Nadathur Investments Have a New Order

On October 21, 2009, N. R. Narayana Murthy sold Rs. 174 crore worth of Infosys shares to capitalise Catamaran, his venture capital fund. If Murthy ever needs advice for this new venture, he won’t have to look too far. He just has to call the man who could have been the second CEO of Infosys but turned down the job in 1999 and quit the company in 2000. Nadathur Raghavan doesn’t even live too far away. He is right there in Bangalore.

In India, the terms ‘innovation ecosystem’ and ‘angel investor’ are frequently used but rarely seen in practice. Nadathur Raghavan’s fund Nadathur Investments is a rare fund in the country that has truly done this. Over the last nine years, it has invested $65 million in technology, lifesciences and healthcare start-ups. Companies such as Impulsesoft, Metahelix, Connexios and Medi Assist owe their existence to Raghavan’s love of financing new ideas.

For instance, Raghavan told a bunch of bewildered scientists who had approached him with a business plan and excel spreadsheets predicting revenue for their company in 2000, “I don’t understand much of these things, and even though you’re all great scientists, I’m not sure you do either.” However, the scientists had a cheque for Rs. 6.5 crore the very next day, even before the term sheet — a legal document that specifies the quantum and value of different shareholders in a start-up — was prepared. Today, the company is a promising agriculture biotech company: Metahelix.

Raghavan has backed entrepreneurs. He has created an ecosystem in lifesciences. But he hasn’t made much money on his investments. Raghavan may like to continue funding innovative companies but he will need money to do it. Some companies that he has invested in also agree. “No other group in India has thought out how to support innovation as systematically,” says Suri Venkatachalam, the CEO of Connexios. “But if Nadathur has to survive and grow, exits are needed.”

Raghavan’s two sons – Sriram Nadathur, 37, and Anand Nadathur, 35 – both left their careers in the US (Sriram in 2003, Anand in 2000) at their father’s calling, to join Nadathur Investments. Their plans include creating new entities and reshaping older ones. They are changing the way Nadathur Investments works. They have formed a separate entity Ojas Ventures that will invest in pure information technology investments and will work as a professional venture capital firm.

Further, the new Nadathur Investments that will become a creator of synergistic ecosystems. Such firms used to be called incubators in the past. Nadathur will have mostly lifesciences and healthcare investments. “Anand and Sriram are literally becoming owners instead of investors. They are building physical assets for the group much like what Tatas did a 100 years back,” says Nitin Deshmukh, head, Kotak Private Equity.

As the new order takes over, the genteel and old-fashioned way of Nadathur Raghavan will disappear.
Both have made the new investment norms much tighter and stricter, putting more emphasis on the viability of business plans, including often steering away from funding paper ideas altogether. Younger brother Anand says, “Because we don’t have someone shoving discipline down our throats, we need to have the maturity to discipline ourselves,” he says.

There is an increased focus on exits, especially from companies where the brothers don’t see long-term value. “In three years, we will exit all the legacy investments, like Cades, that are not being managed by Sriram or Anand,” says Raghavan.

The next step is to separate the risks. Both brothers know that in this business there is an extremely risky angel investing phase and slightly, less risky venture capital (VC) phase. In the VC phase the invested companies all have a proof of concept and usually real revenues. Ojas will invest in such companies. Ojas is a $35 million venture capital fund that operates independently of Nadathur Investments. Headed by a family relative and serial entrepreneur Rajesh Srivathsa, Ojas will operate like any other early stage venture fund, including an 8-10 year lifespan within which it has to return of Nadathur Investments’ money along with profits.

It will also try and raise money from outside investors. It diversifies risk for Ojas and also gets them to fund larger deals. “If Ojas cannot raise the second fund on its own, then there is no point to it,” says Sriram.

Then comes the new Nadathur Investments. Sriram has spent the last six years meticulously funding and incubating life sciences companies. It will follow the Japanese philosophy of ‘keiretsu’.

Outside of Japan the keiretsu concept has been applied with less emphasis on formal cross-holding and more on productive collaboration within a trusted network.

“We don’t start with entrepreneurs now, we don’t fund ideas. Because both can either already be found or created within our network. We just bring everything together,” says Sriram. His network is already fairly rich.

The approach takes a longer view. “Since they can invest and stay invested over a long term, they’re building pretty much everything from scratch. It’s a good strategy but the proof can be only be seen in a couple of years,” says Gautam Nadig, one of the co-founders of Metahelix, a Nadathur group company.

Raghavan left Infosys because he thought the company had become too big and impersonal. “I had to convince Murthy for 2-3 years before he let me go,” says Raghavan. NSR, as Raghavan is popularly known, was one of the few guys who could get into an argument with Murthy and even win it. When he left Infosys, he held 5 percent of Infosys that would have been worth over Rs. 385 crores.
He didn’t try and build another Infosys or jump into real estate or telecom. He decided to back entrepreneurs. “NSR came out of Infosys strongly believing that the entrepreneurial opportunities in India were being limited because of inadequate angel capital,” says Venkatachalam of Connexios.

How did he decide who to fund? The approach was a curious mixture of idealism and a moment of paternal regret. Sriram wanted to be a doctor. “He even cleared his MBBS entrance examinations but I couldn’t afford the capitation fee back then,” says Raghavan, whose current net worth would be upwards of $500 million. His idealism outlined the way he could blindly trust entrepreneurs if he thought they were honest and hard working.

“The first time we met him, he spent an hour talking to us, and then asked us how much money we needed. Within an hour we had a cheque for $500,000 with us,” says Baskar Subramanian, then a 25-year old entrepreneur who was trying to get funding for his two-year old mobile Bluetooth solutions company, Impulsesoft.

“If you see the companies we have invested in, there seems to be no connection at all,” says V. Sarangarajan, Raghavan’s brother-in-law who has worked with him since 2000. “But we were very clear about the values of the people we would invest in — integrity, honesty and capability.”

When entrepreneurs fail the money invested in them goes down the tube. This is why it is tempting to call Nadathur Investments a failure compared to other VCs.

Seasoned investors are a little chary of such a judgement. “Their gestation period will be higher because they come in at the seed stage and help build a company right through, instead of selling out to another 1st round or 2nd round investor,” says Deshmukh, who has close to 20 years of venture investing experience in India.

That’s a legitimate view and it is Raghavan’s own money after all. And because the money being invested by Nadathur Investments is their own, they don’t have the pressure of a finite exit. This lets them be more flexible and understanding with a start-up that is trying to attempt a mid-way course correction. “See it’s like this – if I give you a hundred attempts to crack the IIT-JEE entrance, you will inevitably do it,” explains Sarangarajan. This is compelling logic but perhaps faulty.

“Having a long rope is obviously great for an entrepreneur, but I wouldn’t term Nadathur very successful from a financial point of view,” says Subramanian, now CEO of a new company, Amagi, also funded by Nadathur Investments.

Now Raghavan’s holding in Infosys is below 1 percent and if Nadathur has to continue investing, it needs cash. Sriram and Anand both understand this. “We are in this to make money, not for the fun of it,” says Sriram. His intent is marked by a series of deliberate steps taken by both brothers to ensure Nadathur Investments becomes as good at making money as it is at helping entrepreneurs.
There are two issues that Anand and Sriram will have to grapple with. The first issue is that the incubator model has not really succeeded. Idealab, CMGI and ICG were part of a new breed of companies that emerged in the USA in the second half of the 90’s.

These business incubators raised money from the public and investors in order to fund the creation of new companies, mostly in the technology and Internet spaces. At its peak Idealab housed over 50 companies in various stages of incubation while CMGI was valued at over $40 billion publicly. But they ran a portfolio risk since most companies were dotcoms. These companies collapsed after the dotcom bust.

The problem with this model is that if biotechnology innovation moves along a different path then large parts of Nadathur Investments portfolio may lose value. They will need extraordinary entrepreneurs in their network to make sure that Nadathur doesn’t miss out on any breakthrough idea. “There are entrepreneurs out there in the larger world who keep on innovating,” says Kiran Nadkarni, one of the grandfathers of venture investing in India.

That’s where the current model has its second risk: The belief that the current set of entrepreneurs are all that Nadathur needs. Technological innovation is no one’s preserve. “I’m personally an
open-architecture person. Nadathur could be constrained by the fact that many of its investee companies are located in Bangalore, therefore they can’t access entrepreneurs in, say, Calcutta or Delhi,” says Deshmukh.

Also, the incubator model needs one great champion around whom the rest of the incubator companies revolve. At the moment neither Indegene or Connexios have made a mark yet. They still have some way to go. “For example if Infosys decides to do this then they can build a number of companies,” says Deshmukh.

Maybe that’s something Raghavan and Murthy can easily exchange notes on