TheRodinhoods

Info Edge writes off its 29+ crore in 99labels.com – the CRITICAL Lessons to be learnt

So, we all know that Info Edge (the operating Company of Naukri.com and others) has written off its 29.3 crore investment in e-commerce Company 99labels.com.

(In case you were busy driving the Mars Rover on Mars and didn’t know, this is what has happened while you were out, enjoying outer space.)

Now, there is a serious lesson to be learnt from this write off.

Nope, it’s not a lesson about how to run e-commerce businesses and where they are headed (For my views on e-com (which I fondly call ‘e-gone’), click here) .

This is a very serious post about the PERILS of being invested by an Operating, Listed entity and how it can affect a startup.

Info Edge invested 29.3 crores in 99labels.com in 2 stages. It put some 24 crores in May 2011 and another 5 crores in Sept 2012.

Suddenly, on 14th of March 2013, Info Edge decided to inform the Indian Stock Market that it is WRITING OFF its entire investment. It indirectly told its shareholders (via the note to the stock market) – “Boys and Girls, we invested 29.3 crores in this e-com thingy and we are errrrrr…. cough.. cough.. (where is the Vicks for the khich-khich??) … pained to tell you that the entire investment has been wiped out. It’s gone. It’s Khatam. IT’S KHALAAS.

Why is Info Edge making this announcement, now, at this time and stage?

I have publicly stated the Naukri.com is the most successful Internet Company India has ever produced; and by that logic its promoters – Sanjeev and Hitesh remain (in my opinion) the most successful Indian Internet entrepreneurs ever.

Info Edge is an OPERATING, publicly listed Company that is measured Quarter on Quarter on its financial performance.

Let’s look at the ROCKSTAR financial results of Infoedge for the year ended March 2012:

– If you notice, there are clearly 2 heads of PAT (Profits after Tax) – TOTAL PAT and Operating PAT (from the direct business) and both are better than last year’s results.

– Notice the JFM (Jan-Feb-March) quarter. It’s a solid quarter and contributes healthily to the overall results.

Now, let’s examine WHY Infoedge is writing off its 29.3 crore investment in 99labels.com this quarter (since it’s made the announcement on 14th March 2013)

• The last investment it made in 99labels was in September ’12. That’s the current financial year.

• ASSUMING that the 99labels.com business has gone DEAD (not surprising given the radiation exposures the e-commerce business suffer), Info Edge is taking a SHORT TERM CAPITAL LOSS [defined as loss incurred in stocks (held in 99labels) in less than 1 year on investment]

• What is the benefit of a Short Term loss?

I assume it will be set off against other profits booked (under the same head of income) that comprises the non-operating income of Info Edge. Any reduction in such profits means it reduces the outgoing tax of the year also. Even if there are no profits to set this off, the loss can be carried forward. Remember that Info Edge is investing in a lot of dot coms (Zomato, Meritnation etc) and startups and this loss can be well used when equity of those investments is sold.

• Logically, since 5 crores is in the same company (99labels.com) that Info Edge earlier invested 24 crores in (May 2011), it’s only sensible accounting that the entire investment of 29.3 crores is written off all together.

• The 24 crores will be a long term capital loss (since it’s been held for over 1 year) by Infoedge.

I also have a nagging doubt that the 99labels.com management either have run into a difference of opinion with the Infoedge management about the course of the Company or just cannot convince them about their ability to be a ‘going concern’. (‘Going concern’ is accounting lingo that simply means that a firm is capable of continuing to be in business.)

By making this abrupt and brutal announcement at this stage, Infoedge has come out on top.

Why?

Looking forward, this is what will happen mid May 2013:

Info Edge will stun the world with its March 2013 quarter results, book this loss, reduce its non-operating profits (and taxes) burp slightly and move on. Since the market would have learnt and forgotten this mini-tragedy (via the March 14th announcement), the investor public will not care. They will celebrate Info Edge’s great results in May and order fresh Alphonsos as a treat.

Long live Infoedge and the solid corporate governance it teaches us.

Now, let’s examine life at the 99labels.com end.

I don’t know those guys. Have never met them. Probably never will. Happy to meet them if they want. In any case, I wish them best of luck.

Couple of scenarios:

– If they had raised 29.3 crores from a VC, they would never have faced a PUBLIC announcement that their Company is considered a complete write off – a la it’s ‘finished’.

VCs are NOT operating companies and they are usually not listed. They are investment structures and they report periodically to their investors – a la LPs or Limited Partners, strategic investors, etc.

VCs are used to Companies going through really bad stages and in situations like 99labels.com, they stop lending (investing) further money in them. That’s the worst it can get. When other VCs in the market are interested and think of investing in such Companies, the original VC lends moral support! The existing investors meet the new incoming investors and tell them good things about the management (assuming there are good things to say) and SUPPORT the Company in raising money. This is the done thing!

NO VC will ever send a Press Release to the Stock Market in the middle of a month stating that their investment in a Company is a ‘write off’.

But when you get invested by an operating, highly profitable and highly watched company like Infoedge, then that’s the PRICE YOU PAY to be invested by a listed entity that has its own Q on Q (Qayamat se Qayamat tak) moments to deal with!!

– Given the public announcement made by the PRINCIPAL investor of 99labels, it’s going to be a very steep climb uphill.

Since the lead and sole investor has written off the entire money, it’s signaling to the market that the Company is worthless. Probably if 99labels.com has taken debt (creditors unpaid, stocks bought in advance) it actually becomes a negative net worth Company.

Who will PAY ANYTHING (investment or acquisition) to 99labels.com in this situation?

Most Companies in distress merge or get ‘asset clumped’ into a larger player who at least has the cash to pay salaries and the office electricity bills of the failed entity.

If I were that large player and 99labels.com came to me:

– I would be open to a bit more kindness if 99labels.com was invested by a large VC. I would do a stock swap with them and probably ‘give a little and take a little’, in case I wanted that deal.

The team, the setup, etc could be ‘kindly valued’ and a couple of % of equity thrown in just to keep everyone happy. I mean, as a long term entrepreneur, if this was say an Accel invested Company, I would pay a bit more (remember it’s just equity) to even earn some loyalty points from Accel (and redeem those points in the long run).

To take it further, if Sanjeev Bikhchandani called and said, “Alok, support these guys, they need your help”, I would gladly do so, just to earn some good karma with Sanjeev. But in this case, Sanjeev has already stamped them “Toxic”!

Given that 99labels.com is an Info Edge invested Company that is officially ‘written off’, I would be as ruthless with them as a Roman Emperor hosting gladiator matches as his Sunday timepass. My opening dialog with 99labels.com would be, “If your investors think you are ‘worthless’, why should I value you at all?”

Lessons from this tragic drama:

If you are a startup that would require multiple rounds of investments, etc to find your feet, get invested by Operating Companies only if:

1. They are in your line of business! If 99labels.com was in the recruitment business, naukri.com could have easily absorbed them!

2. Get invested at a stage in which the money adds value in terms of expanding your reach, your horizons and your reputation – NOT to pay salaries and bills!

3. Make sure that you have ALSO have a financial investor plugged-in who could take the brunt of the strategic co-investor and help out in the mess (I had the SAME situation in Mobile2win China in which Siemens was the strategic investor – but the money that could have been potentially lost was too small for Siemens to ‘report’ on the Frankfurt DAX and the other co-investor was Softbank who helped out!!)

So, all we can do is wish 99labels.com best of luck. You need all our wishes.

Salute Info Edge. You actually make a shining example of what Indian Internet can achieve and what it takes to run a solid, operating, listed Indian entity with great governance and guidance in place!!

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EDITOR’S NOTE: Sanjeev Bikhchandani (yes, he’s a rodinhooder!) has responded to this post in the comments below. Adding his response and academic exchange with Alok here for everyone to read.

20th march 2013

07:45am

Reply by Sanjeev Bikhchandani 

1. Short term capital losses may only be used to offset capital gains (whether short term or long term). They may not be used to offset gains from any other source. Our treasury income is mostly interest and dividend and so does not constitute capital gains. Info Edge will not get a tax break this year from this write off. The only circumstance that Info Edge will get a tax break on this will be if we exit any of our other investee companies at a gain some time in the future (both the occurence and the time horizon for this to happen is uncertain), or if we buy shares in the stock market and make a gain (this is against our treasury policy and we do not invest in the stock market) or if we sell some land at a profit (again not happening this year). A tax write off is not and in fact it cannot be our motive for making this announcement.

2. Good corporate governance encompasses true and fair accounting and appropriate disclosures at the right time. True and fair accounting means that if an asset has been impaired  that impairment needs to be recognised at the time when it has occured. Appropriate disclosure means that you tell those people whom you have taken money from, or who are your shareholders or who are perhaps contemplating becoming your shareholders about any and every significant and relevant event when it happens. An asset impairment of this size is an event that would fall into this category. You would not wait till the end of the quarter before making the announcement. In the past when we have made an investment above a certain size we have announced it immediately. We have not waited till the end of the quarter. Likewise for significant asset impairments. Yes we could have contemplated a forced merger or a consolidation with another failing ecommerce company perhaps against the wishes of the management and with not very positive outcomes eventually and hidden this impairment but in our considered view that would not have constituted good corporate governance (true and fair accounting and appropriate disclosure). It would have been smoke and mirrors to kick the can down the road. Fundamentally good governance is about recognizing and telling the truth. And that is what we do – we tell the truth as best as we know it when we find out about it even if it is bad news.

3. This announcement was agreed with the management of 99labels before it was made. In fact it helps the company  because it permits them to raise money from Angels at a far lower valuation (since our valuation would not be a hurdle) and it gives the company an opportunity to rejig the cap table and reinvent itself and get a second life. And that is what the management is currently trying to do. We are helping them in this process.

4. Yes if we had not been listed we would not have had to make such a disclosure publicly. However there are several other benefits that our investee companies get from us that financial investors do not provide :
        – We are entrepreneurs ourselves and therefore we perhaps better understand other entrepreneurs, their motivations, feelings, what drives them, their goals, their apprehensions, their conflicts, their challenges, their loneliness, their fears etc. And this makes for a really good working relationship. We are not into stupid ‘ungalbazi’. We understand what drives the business and we support the entrepreneur and give him independence and time.
        – We have done it ourselves and can give practical, grounded operating advice should the entrepreneur need it. We open out all the departments of our company for the entrepreneur to come and observe and emulate and seek advice from
        – We don’t have an exit time horizon / pressure and therefore there isn’t a list in five years or else sell to someone else type of situation ever. This allows entrepreneurs to build their companies out over an appropriate time horizon.

It would be instructive for you to talk to some of the entrepreneurs we have invested behind and hear what they have to say.

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Reply by Alok ‘Rodinhood’ Kejriwal 

Thanks Sanjeev for this special effort you made to respond and clarify this otherwise fuzzy issue.

This helps a lot in explaining the internal truth behind harsh steps, and what better than it coming from you.

Alok.

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Reply by Sanjeev Bikhchandani 

Yes Alok – a decision to not fund an investee company further when it needs money is a difficult one. And a company that has built up head count and expenses of a certain order of magnitude goes through pain when there is a fund crunch. 

And being entrepreneurs we understand that well.

After our first round of investment we supported the company with two bridge rounds of 5crs each that enabled it to carry on this far but were unable to provide more.

A difficult decision that I personally agonised over a lot but we have a fiduciary responsibilty to our shareholders as well.

Finally I take responsibility for this decision and the subsequent disclosure. 

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Reply by Alok ‘Rodinhood’ Kejriwal 

Sanjeev, just an academic question:

Does it therefore make sense to route investments into start ups from operating companies like yours via a Company owned ‘investment fund’?

Where the fund is held wholly by the operating company and can report its own P&L and Balance Sheet?

But, given that ‘true and fair’ is the essence of good accounting, would that fund’s operating statements also need to follow the same rules as the operating company that holds it?

I’m curious because some operators have fund structures..

Maybe the reason is also so that the ‘fund’ itself  can be sold/refinanced/ etc and therefore the need to have it?

Thanks again for the effort you have put in here!

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