidth now since we have significant capital. How we work with our companies, what kind of companies we fund, how much time we spend, all of that is factored into what stage and how strongly we will enter a company. That is also going to change how many companies we invest in and how much time we spend with them going forward. We will become more razor sharp in our focus.

Among sectors are there any that you are more keen on investing in through this fund as compared to your earlier fund?

We have had the good fortune of working with some stellar funds before 3one4 Capital, for example Arin Capital, which was founded by our father Mohandas Pai and Dr Ranjan Pai who are probably best known for their work in health, education and life sciences. We’ve learnt from them specifically in health and education and those are two new domains that we’ve opened up for 3one4 Capital. We have always been doing ed-tech but that was a kind of a subsidiary domain investment area for us, that has now become a full focus area. And with health, we are not doing very standard things that are expected of funds today like dieting or fitness devices etc. We are going to focus on cutting-edge innovation, which is pushing the direction where health is going to be five years from now. Health and education need very long-term views as they move very slowly. With a larger fund and time with us, we are able to dedicate that kind of bandwidth to these companies.

Apart from health and education, in ambient intelligence, we have now formalised a strategy of how we fund companies that are taking computing and intelligence to the edge, whether it is solving logistics or supply chain problems, manufacturing problems, whatever the domain might be, sensor networks, network innovations, for instance using wi-fi routers or offline intelligence, data gathering systems. We have always wanted to do more in ambient intelligence and now it is a full focus area for us as we are finding good companies.

Currently, you invest in Indian and US-based companies. Would you want to explore more geographies to invest in?

Not really, we don’t have competency anywhere else in Asia. What we do, however, is that beyond 3one4 Capital, as a family office, we are LPs in over 30 funds globally and all kinds of other asset classes. So through some of those vehicles, like Jungle Ventures, we have exposure to Southeast Asia. We don’t see doing anything in that region directly through 3one4 Capital right now. We believe you have to be on the ground, close to the founders to function well. We have to not be overambitious in my opinion and stick to our strategy.

How are your US investments shaping up? Do you see the ratio of investments from the US going up through this fund?

We may increase it depending on the opportunities we get. We foresee 10-15 per cent of our working capital being reserved for the US. All AIFs in India have a limitation of 25 per cent that can be invested abroad, so we will never cross that.

How do you view 2018 for the whole investment ecosystem in the country?

Last year, there was a severe backlash on the angel tax. We have been lobbying along with other angel groups for clarity on regulations. Also, I feel there is going to be a shift from a more “Wild West” attitude to a more sober attitude. Issues like financial compliance are going to start coming to the forefront. A lot of investors are actually looking at this quite closely because they realise that if a founder is meticulous when it comes to all this, they will also be meticulous when it comes to the execution of the fund.

Also, this year we will see the emergence of a large number of brands in India as well as the B2B play.

India has opened up tremendously, FDI has been liberalised to a large extent. So, in 2018 a large number of foreign players may come in. Another factor is that non-India capital is now also more confident about the India story. What they still need is a lot of assurance from all the players in the Indian ecosystem from the PM’s office down to state governments to venture capital founders. It’s taken more than five years to build up. I feel in 2018, you will see a lot more of that capital coming in and working with people who are compliant and globally aware.

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Indian VC 3one4 Capital raises $39m for second fund, exceeds initial target