UNIVERSITY OF MUMBAI
2007 - 2008
SHRI CHINAI COLLEGE OF COMMERECE
Project Report On
Prof. Nishikant Jha
T.Y.B.COM (Banking & Insurance)
I, Miss. Priya Chaturvedi student of T.Y.B.Com (Banking &
Insurance) Semester Vth
, SHRI CHINAI COLLEGE OF
COMMERCE & ECONOMICS. Hereby declare that I have
completed this project on “VENTURE CAPITAL” in the
academic year 2007-2008. The information submitted is
true and original to the best of my knowledge.
Signature of the Student
I, Prof. NISHIKANT JHA hereby certify that Miss.Priya
Chaturvedi student of T.Y.B.Com (Banking & Insurance),
SHRI CHINAI COLLEGE OF COMMERCE & ECONOMICS,
has completed her project on “VENTURE CAPITAL” in the
academic year 2007-2008. The information submitted is
true and original to the best of my knowledge.
Signature of Project Guide
This goes to all who have knowingly or unknowingly been
a great support for me to accomplish this piece of work.
Entrance, hard work, gradual progress and an exciting year,
that is how I have reached this level and now as I stand at the threshold of
the aside world, I take a look of the past year which I have spent in this
college, our performance with the devotion of the profession and all the
fun I had was like a beautiful dream come true.
First of all I would like to take this opportunity to thank the
Mumbai University for having projects as a part of the Banking and
Many people have influenced the shape and content of this
project, and many supported me through it. Secondly, I would like to
thank my College Principal Dr. MALINI JOHARI for supporting in
everything and then our Coordinator, Prof. NISHIKANT JHA for
encouraging me in everything I did and for supporting me. I express my
sincere gratitude to Prof. NISHIKANT for being my Project Guide and
for assigning me a project on Venture Capital which is an interesting and
Prof. NISHIKANT JHA has been an inspiration and role
model for this topic. His guidance and active support has made it possible
to complete the assignment.
I also would like to thank my parents and friends who have
helped and encouraged me throughout the working of the project. I would
also like to thanks the customers who have helped in making my survey
Venture Capital is defined as providing seed, start-up and first stage finance to
companies and also funding expansion of companies that have demonstrated business
potential but do not have access to public securities market or other credit oriented
A Venture Capital Fund (VCF) strives to provide entrepreneurs with the support they
need to create up-scalable business with sustainable growth, while providing their
contributors with outstanding returns on investment, for the higher risks they assume.
The industry’s growth in India can be considered in two phases. The first phase was
spurred on soon after the liberalization process began in 1991. The second phase was
considered from 1996, where SEBI came out with guidelines for venture capital funds
has to adhere to, in order to carry out activities in India. This was the beginning of the
second phase in the growth of venture capital in India.
The Indian venture capital industry, at the present, is at crossroads. There are some
major issues faced by this industry which are as follows, like Limitations on
structuring of venture capital funds, Problem in raising of funds, Absence of ‘angel
investors’, Limitation on investment instrument, Limitation on Exit Mechanism,
Legal framework, etc.
Venture capital industry in India is still in its early stages and to give it a proper fillip
it is important to develop related infrastructure as has been successfully done
internationally specially in US, Taiwan and Israel. Following areas need due attention.
The Indian government has been highly supportive of growth in technology and
knowledge–based sectors. All VC funds registered with SEBI are exempted from
income tax. The benefits received by contributors to the VC funds are also tax
exempt. The government has opened up new sectors for venture funding like real
estate, bullion. FDIs have been proposed through automatic route for venture funds
like biotechnology. Technology based companies have always been the anchors for
venture capitalists. In the past, the focus has been on IT, communication and
biotechnology. But there are many niche areas where significant value can be created.
Entertainment and digital media is also a new, emerging area.
The Venture Capital market in its nascent stage so, there is a good scope for the
venture capitalist in India in near future. It has a huge potential to establish itself in
the emerging market
SR.NO. CONTENTS PAGE NO.
1. Foreword 1-1
2. Origin of Venture Capital 1-2
3. Venture Capital - Meaning 2-3
4. Venture Capital Flow Chart 3-3
5. Venture Capital in India
6. Types of Venture Capital Investors 5-5
7. Classification OF Venture Capital funds 6-6
8. Stages of f financing by Venture Capitalist 6-7
9. Venture Capital Investment Process 7-8
10. Assessing Venture Capital Undertaking 8-8
11. Assessing Venture Capital Fund 9-12
12. Exit Routes 12-14
13. Regulatory Framework For Venture Capital In India 14-16
14. SWOT Analysis of the Indian Venture Capital
15. Issued Faced by the Indian Venture Capital Industry 18-20
16. Future of Venture Capital in India 21-21
17. Current Trends 21-22
18. Survey : Gandhi & Associates 22-23
19. Survey Form
20. Annexure 26-26
21. Conclusion 27-28
22. Bibliography 28-29
The Venture capital sector is the most vibrant industry in the financial market today.
Venture capital is money provided by professionals who invest alongside
management in young, rapidly growing companies that have the potential to develop
into significant economic contributors. Venture capital is an important source of
equity for start-up companies.
Venture capital can be visualized as “your ideas and our money” concept of
developing business. Venture capitalists are people who pool financial resources from
high net worth individuals, corporate, pension funds, insurance companies, etc. to
invest in high risk – high return ventures that are unable to source funds from regular
channels like banks and capital markets. The venture capital industry in India has
really taken off in. Venture capitalists not only provide monetary resources but also
help the entrepreneur with guidance in formalizing his ideas into a viable business
Five critical success factors have been identified for the growth of VC in India,
• The regulatory, tax and legal environment should play an enabling role as
internationally venture funds have evolved in an atmosphere of structural
flexibility, fiscal neutrality and operational adaptability.
• Resources raising, investment, management and exit should be as simple and
flexible as needed and driven by global trends.
• Venture capital should become as institutionalized industry that protects
investors and investor firms, operating in an environment suitable for raising
the large amounts of risk capital needed and for spurring innovation through
start-up firms in a wide range of high growth areas.
• In view of increasing global integration and mobility of capital it is important
that Indian venture capital funds as well as venture finance enterprises are able
to have global exposure and investment opportunities.
• Infrastructure in the form of incubators and R & D need to be promoted using
government support and private management as has successfully been done by
countries such as the US, Israel and Taiwan. This is necessary for faster
conversion of R&D and technological innovation into commercial products.
With technology and knowledge based ideas set to drive the global economy in
the coming millennium, and given the inherent strength by way of its human
capital, technical skills, cost competitive workforce, research and
entrepreneurship, India can unleash a revolution of wealth creation and rapid
economic growth in a sustainable manner. However, for this to happen, there is a
need for risk finance and venture capital environment, which can leverage
innovation, promote technology and harness knowledge based ideas.
ORIGIN OF VENTURE CAPITAL
The story of venture capital is very much like the history of mankind. In the fifteenth
century, Christopher Columbus sought to travel westwards instead of eastwards from
Europe and so planned to reach India. His far- fetched idea did not find favour with
the King of Portugal, who refused to finance him. Finally, Queen Isabella of Spain
decided to fund him and the voyages of Christopher Columbus are now empanelled in
history. And thus evolved the concept of Venture Capital.
The modern venture capital industry began taking shape in the post World War 2. It is
often said that people decide to become entrepreneurs because they see role models in
other people who have become successful entrepreneurs because they see role models
in other people who have become successful entrepreneurs. Much the same can be
said about venture capitalists. The earliest members of the organized venture capital
industry had several role models, including these three :
American Research and Development Corporation:
Formed in 1946, whose biggest success was Digital Equipment. The founder of ARD
was General Georges Doroit, a French-born military man who is considered “the
father of venture capital”. In the 1950s, he taught at the Harvard Business School. His
lectures on the importance of risk capital were considered quirky by the rest of the
faculty, who concentrated on conventional corporate management.
J.H. Whitney & Co:
Also formed in 1946, one of those early hits was Minute Maid juice. Jock Whitney is
considered one of the industry’s founders.
The Rockefeller Family:
L S Rockefeller, one of those earliest investments was in Eastern Airlines, which is
now defunct but was one of the earliest commercial airlines.
3. VENTURE CAPITAL
Venture Capital is defined as providing seed, start-up and first stage finance to
companies and also funding expansion of companies that have demonstrated
business potential but do not have access to public securities market or other
credit oriented funding institutions.
Venture Capital is generally provided to firms with the following characteristics:
• Newly floated companies that do not have access to sources such as
equity capital and/or other related instruments.
• Firms, manufacturing products or services that have vast growth
• Firms with above average profitability.
• Novel products that are in the early stages of their life cycle.
• Projects involving above-average risk.
• Turnaround of companies
Venture Capital derives its value from the brand equity, professional image,
constructive criticism, domain knowledge, industry contacts; they bring to table
at a significantly lower management agency cost.
A Venture Capital Fund (VCF) strives to provide entrepreneurs with the support
they need to create up-scalable business with sustainable growth, while
providing their contributors with outstanding returns on investment, for the
higher risks they assume.
The three primary characteristics of venture capital funds which make them
eminently suitable as a source of risk finance are:
That it is equity or quasi equity investment
It is long term investment and
It is an active form of investment.
When someone refers to venture capitalist, the image that comes in mind is Mr.
Money bags. We all think of venture capitalists as someone who is sitting on millions
of dollars and who with the wave of his magic wand turns your dreams into reality.
Well, if that’s what you think is all about why run after him – “play Santa yourself”
Venture Capitalists is like any other professional who is paid for doing his job,
yes, venture capitalist is nothing but a fund manager whose job is to manage funds
that are raised. A venture capitalist gets a fee to invest in companies that interest his
Difference between a Venture Capitalist and Bankers/Money Managers.
• Banker is a manager of other people’s money while the venture capitalist
is basically an investor.
• Venture capitalist generally invests in new ventures started by
technocrats who generally are in need of entrepreneurial aid and funds.
• Venture capitalists generally invest in companies that are not listed on
any stock exchanges. They make profits only after the company obtains
• The most important difference between a venture capitalist and
conventional investors and mutual funds is that he is a specialist and
lends management support and also
Financial and strategic planning
Recruitment of key personnel
Obtain bank and debt financing
Access to international markets and technology
Introduction to strategic partners and acquisition targets in the
Regional expansion of manufacturing and marketing operations
Obtain a public listing
VENTURE CAPITAL FLOW CHART
Institutionalization of VC in India
To establish the process of institutionalisation of Venture Capital Funding (VCF) in
India it is important to examine the growth of this industry within the context of the
larger political and economic system.
The development of the venture capital industry in India in the 1980’s seemed almost
utopian. India’s highly bureaucratised economy, a conservative social and business
outlook and a risk averse financial system provided little encouragement and
institutional space for the venture capital industry to advance.
The earliest mention of venture capital came in 1973. A committee appointed by the
Indian government to examine the promotion of development of SME’s highlighted
the need to endorse venture capital as a source of funding new entrepreneurs and
The Indian economy is a dualistic economy, dominated by a few massive Public
Sector Undertakings (PSU’s) on the one hand and private sector industry giants such
as the Tatas and Birlas on the other. An entrepreneur starting a sunrise industry would
have to do so on his own personal savings or loans raised through personal contacts
and financial institutions.
In 1988, the World Bank, encouraging economic liberalization in third world
countries, undertook a study to examine the possibility of developing venture capital
funding chiefly in the private sector. Accordingly, the Indian government issued its
first guidelines to legalise venture capital operations. They allowed state controlled
banks and financial institutions to establish venture capital subsidiaries. As a result
venture capital funding became an extension for developing financial institutions such
as ICICI, IDBI, SIDBI, and State Finance Corporations.
In the absence of an independent and organized venture capital industry in India until
almost 1998, individual investors and developmental financial institutions played the
role of venture capitalists. Entrepreneurs were largely dependent on private
placements, public offerings and lending by financial institutions.
The growth of the venture capital industry in India can be divided into 2 phases.
The first phase began post –reform with liberalization of the Indian economy. The
Technical Development and Information Corporation of India (TDICI, now ICICI
ventures) and the Gujarat Venture Finance Limited (GVFL) were set up. Sources of
these funds were financial institutions, foreign institutional investors or pension funds
and high net-worth individuals.
The second phase of venture capital growth in India began with the realization that
venture capital funding, as an industry has to be regulated. Subsequently, the
Government of India issued guidelines in September 1995 for overseas investment in
venture capital in India.
In 1996, the Securities and Exchange Board of India (SEBI) came out with guidelines
for venture capital funds. The move liberated the industry from a number of
bureaucratic hassles and paved the way for greater access to capital. Moreover,
competition brought professional business practices from the mature markets in the
In 1997, venture capital funding became prominent in the IT sector. All venture
capital funds that were as of then being employed in other sectors, changed their focus
to the IT and Telecom industry.
With the IT boom today, the Indian venture capital industry has finally turned the
curve. However it is still striving hard to successfully and wholly take off.
During the recession from 1999 – 2001 most of the venture capitalists either closed
down or shifted focus. Almost all of them with the exception of one or two like GvFL
centered on successful firms for their growth and expansion. Venture capital firms
also got engaged into funding buyouts, privatization and restructuring. Currently, just
a few firms are taking the risk of investing into the start-up technology based
The success achieved in the IT sector, has encouraged VCF in several other sectors
like bio-technology, pharmaceuticals and drugs, agriculture, food processing,
telecommunications, call centers, business process outsourcing (BPO) and services.
With proper policy support and financing of risk capital, entrepreneurship in small
and medium sector can succeed.
State Governments have now started taking an active part in the venture capital
Industry. States like Andhra Pradesh have APIDC-VCL, which is a joint venture
between the Ventureast Group and the Andhra Pradesh Industrial Development
Corporation funding SME’s like bio-technology firms, pharma etc.
First-generation entrepreneurs are now finding it easier to raise venture funds. More
venture funds are now being invested in low technology enterprise as is seen in the
case of ICICI Ventures that has a stake in Shoppers Stop.
There are a number of funds, which are currently operational in India and involved in
funding start-up ventures. Most of them are not true venture funds, as they do not
fund start-ups. What they do is provide mezzanine or bridge funding and are better
known as private equity players. However, there is a strong optimistic undertone in
the air. With the Indian knowledge industry finally showing signs of readiness
towards competing globally and awareness of venture capitalists among entrepreneurs
higher than ever before, the stage seems all set for an overdrive.
The Indian Venture Capital Association (IVCA), is the nodal center for all venture
activity in the country. The association was set up in 1992 and over the last few years,
has built up an impressive database. According to the IVCA, the pool of funds
available for investment to its 20 members in 1997 was Rs25.6bn. Out of this, Rs10
bn had been invested in 691 projects.
Certain venture capital funds are Industry specific(ie they fund enterprises only in
certain industries such as pharmaceuticals, infotech or food processing) whereas
others may have a much wider spectrum. Again, certain funds may have a geographic
focus – like Uttar Pradesh, Maharashtra, Kerala, etc whereas others may fund across
different territories. The funds may be either close-endedschemes (with a fixed period
of maturity) or open-ended. The growth of venture capital in India from 2000-2006 is
As in the above chart, it is observed that venture capital had a great fall from 2000 to
2003 from US$ 280 million to US$ 56 million. 2004 was a good start from venture
capital in India. And there more chances of increase in venture capital in India.
TYPES OF VC INVESTORS
The “venture funds” available could be from
• Angel investors
• Venture Capitalists (VCs)
• Private Equity Players
An incubator is a hardcore technocrat who works with an entrepreneur to develop a
business idea, and prepares a company for subsequent rounds of growth & funding.
E-Ventures, Infinity is examples of incubators in India.
An angel is an experienced industry-bred individual with high net worth.
Typically, an angel investor would:
• Invest only his chosen field of technology
• Take active participation in day-to-day running of the company
• Invest small sums in the range of USD 1-3 million
• Not insist on detailed business plans
• Sanction the investment in up to a month
• Help company for “second round” of funding
The INDUS Entrepreneurs (TiE) is a classic group of angels like: Vinod dham,
Sailesh Mehta, Kanwal Rekhi, Prabhu Goel, Suhas Patil, Prakash Agrawal, K.B
Chandrashekhar. In India there is a lack of home grown angels except a few like
Saurabh Srivastava & Atul Choksey (ex- Asian paints).
Venture Capitalists (VCs)
VCs are organizations raising funds from numerous investors & hiring experienced
professional managers to deploy the same. They typically:
• Invest at “second” stage
• Invest over a spectrum over industry/ies
• Have hand-holding “mentor” approach
• Insist on detailed business plans
• Invest into proven ideas/businesses
• Provide “brand” value to investee
• Invest between USD 2-5 million
Private Equity Players
They are established investment bankers. Typically:
• Invest into proven/established businesses
• Have “financial partners” approach
• Invest between USD 5- 100 million
6.Classification of VC funds
Venture funds in India can be classified on the basis of:
Financial Institutions Led By ICICI Ventures, RCTC, ILFS, etc.
Private venture funds like Indus, etc.
Regional funds like Warburg Pincus, JF Electra (mostly operating out of Hong
Regional funds dedicated to India like Draper, Walden, etc.
Offshore funds like Barings, TCW, HSBC, etc.
Corporate ventures like Intel.
To this list we can add Angels like Sivan Securities, Atul Choksey (ex Asian Paints)
and others. Merchant bankers and NBFCs who specialized in "bought out" deals also
fund companies. Most merchant bankers led by Enam Securities now invest in IT
Early stage funding is avoided by most funds apart from ICICI ventures, Draper,
SIDBI and Angels. Funding growth or mezzanine funding till pre IPO is the segment
where most players operate. In this context, most funds in India are private equity
Size Of Investment
The size of investment is generally less than US$1mn, US$1-5mn, US$5-10mn, and
greater than US$10mn. As most funds are of a private equity kind, size of investments
has been increasing. IT companies generally require funds of about Rs30-40mn in an
early stage which fall outside funding limits of most funds and that is why the
government is promoting schemes to fund start ups in general, and in IT in particular.
The venture funds can have a totally "hands on" approach towards their investment
like Draper or "hands off" like Chase. ICICI Ventures falls in the limited exposure
category. In general, venture funds who fund seed or start ups have a closer
interaction with the companies and advice on strategy, etc while the private equity
funds treat their exposure like any other listed investment. This is partially justified,
as they tend to invest in more mature stories.
A list of the members registered with the IVCA as of June 1999, has been provided in
the Annexure. However, in addition to the organized sector, there are a number of
players operating in India whose activity is not monitored by the association. Add
together the infusion of funds by overseas funds, private individuals, ‘angel’ investors
and a host of financial intermediaries and the total pool of Indian Venture Capital
today, stands at Rs50bn, according to industry estimates!
The primary markets in the country have remained depressed for quite some time
now. In the last two years, there have been just 74 initial public offerings (IPOs) at the
stock exchanges, leading to an investment of just Rs14.24bn. That’s less than 12% of
the money raised in the previous two years. That makes the conservative estimate of
Rs36bn invested in companies through the Venture Capital/private Equity route all
the more significant.
Some of the companies that have received funding through this route include:
Mastek, one of the oldest software houses in India
Geometric Software, a producer of software solutions for the CAD/CAM
Ruksun Software, Pune-based software consultancy
SQL Star, Hyderabad based training and software development company
Microland, networking hardware and services company based in Bangalore
Satyam Infoway, the first private ISP in India
Hinditron, makers of embedded software
PowerTel Boca, distributor of telecomputing products for the Indian market
Rediff on the Net, Indian website featuring electronic shopping, news, chat,
Entevo, security and enterprise resource management software products
Planetasia.com, Microland’s subsidiary, one of India’s leading portals
Torrent Networking, pioneer of Gigabit-scaled IP routers for inter/intra nets
Selectica, provider of interactive software selection
Though the infotech companies are among the most favored by venture capitalists,
companies from other sectors also feature equally in their portfolios. The healthcare
sector with pharmaceutical, medical appliances and biotechnology industries also get
much attention in India. With the deregulation of the telecom sector,
telecommunications industries like Zip Telecom and media companies like UTV and
Television Eighteen have joined the list of favorites. So far, these trends have been in
keeping with the global course.
However, recent developments have shown that India is maturing into a more
developed marketplace; unconventional investments in a gamut of industries have
sprung up all over the country. This includes:
Indus League Clothing, a company set up by eight former employees of readymade
garments giant Madura, who set up shop on their own to develop a unique virtual
organization that will license global apparel brands and sell them, without owning any
manufacturing units. They dream to build a network of 2,500 outlets in three years
and to be among the top three readymade brands.
Shoppers Stop, Mumbai’s premier departmental store innovates with retailing and
decides to go global. This deal is facing some problems in getting regulatory
Airfreight, the courier-company which has been growing at a rapid pace and needed
funds for heavy investments in technology, networking and aircrafts.
Pizza Corner, a Chennai based pizza delivery company that is set to take on global
giants like Pizza Hut and Dominos Pizza with its innovative servicing strategy.
Where the project cost is high (Rs 100 million or more) and a single fund is not in a
position to provide the entire venture capital required then venture funds might act in
consortium with other funds and take a lead in making investment decisions. This
helps in diversifying risk but however it has not been very successful in the India
STAGES OF FINANCING BY VENTURE CAPITALIST
Venture capital can be provided to companies at different stages. These include:
I. Early- stage Financing
• Seed Financing: Seed financing is provided for product development
& research and to build a management team that primarily develops the
• Startup Financing: After initial product development and research is
through, startup financing is provided to companies to organize their
business, before the commercial launch of their products.
• First Stage Financing: Is provided to those companies that have
exhausted their initial capital and require funds to commence large-scale
manufacturing and sales.
II. Expansion Financing
• Second Stage Financing: This type of financing is available to provide
working capital for initial expansion of companies, that are experiencing
growth in accounts receivable and inventories, and is on the path of
• Mezzanine Financing: When sales volumes increase tremendously,
the company, through mezzanine financing is provided with funds for
further plant expansion, marketing, working capital or for development
of an improved product.
• Bridge Financing: Bridge financing is provided to companies that plan
to go public within six to twelve months. Bridge financing is repaid
from underwriting proceeds.
III. Acquisition Financing
As the term denotes, this type of funding is provided to companies to
acquire another company. This type of financing is also known as buyout
financing. It is normally advisable to approach more than one venture
capital firm simultaneously for funding, as there is a possibility of delay
due to the various queries put by the VC. If the application for funding
were finally rejected then approaching another VC at that point and going
through the same process would cause delay. If more than one VC
reviews the business plan this delay can be avoided, as the probability of
acceptance will be much higher. The only problem with the above
strategy is the processing fee required by a VC along with the business
plan. If you were applying to more than one VC then there would be a
cost escalation for processing the application. Hence a cost benefit
analysis should be gone into before using the above strategy.
Normally the review of the business plan would take a maximum of one
month and disbursal for the funds to reach the entrepreneur it would take
a minimum of 3 months to a maximum of 6 months. Once the initial
screening and evaluation is over, it is advisable to have a person with
finance background like a finance consultant to take care of details like
negotiating the pricing and structuring of the deal. Of course alternatively
one can involve a financial consultant right from the beginning
particularly when the entrepreneur does not have a management
8. Corporate Venturing (Investment process)
Ve n t u r e Ca p i t a l Pr o c e s s
Generating a deal flow
Even though investor and the entire process that goes into the wooing the venture
capital with your plan.
First, you need to work out a business plan. The business plan is a document that
outlines the management team, product, marketing plan, capital costs and means of
financing and profitability statements.
The venture capital investment process has variances/features that are context specific
and vary from industry, timing and region. However, activities in a venture capital
fund follow a typical sequence. The typical stages in an investment cycle are as
Generating a deal flow
Pricing and structuring the deal
Value Addition and monitoring
I] Generating A Deal Flow
In generating a deal flow, the venture capital investor creates a pipeline of ‘deals’ or
investment opportunities that he would consider for investing in. This is achieved
primarily through plugging into an appropriate network. The most popular network
obviously is the network of venture capital funds/investors.
It is also common for venture capitals to develop working relationships with R&D
institutions, academia, etc, which could potentially lead to business opportunities.
Understandably the composition of the network would depend on the investment
focus of the venture capital funds/company. Thus venture capital funds focussing on
early stage technology based deals would develop a network of R&D centers working
in those areas. The network is crucial to the success of the venture capital investor. It
is almost imperative for the venture capital investor to receive a large number of
investment proposals from which he can select a few good investment candidates
finally. Successful venture capital investors in the USA examine hundreds of business
plans in order to make three or four investments in a year.-It is important to note the
difference between the profile of the investment opportunities that a venture capital
would examine and those pursued by a conventional credit oriented agency or an
investment institution. By definition, the venture capital investor focuses on
opportunities with a high degree of innovation.
The deal flow composition and the technique of generating a deal flow can vary from
country to country. In India, different venture capital funds/companies have their own
methods varying from promotional seminars with R&D institutions and industry
associations to direct advertising campaigns targeted at various segments. A clear
pattern between the investment focus of a fund and the constitution of the deal
generation network is discernible even in the Indian context.
II] Due Diligence
Due diligence is the industry jargon for all the activities that are associated with
evaluating an investment proposal. It includes carrying out reference checks on the
proposal related aspects such as management team, products, technology and market.
The important feature to note is that venture capital due diligence focuses on the
qualitative aspects of an investment opportunity. It is also not unusual for venture
capital fund/companies to set up an ‘investment screen’. The screen is a set of
qualitative (sometimes quantitative criteria such as revenue are also used) criteria that
help venture capital funds/companies to quickly decide on whether an investment
opportunity warrants further diligence. Screens can be sometimes elaborate and
rigorous and sometimes specific and brief.
The nature of screen criteria is also a function of investment focus of the firm at that
point. Venture capital investors rely extensively on reference checks with ‘leading
lights’ in the specific areas of concern being addressed in the due diligence.
A venture capitalist tries to maximize the upside potential of any project. He tries to
structure his investment in such a manner that he can get the benefit of the upside
potential ie he would like to exit at a time when he can get maximum return on his
investment in the project. Hence his due diligence appraisal has to keep this fact in
Sometimes, companies may have experienced operational problems during their early
stages of growth or due to bad management. These could result in losses or cash flow
drains on the company. Sometimes financing from venture capital may end up being
used to finance these losses. They avoid this through due diligence and scrutiny of the
When investments are made in a company that is part of a group, inter-company
transactions must be analyzed.
III] Investment Valuation
The investment valuation process is an exercise aimed at arriving at ‘an acceptable
price’ for the deal. Typically in countries where free pricing regimes exist, the
valuation process goes through the following steps:
Evaluate future revenue and profitability
Forecast likely future value of the firm based on experienced market
capitalization or expected acquisition proceeds depending upon the anticipated
exit from the investment.
Target an ownership position in the investee firm so as to achieve desired
appreciation on the proposed investment. The appreciation desired should
yield a hurdle rate of return on a Discounted Cash Flow basis.
Symbolically the valuation exercise may be represented as follows:
NPV = [(Cash)/(Post)] x [(PAT x PER)] x k, where
NPV = Net Present Value of the cash flows relating to the investment
comprising outflow by way of investment and inflows by way of
interest/dividends (if any) and realization on exit. The rate of return used for
discounting is the hurdle rate of return set by the venture capital investor.
Post = Pre + Cash
Cash represents the amount of cash being brought into the particular round of
financing by the venture capital investor.
‘Pre’ is the pre-money valuation of the firm estimated by the investor. While
technically it is measured by the intrinsic value of the firm at the time of
raising capital. It is more often a matter of negotiation driven by the ownership
of the company that the venture capital investor desires and the ownership that
founders/management team is prepared to give away for the required amount
PAT is the forecast Profit after tax in a year and often agreed upon by the
founders and the investors (as opposed to being ‘arrived at’ unilaterally). It
would also be the net of preferred dividends, if any.
PER is the Price-Earning multiple that could be expected of a comparable firm
in the industry. It is not always possible to find such a ‘comparable fit’ in
venture capital situations. That necessitates, therefore, a significant degree of
judgement on the part of the venture capital to arrive at alternate PER
‘k’ is the present value interest factor (corresponding to a discount rate ‘r’) for
the investment horizon.
It is quite apparent that PER time PAT represents the value of the firm at that time
and the complete expression really represents the investor’s share of the value of the
investee firm. The following example illustrates this framework:
Example: Best Mousetrap Limited (BML) has developed a prototype that needs to be
commercialized. BML needs cash of Rs2mn to establish production facilities and set
up a marketing program. BML expects the company will go public in the third year
and have revenues of Rs70mn and a PAT margin of 10% on sales. Assume, for the
sake of convenience that there would be no further addition to the equity capital of the
Prudent Fund Managers (PFM) propose to lead a syndicate of like minded investors
with a hurdle rate of return of 75% (discounted) over a five year period based on
BML’s sales and profitability expectations. Firms with comparable sales and
profitability and risk profiles trade at 12 times earnings on the stock exchange. The
following would be the sequence of computations:
In order to get a 75% return p.a. the initial investment of Rs2 million must yield an
accumulation of 2 x (1.75)5
= Rs32.8mn on disinvestment in year 5.
BML’s market capitalization in five years is likely to be Rs (70 x 0.1 x 12) million =
Percentage ownership in BML that is required to yield the desired accumulation will
be (32.8/84) x 100 = 39%
Therefore the post money valuation of BML At the time of raising capital will be
equal to Rs(2/0.39) million = Rs5.1 million which implies that a pre-money valuation
of Rs3.1 million for BML
Another popular variant of the above method is the First Chicago Method (FCM)
developed by Stanley Golder, a leading professional venture capital manager. FCM
assumes three possible scenarios – ‘success’, ‘sideways survival’ and ‘failure’.
Outcomes under these three scenarios are probability weighted to arrive at an
expected rate of return:In reality the valuation of the firm is driven by a number of
factors. The more significant among these are:
Overall economic conditions: A buoyant economy produces an optimistic long- term
outlook for new products/services and therefore results in more liberal pre-money
Demand and supply of capital: when there is a surplus of venture capital of
venture capital chasing a relatively limited number of venture capital deals,
valuations go up. This can result in unhealthy levels of low returns for venture
Specific rates of deals: such as the founder’s/management team’s track
record, innovation/ unique selling propositions (USPs), the product/service
size of the potential market, etc affects valuations in an obvious manner.
The degree of popularity of the industry/technology in question also
influences the pre-money. Computer Aided Skills Software Engineering
(CASE) tools and Artificial Intelligence were one time darlings of the venture
capital community that have now given place to biotech and retailing.
The standing of the individual venture capital Well established venture
capitals who are sought after by entrepreneurs for a number of reasons could
get away with tighter valuations than their less known counterparts.
Investor’s considerations could vary significantly. A study by an American
venture capital, ‘VentureOne’, revealed the following trend. Large
corporations who invest for strategic advantages such as access to
technologies, products or markets pay twice as much as a professional venture
capital investor, for a given ownership position in a company but only half as
much as investors in a public offering.
Valuation offered on comparable deals around the time of investing in the deal.
Quite obviously, valuation is one of the most critical activities in the investment
process. It would not be improper to say that the success for a fund will be determined
by its ability to value/price the investments correctly.
Sometimes the valuation process is broadly based on thumb rule metrics such as
multiple of revenue. Though such methods would appear rough and ready, they are
often based on fairly well established industry averages of operating profitability and
assets/capital turnover ratios
Such valuation as outlined above is possible only where complete freedom of pricing
is available. In the Indian context, where until recently, the pricing of equity issues
was heavily regulated, unfortunately valuation was heavily constrained.
IV] Structuring A Deal
Structuring refers to putting together the financial aspects of the deal and negotiating
with the entrepreneurs to accept a venture capital’s proposal and finally closing the
deal. To do a good job in structuring, one needs to be knowledgeable in areas of
accounting, cash flow, finance, legal and taxation. Also the structure should take into
consideration the various commercial issues (ie what the entrepreneur wants and what
the venture capital would require to protect the investment). Documentation refers to
the legal aspects of the paperwork in putting the deal together.
The instruments to be used in structuring deals are many and varied. The objective in
selecting the instrument would be to maximize (or optimize) venture capital’s
returns/protection and yet satisfy the entrepreneur’s requirements. The instruments
could be as follows:
Loan clean vs secured
Interest bearing vs non interest bearing
convertible vs one with features (warrants)
1st Charge, 2nd Charge,
Preference shares redeemable (conditions under Company Act)
Warrants exercise price, expiry period
Common shares New or vendor shares
Options exercise price, expiry period, call, put
In India, straight equity and convertibles are popular and commonly used. Nowadays,
warrants are issued as a tool to bring down pricing.
A variation that was first used by PACT and TDICI was "royalty on sales". Under
this, the company was given a conditional loan. If the project was successful, the
company had to pay a % age of sales as royalty and if it failed then the amount was
In structuring a deal, it is important to listen to what the entrepreneur wants, but the
venture capital comes up with his own solution. Even for the proposed investment
amount, the venture capital decides whether or not the amount requested, is
appropriate and consistent with the risk level of the investment. The risks should be
analyzed, taking into consideration the stage at which the company is in and other
factors relating to the project. (eg exit problems, etc).
As venture capital is to finance growth, venture capital investment should ideally be
used for financing expansion projects (eg new plant, capital equipment, additional
working capital). On the other hand, entrepreneurs may want to sell away part of their
interests in order to lock-in a profit for their work in building up the company. In such
a case, the structuring may include some vendor shares, with the bulk of financing
going into buying new shares to finance growth.
Handling Director’s And Shareholder’s Loans
Frequently, a company has existing director’s and shareholder’s loans prior to inviting
venture capitalists to invest. As the money from venture capital is put into the
company to finance growth, it is preferable to structure the deal to require these loans
to be repaid back to the shareholders/directors only upon IPOs/exits and at some
mutually agreed period (eg 1 or 2 years after investment). This will increase the
financial commitment of the entrepreneur and the shareholders of the project.
A typical proposal may include a combination of several different instruments listed
above. Under normal circumstances, entrepreneurs would prefer venture capitals to
invest in equity as this would be the lowest risk option for the company. However
from the venture capitals point of view, the safest instrument, but with the least return,
would be a secured loan. Hence, ultimately, what you end up with would be some
instruments in between which are sold to the entrepreneur.
V] Monitoring and Follow Up
The role of the venture capitalist does not stop after the investment is made in the
project. The skills of the venture capitalist are most required once the investment is
made. The venture capitalist gives ongoing advice to the promoters and monitors the
It is to be understood that the providers of venture capital are not just financiers or
subscribers to the equity of the project they fund. They function as a dual capacity, as
a financial partner and strategic advisor.
Venture capitalists monitor and evaluate projects regularly. They keep a hand on the
pulse of the project. They are actively involved in the management of the of the
investee unit and provide expert business counsel, to ensure its survival and growth.
Deviations or causes of worry may alert them to potential problems and they can
suggest remedial actions or measures to avoid these problems. As professional in this
unique method of financing, they may have innovative solutions to maximize the
chances of success of the project. After all, the ultimate aim of the venture capitalist is
the same as that of the promoters – the long term profitability and viability of the
One of the most crucial issues is the exit from the investment. After all, the return to
the venture capitalist can be realized only at the time of exit. Exit from the investment
varies from the investment to investment and from venture capital to venture capital.
There are several exit routes, buy-buck by the promoters, sale to another venture
capitalist or sale at the time of Initial Public Offering, to name a few. In all cases
specialists will work out the method of exit and decide on what is most profitable and
suitable to both the venture capitalist and the investee unit and the promoters of the
At present many investments of venture capitalists in India remain on paper as they do
not have any means of exit. Appropriate changes have to be made to the existing
systems in order that venture capitalists find it easier to realize their investments after
holding on to them for a certain period of time. This factor is even more critical to
smaller and mid sized companies, which are unable to get listed on any stock
exchange, as they do not meet the minimum requirements for such listings. Stock
exchanges could consider how they could assist in this matter for listing of companies
keeping in mind the requirement of the venture capital industry
9. ACCESSING VENTURE CAPITAL UNDERTAKING
Venture funds, both domestic and offshore, have been around in India for some
years now. However it is only in the past 12 to 18 months, they have come into
the limelight. The rejection ratio is very high, about 10 in 100 get beyond pre
evaluation stage, and I get funded.
Venture capital funds are broadly of two kinds – generalists or specialists. It is
critical for the company to access the right type of fund, i.e. who can add value.
This backing is invaluable as focused / specialized funds open doors,assist in
future rounds and help in strategy. Hence, it is important to choose the right
The standard parameters used by venture capitalists are very similar to any investment
decision. The only difference being exit. If one buys a listed security, one can exit at a
price but with an unlisted security, exit becomes difficult. The key factors which they
look for in
Most businesses are people driven, with success or failure depending on the
performance of the team. It is important to distinguish the entrepreneur from the
professional management team. The value of the idea, the vision, putting the team
together, getting the funding in place are amongst others, some key aspects of the role
of the entrepreneur. Venture capitalists will insist on a professional team coming in,
including a CEO to execute the idea. One-man armies are passe. Integrity and
commitment are attributes sought for.
The venture capitalist can provide the strategic vision, but the team executes it. As a
famous Silicon Valley saying goes "Success is execution, strategy is a dream".
The idea and its potential for commercialization are critical. Venture funds look for a
scalable model, at a country or a regional level. Otherwise the entire game would be
reduced to a manpower or machine multiplication exercise. For example, it is very
easy for Hindustan Lever to double sales of Liril - a soap without incremental capex,
while Gujarat Ambuja needs to spend at least Rs4bn before it can increase sales by
1mn ton. Distinctive competitive advantages must exist in the form of scale,
technology, brands, distribution, etc which will make it difficult for competition to
All investment decisions are sensitive to this. An old stock market saying "Every
stock is a buy at a price and vice versa". Most deals fail because of valuation
expectation mismatch. In India, while calculating returns, venture capital funds will
take into account issues like rupee depreciation, political instability, which adds to the
risk premia, thus suppressing valuations. Linked to valuation is the stake, which the
fund takes. In India, entrepreneurs are still uncomfortable with the venture capital
"taking control" in a seed stage project.
Without exit, gains cannot be booked. Exit may be in the form of a strategic sale
or/and IPO. Taxation issues come up at the time. Any fund would discuss all exit
options before closing a deal. Sometimes, the fund insists on a buy back clause to
ensure an exit.
Most venture funds try and achieve portfolio balancing as they invest in different
stages of the company life cycle. For example, a venture capital has invested in a
portfolio of companies predominantly at seed stage, they will focus on expansion
stage projects for future investments to balance the investment portfolio. This would
enable them to have a phased exit.
In summary, venture capital funds go through a certain due diligence to finalize the
deal. This includes evaluation of the management team, strategy, execution and
commercialization plans. This is supplemented by legal and accounting due diligence,
typically carried out by an external agency. In India, the entire process takes about 6
months. Entrepreneurs are advised to keep that in mind before looking to raise funds.
The actual cash inflow might get delayed because of regulatory issues. It is interesting
to note that in USA, at times angels write checks across the table.
10. ACCESSING VENTURE CAPITAL FUND
The Business Plan
The first step towards accessing venture capital funding is the preparation of the
business plan. The business plan should be able to provide information regarding
the promoters, amount of funding needed and the time period for which it is
needed and how this funding is going to be paid back to the VC. To answer the
above fundamental queries of a venture capital firm the business plan is to be
structured with the necessary information.
Business Plan Coverage
• A brief description of the company and the type of business
• A summary of the business nature
• A description of the experience and expertise of the management team
• A summary of the product/service and competition
• A summary of financial history and projections
• Funds required and equity offered to the investors
• A description of use of proceeds
• The timing of returns on investment and exit routes offered to the investor
• A brief history and nature of the business
• The industry details of the business involved in
• A summary of the future of the business
Product / Service
• A description of the product or service
• The uniqueness of the product
• The present status of the product, that is a concept, prototype or product
ready for market
• The size of the potential market and market niche being pursued
• A projection of the trends and future size of the market place
• The estimated market share
• A description of the competition
• The marketing channel
• A summary of the potential customers
• The possibility of related or new markets that can be developed
Sales and marketing strategy
• The specific marketing techniques planned to be used
• The pricing plans and comparisons with pricing adopted by competitors
• The planned sales force and selling strategies for various accounts and
• The specific approaches for capitalizing on each marketing channel and
comparison with other practices within the industry
• Details of advertising and promotional plans
• A description of customer service- which markets will be covered by
direct sales force, which by distributors, representative or resellers
• A description of the production process
• Details of the production costs, including labour force, equipment,
technology involved, extent of subcontract or outsourcing, supplier
• An organization chart showing the corporate structure
• A summary of the board of directors and key employees and details of
their skills and experience .A list of the remuneration for all levels of
• A proposed plan of how to retain key staff
A description of the major problems and risks relating to the industry, the
company and the products market
• A description of the type of financing, such as equity only or a
combination of equity and loan, and stock options to the investor
• The capital structure and ownership before and after the financing
Return on investment and exit
• Details of the timing and expected return of the investment
• A summary of the exit strategies, such as initial public offering, sale to a
third party or management buyout
Use of proceeds
Specify how the capital will be spent, i.e.; what amount of capital will go to
• A summary of the company’s financial history and projections of three to
five year period
• Details of the principal accounting policies of the company and the major
assumptions made about the projections
• Resumes of key management and employees
• Detailed financial forecast and assumptions
• Market research report
• Company literature and brochures and pictures of the product
A good business plan shows investors the quality and depth of a company’s
corporate leadership and indicates management’s ability to reach stated goals.
These factors lie at the heart of the decision of a venture capitalist to invest in
the company’s future.
Selection of Venture capital fund
After the business plan is completed, the next step is to select the venture capital
fund, which is suitable to your proposal. The entrepreneur should first ascertain
as to the investment strategy of the VC with regards to the sector in which the
VC is interested as well as the stage at which he chooses to fund the project.
Based on this information the entrepreneur should shortlist the suitable VCs who
match his requirement and then approach them
Financing from venture capital funds is available at various stages and different
VCs provide funding in some or all of the stages.
After the unit has settled down to a profitable working and the enterprise is in a
position to raise funds through conventional resources like capital market, financial
institution or commercial banks, the venture capitalist liquidate their investment and
make an exit from the investee company.
The ultimate objective of a Venture Capitalist is to realize from his investment by
selling off the same at a substantial capital gain. Infect at the time of making their
investment, the venture capitalist plan their potential exit.
The investee company has to prepare and make suitable adjustments in its capital
structure at the time of realization by the venture capitalist. The convertible
preference shares and convertible loans must be converted to ordinary equity before
the exit by the venture capitalist. In case of non- convertible preference shares and
loans by the venture capitalist these are to be redeemed. At exit the special rights
granted to the venture capitalist cease to operate and venture capital firms normally
withdraw their nominees from the board of the investee company.
The venture capitalist firms have a motto ‘exit at the maximum possible profit or at
a minimum possible loss’ – in case of a failed investment. The exit can be voluntary
or involuntary. Liquidation or receivership of a failed venture is a case of involuntary
exit. The voluntary exit can have four altenative routes for disinvestment:
• Buy back of shares by promoters or company.
• Sale of stock (shares)
• Selling to a new investor
• Strategic/ Trade sale
BUY BACK / SHARES REPURCHASE
Buy back or shares repurchase has the following forms:
• The investee company has to buyback its own shares for cash from its venture
capitalist using its internal accruals
• The promoters and their group buys back the equity stake of venture capitalist.
• The employees’ stock trusts are formed which, in turn, buy the share holding
of the venture capitalist in the company.
The route is suited to the Indian conditions because it keeps the ownership and control
of the promoters intact. Indian entrepreneurs are often very touchy about ownership
and control of their business. Hence in India, first a buy back option is normally given
to the promoters or to the company and only on their refusal the other disinvestments
routes are looked into. The exact price is mutually negotiated between the
entrepreneur and the venture capitalist. The price is determined considering the book
value of shares, future earning potential of the venture, Price/Earning ratio of similar
The companies were not allowed to buy back their shares in India; however, with
effect from the amendment in the companies act (1999) the companies can do so now.
SALE OF SHARES ON THE STOCK EXCHANGE
The venture capitalist can exit by getting the company listed on the stock exchange
and selling his equity in the primary or secondary market using any of the following
• Sale of shares on stock exchange after listing shares.
Venture capitalists generally invest at the start up stage and propose to
disinvest their holding after the company brings out an IPO for raising funds
for expansion. This listing on stock exchange provides an exit route from
• Initial Public Offer (IPO)/ Offer for sale
When the existing entrepreneurs opt out of buy back, the venture capitalists
opt for disinvesting their stocks through public offering.
• Disinvestments on OTC
An active capital market supports the venture capital activities. It enables the
venture capitalists to get a suitable valuation for their investment. Besides the
regular stock exchange a well developed OTC market where dealers can trade
in shares. The OTC market enables the new and smaller companies not
eligible for listing on a regular stock exchange to be listed at an OTC
exchange and thus provide liquidity to the investors.
As per the recommendations of a number of committees, an OTC exchange
was required in India. As a result ‘Over The Counter Exchange of India
(OTCEI)’ was set up.
SELLING TO AN INVESTOR`
Many a times for their exit venture capitalist and /or the promoters locate a
new investor, a corporate body or another venture capital firm. The new
investors are normally those who find some sort of synergy between the
investee company and their existing operations such that the relationship is
useful to both the companies. This route is also used when the promoters want
to get rid of the venture capitalist.
Some venture capitalists, as a policy concentrate their activities to startups and
early stage investments. Such venture capital funds exit paving way for the
venture capital fund specializing in the later stage investment or buy out deals.
Often a growing venture needs second stage financing, if the existing venture
capitalist as a policy does not commit funds for the second stage it normally
locates another venture capitalist that finds the investment attractive enough to
CORPORATE / TRADE SALE
The venture capital firm and the entrepreneur together sell the enterprise to a
third party mostly a corporate entity. Herein the promoters also exit from the
venture along with the venture capitalist.This is called a corporate, strategic or
trade sale. The reasons for this sale can be varied, difficulty in running the
business profitability or a perceived competition from more established big
business houses having huge resources and business synergy.
On the other hand, where operations of an existing venture are modest, a
higher exit valuation may be achieved in the market rather than by a trade sale,
as the market investors are usually swayed by the appeal of the sector in which
the venture operates rather than the quality of its specific business operations.
The modalities of the trade sale differ from case to case depending upon the
nature of operations, its size, the requirements of the buyer, etc. The sale can
be in cash, against the shares of the acquiring company or the combination of
the two. The equity owners get the shares of the buyer company in lieu of the
shares bein sold by them. Such sales have the advantage that the seller does
not have to pay any tax as the transaction involves only exchange of shares.
At times, it is through a management buy- out or buy-in, which in turn may be
financed partially by another venture capital fund. It is important to note that
in India if the investee company is a listed company at the time of trade sale,
then the provisions of listing agreement are attracted besides the provisions of
the SEBI regulations of merger and acquisitions are also applicable.
Venture capital buy-outs are both a successful investment strategy for venture
capital investment as well as an efficient exit route. Buy-out financed by
another venture capitalist primarily by providing debt is known as leveraged
buy-out. Buy-out without participation by another investor is called
management buy-out. Here in the current management group purchases the
stake of the venture capitalist. The stock options and sweat equity have made
management buy-out possible in India.
Management buy-outs are important in venture capital market for various
• MBO’s provide an opportunity to managers to become entrepreneurs.
• Venture capital investment in buy-out has a lower investment risk than early
• MBO’s help smaller enterprises to adapt to technological changes.
Buy-in is similar to buy-out but involves new management from outside and
improvement in the operations of the venture. Incoming new management is often
unfamiliar with the operations of the venture hence the acquiring company may feel
that the continuity of the existing entrepreneur will be beneficial for the business; the
services of the original entrepreneur are retained. This helps in implementing the
remaining parts of the original ideas and also provides continuity to the venture.
PRE-REQUISITE FOR THE EFFICIENT EXIT MECHANISM
• Legal framework
• Smooth procedures for sale / transfer of enterprises
• Efficient stock market
• Mechanism for listing and trading of equity of smaller companies.
REGULATORY FRAMEWORK FOR VENTURE
In his budget speech for 1988-89, the finance minister declared that a scheme will be
formulated under which Ventures Capital Companies / Funds will be enabled to invest
in new companies and be eligible for the concessional treatment of capital gains
available to non-corporate entities. Such companies will have to comply with the
The minimum size of a venture capital company would be Rs.10 crore. If it desires to
raise fund from the public the promoter’s share shall be less than 10 per cent.
Venture capital assistance should go mainly to enterprises where the risk element is
comparatively high due to the technology involved being relatively new, untried or
very closely held, and/or the entrepreneur being relatively new and not affluent
though otherwise qualified and the size being modest. The assistances should be
mainly for equity support though loan support to supplement this may also be given.
Thus, venture capital assistance will be given to those entrepreneurs which satisfy the
following parameters :
Total investment not to exceed Rs.10 crores.
New or relatively untried or very closely held or being taken from pilot to commercial
state or which incorporate some significant improvement over the existing ones in
Relatively new, professionally or technically qualified with inadequate resources or
banking to finance the project.
A venture capital is required to invest at least 75 per cent of its funds in venture
capital activity. A venture capital is firm can raise funds through pubic issues and/or
private placement to finance VCF/VCCs. Foreign equity upto 25 per cent
multilateral / international financial organizations, development finance institutes,
reputed mutual funds, etc., would be permitted provide these are management neutral
and are for medium to long-term investments.
A venture capital fund will be managed by professional such as bankers, managers
and administration and persons with adequate experience of industry, finance,
The changed financial and fiscal environment during post liberalization period hold
out bright future of venture capital in India. With falling tax rates equity becomes
attractive, and promoters want to put in maximum funds. In new companies today.
The debt-equity ratio is generally 2:1. The promoter has to compulsorily contribute 25
percent of the projects cost, not just the equity. However because industry is more
competitive today promoters are willing to contribute as much as 40 per cent of the
project cost. Banks and other finance institutions being risk averse will fund a new
Under the circumstances these entrepreneurs will be left with no option but to resort
to venture capital firm, to fill the gap in their contribution to project cost. This is very
likely to continue as professional start their contribution to project cost. This is very
likely to continue as professional start their own units, ancillarisation takes place and
large companies began sourcing their requirement rather than making every thing
SWOT ANALYSIS OF INDIAN VENTURE CAPITAL
• An effort initiated from within –
• Increased awareness of venture
• More capital under management by
VCFs Industry crossed learning
• More experienced Venture
Capitalists, Intermediaries, and
• Growing number of foreign trained
• Global competition growing.
• Moving towards international
• Offshore funds bring strong foreign
• Matured towards market system
• Electronic trading – through NSE &
• Valuation addition
• Irreversible reform
• Regulatory framework evolving
• Limited exit option
• Policy repatriation,
• Bureaucratic meddling
and rigid official attitude
• Industry fragmented
and polarized- Mixed V.C culture
• Smaller funds with
• Domestic fund raising
• Lack of transparency
& corporate governance
• Accounting standards
• Poor legal
• Difficult due diligence
• Valuation expectations
• Technical and Market
• Negligible minority
• Inadequate corporate
• Growth capital for strong companies
and Buyouts of weak companies due
to growing global competition
• Financial restructuring have over
leveraged companies taking place.
• Acquisition of quoted small/ medium
• Pre money valuations low
• Vast potential exists in turn around,
• Change in government policies with
respect to –
• Threats from within Explosive
expansion and over Exuberance of
• Greed fro very high returns.
ISSUED FACED BY VENTURE CAPITAL IN INDIA
The Indian venture capital industry, at the present, is at crossroads. Following are the
major issues faced by this industry.
1. Limitation on structuring of Venture Capital Funds (VCFs): VCFs in
India are structured in the form of a company or trust fund and are required to
follow a three-tier mechanism-investors, trustee company and AMC. A proper
tax-efficient vehicle in the form of ‘Limited Liability Partnership Act’, which
is popular in USA, is not made applicable for structuring of VCFs in India. In
this form of structuring, investors’ liability towards the fund is limited to the
extent of his contribution in the fund and also formalities in structuring of
fund are simpler.
2. Problem in raising of funds: In USA primary sources of funds are insurance
companies, pensions funds, corporate bodies etc; while in Indian domestic
financial institutions, multilateral agencies and state government undertakings
are the main sources of funds for VCFs. Allowing Pension funds, Insurance
companies to invest in the VCFs would enlarge the possibility of setting up of
domestic VCFs. Further, if Mutual Funds are allowed to invest upto 5 percent
of their corpus in VCFs by SEBI, it may lead to increased availability of fund
3. Lack of Inventive to Investors: Presently, high net worth individuals and
corporate are not provided with any investments in VCFs. The problem of
raising funds from these sources further gets aggravated with the differential
tax treatment applicable to VCFs and mutual funds. While the income of the
Mutual funds is totally tax exempted under Section 10(23D) of the Income
Tax Act income of domestic VCFs, which provide assistance to small, and
medium enterprise is not totally exempted from tax. In absence of any
inventive, it is extremely difficult for domestic VCFs to raise money from this
investor group that has a good potential.
4. Absence of ‘angel investors’: In Silicon Valley, which is a nurturing ground
for venture funds financed IT companies; initial/ seed stage financing is
provided by the angel investors till the company becomes eligible for venture
funding . There after Venture Capitalist through financial support and value-
added inputs enables the company to achieve better growth rate and facilitate
its listng on stock exchanges. Private equity investors typically invest at
expansion/ later stages of growth of the company with large investments. In
contrast to this phenomenon, Indian industry is marked by an absence of angel
5. Limitations of investment instruments: As per the section 10(23FA) of the
Income Tax Act, income from investments only in equity instruments of
venture capital undertakings is eligible for tax exemption; whereas SEBI
regulations allow investments in the form of equity shares or equity related
securities issued by company whose shares are not listed on stock exchange.
As VCFs normally structure the investments in venture capital undertakings
by way of equity and convertible instruments such as Optionally/ Fully
Convertible Debentures, Redeemable Preference shares etc., they need tax
breaks on the income from equity linked instruments.
6. Domestic VCFs vis-à-vis Offshore Funds: The domestic VCFs operations in
the country are governed by the regulations as prescribed by SEBI and
investment restrictions as placed by CBDT for availing of the tax benefits.
They pay maximum marginal tax 35 percent in respect of non-exempt income
such as interest through Debentures etc., while off- shore funds which are
structured in tax havens such as Mauritius are able to overcome the investment
restriction of SEBI and also get exemption from Income Tax under Tax
Avoidance Treaties. This denies a level playing field for the domestic
investors for carrying out the similar activity in the country.
7. Limitation on industry segments: In sharp contrast to other countries where
telecom, services and software bag the largest share of venture capital
investments, in India other conventional sectors dominate venture finance.
Opening up of restrictions, in recent time, on investing in the services sectors
such as telecommunication and related services, project consultancy, design
and testing services, tourism etc, would increase the domain and growth
possibilities of venture capital.
8. Anomaly between SEBI regulations and CBDT rules: CBDT tax rules
recognize investment in financially weak companies only in case of unlisted
companies as venture investment whereas SEBI regulations recognize
investment in financially weak companies, which offers an attractive
opportunity to VCFs. The same may be allowed by CBDT for availing of tax
exemption on capital gains at a later stage. Also SEBI regulations do not
restrict size of an investment in a company. However, as per Income tax rules,
maximum investment in a company is restricted to less than 20 per cent of the
raised corpus of VCF and paid up share capital in case of Venture Capital
Company. Further, investment in company is also restricted upto 40 per cent
of equity of Investee Company. VCFs may place the investment restriction for
VCFs by way of maximum equity stake in the company, which could be upto
49 per cent of equity of the Investee Company.
9. Limitations on Exit Mechanism: The VCFs , which have invested in various
ventures, have not been able to exit from their investments due to limited exit
routes and also due to unsatisfactory performance of OTCEI . The threshold
limit placed by various stock exchanges acts as deterrent for listing of
companies with smaller equity base. SEBI can consider lowering of threshold
limit for public/listing for companies backed by VCFs. Buy-back of equity
shares by the company has been permitted for unlisted companies, which
would provide exit route to investment of venture capitalists.
10. Legal Framework: Lack of requisite legal framework resulting in adequate
penalties in case of suppression of facts by the promoters-results in low returns
even from performing companies. This has bearing on equity investments
particularly in unlisted companies.
FUTURE OF VENTURE CAPITAL IN INDIA
Rapidly changing economic environment accelerated by the high technology
explosion, emerging needs of new generation of entrepreneurs in the process and
inadequacy of the existing venture capital funds/schemes are indicative of the
tremendous scope for venture capital in India and pointers to the need for the creation
of a sound and broad-based venture capital movement India.
There are many entrepreneurs in India with a good project idea but no previous
entrepreneurial track record to leverage their firms, handle customers and bankers.
Venture capital can open a new window for such entrepreneurs and help them to
launch their projects successfully.
With rapid international march of technology, demand for newer technology and
products in India has gone up tremendously. the pace of development of new and
indigenous technology in the country has been slack in view of the fact that several
process developed in laboratories are not commercialized because of unwillingness of
people to take entrepreneurial risks, i.e. risk their funds as also undergo the ordeal of
marketing the products and process. In such a situation, venture financing assumes
more significance. It can act not only act as a financial catalyst but also provide strong
impetus for entrepreneurs to develop products involving newer technologies and
commercialize them. This will give a fillip to the development of new technology and
would go a long way in broadening the industrial base, creation of jobs, provide a
thrust to exports and help in the overall enrichment of the economy.
In addition, venture capital will be needed urgently to solve the serious problems of
sickness which has plagued many Indian Industries. There are large number of sick
companies which offer opportunities for turn-around, either through a change in the
product line or use of existing facilities in a different way or in any other manner.
What is needed is the supply of equity to persons who have fertile ideas, necessary
expertise and competence and who can bring about improvements in some units.
Another type of situation commonly found in our country is where the local group and
a multi-national company may be ready to enter into a joint venture but the former
does not have sufficient funds to put up its share of the equity and the latter is
restricted to a certain percentage. For the personal reasons or because of competition,
the local group may not be keen to invite any one in its industry or any major private
investor to contribute equity and may prefer a venture capital company, as a less
intimately involved and temporary shareholder. Venture capitalists can also lend their
expertise and standing to the entrepreneurs.
A large number of smaller units serving as ancillaries to major industrial groups need
capital, expertise and contacts of venture capitalist for upgradation of their technology
in tune with the demands from the major industrial units. It is generally found that
small suppliers are faced with a choice of going out of business, losing their major
client, being acquired by the client or obtaining at an exorbitant rate from a source
outside the industry. Venture capitalist can help these units and save them from the
In service sector, which has Immense growth prospects in India, venture capitalists
can play significant role in tapping its potentiality to the full. For instance, venture
capitalists can provide capital and expertise to organizations selling antique,
remodeled jewellery, builders of resort hotels, baby and health care market, retirement
homes and small houses.
In view of the above, it will be desirable to establish a separate national venture
capital fund tow which the financial institutions and banks can contribute. In scope
and content such a national venture capital fund should cover:
(i) all the aspects of venture capital financing in all the three stages of conceptual,
developmental an exploitation phases in the process of commercialization of the
technological innovation and
(ii) as may of the risk stages-development, manufacturing, marketing, management
and growth as possible under Indian Conditions. The fund should offer a
comprehensive package of technical, commercial, managerial and financial assistance
and services to building entrepreneurs and be a position to offer innovative solutions
to the varied problems faced by them in business promotion, transfer and innovation.
To this end, the proposed national venture capital fund should have at its command
multi-disciplinary technical expertise. The major thrust of this fund should be on the
promotion of viable new business in India to take advantage of the on coming high
technology revolution and setting up of high growth industries so as to take the Indian
economy to commanding heights.
1. What are the criteria’s used by the Gandhi & associates?
Gandhi & associates looks at a venture’s commercial potential,
development impact, social benefits, environmental impact, and its
impression of the entrepreneur(s) promoting the company
2. How is the financing done?
Aavishkaar's primary financing instrument is common equity. Where appropriate,
it will consider limited debt financing, in ventures where equity investment is or
has been made.
Our company‘s financing instrument is done through convertible
preference shares, it also consider equity shares.
3. What are the activities done from the time of investment to the
time of sale?
Aavishkaar’s will work in partnership with your management in a hands-on
and active manner to ensure that the business achieves its goals. This will
occur formally through Aavishkaar's role on the Board as well as informally
through introductions to investors and strategic partnerships, technology
advice, public relations, strategic planning, and follow-on financing, among
The activities conducted by our company from the time of
investment are to look after the management of the company and
advise them regarding any deal or other affairs of the company.
4. Which is the best option for Exit?
IPO Could be the best Option for exit as both buy-back and
IPO have a lengthy procedure but IPO is more preferable.
5. According to you, what would be the future of venture capital in
The future of venture capital in India would be very bright.
There are expectations of high growth of venture capital in our
First schedule-from SURVEY REPORT
1) Are you aware about venture capital?
2) Which company of venture capital would you prefer?
3) Have you ever invested in any venture capital company?
4) According to you, venture capital is profitable or not?
5) Do you think the procedure of venture capital is?
6) Do you think after the establishment of venture capital in India,
there is growth in entrepreneurship?
Securities and exchange board of India
(Venture capital funds) regulation ,1996
Application for grant of certificate of registration as venture capital fund
Securities and exchange board of India
Mittal court, (B) wing ,first floor Nariman point, Mumbai400021
This form is meant for use by the company or trust (hereinafter referred to as the
applicant ) for application for grant of certificate of Registration as venture capital
The application should complete his form and submit it along with all supporting
documents to board at its head office at Mumbai.
This application shall be considered by board provided it is complete in all respect.
All answer must be legible.
Information which needs to be supplied in more detail may give on separate sheets
which should be attracted to the application form.
The application must be signed and all signatures must be original.
The application must be accompanied by an application fee as specified the second
Schedule to these regulation.
1. Name, address of the registered office, address for corresponding telephone
number(s), telex number(s), fax number(s), of application and the name of the contact
2. Please indicate to which of the following categories he application belongs.
· A company established under the companies act, 1956 (1 of 1956)
· A trust set up under the Indian trust act, 1882 (2 of 1882)
3. Date and place of incorporation or establishment and date of commencement if
business (enclosed certificate of incorporation, memorandum and articles of associate
or trust deed in terms of which incorporated or established).
4. a. Detail of member of the board of trustee or directors of the trustee company, as
the case may be, in case the application has been set up as a trust
b. Details of member of bard of directors of venture capital fund I case the application
has been sent up as accompany.
5. Please state whether the applicant, his partner, director or principal officer is
involved in any litigation connected with the securities market which has an adverse
bearing on business of applicant; or has at any time has been convicted for any moral
turpitude or at any time has been found guilty of any economic offence. In case the
application is trust, the above information should be provided for the member of the
board of trustee or of the above mentioned person connected with the Trustee
company .if yes, the details thereof.
6. Please also state whether there has been any instance of violation or non-adherence
to the securities laws, code of ethics/conduct, code of business rules, for which the
applicant, or its parent or holding company or affiliate may have been subject to
economic, or criminal, liability, or suspended
7. Details of asset management company, if any. (enclose copy of agreement with the
asset management company).
8. Declaration statement(to be given as below).
We hereby agree and declare that the information supplied in the application,
including the attachment sheets, is complete and true.
AND we further agree that, we shall notify the Securities and Exchange Board of
India immediately any change in the information provided in the application.
We further agree that, we shall notify the securities and Exchange board of India Act,
1992, and the securities and Exchange board of India (venture capital fund)
Regulation, 1996, and Government of India guidelines/ instruction as may be
announced by the securities and Exchange board of India from time to time.
We further agree that as a condition of registration, we shall abide by such operational
instructions/ directives as may be issued by the securities and Exchange board of
India from time to time.
For and on behalf of…………………………… (Name of the applicant)
Authorized signatory …………………………...(Name) (Signature)
Certificate of registration as venture capital fund
I. In exercise of the powers conferred by sub-section (1) of section 12 of the securities
And exchange Board of India Act, 1992, (15 of 1992 ) read with the regulation made
There under, the board hereby grants a certificate of registration to
------------------------------------------------as a venture capital fund subject to the
conditions specified in the Act and in the regulations made there under.
II. The Registration Number of the venture capital fund is IN/VC/ /
For and on behalf of
Securities and Exchange Board
It is essential that Venture Capital Funding agencies play a major role in
providing capital to industrial enterprises especially the SME’s if the Indian
economy has to grow rapidly. There is a strong case for Venture Capital
Funding for SME’s. Judging from the success in the IT, Biotechnology, Retail
and Pharma sectors the VCF agencies can explore possibilities of funding
SME’s in manufacturing and other sectors also.
The government has brought in suitable regulations through the RBI, SEBI and other
institutions to facilitate Venture Capital Funding. VCF agencies should aggressively
promote funding and nurture promising SME’s
The PSB’s and FI’s in India who were reluctant to foray into venture capital funding
have now realised its potential and are willing to partner Indian VCF agencies by
VCF agencies should not only engage in funding but also provide managerial
guidance and support to SME’ s to compete in the present global environment
and enable them to achieve turnovers and profits, which will ultimately result
in the enterprise going public in the shortest period.
Venture Capital supported enterprises can convert into quality initial public
offerings (IPOs), resulting in capital from pension funds and investors flowing
into VC funds. It will also provide protection to investors, especially small
investors. Further it will result in substantial and sustainable employment
generation by creating related ancillary units and support services.
Finally, research laboratories under CSIR, defense laboratories, universities and
technical institutes are carrying out a lot of scientific and technical research. A
suitable venture capital environment can help in identifying and converting some of
this research into commercial production in the Small and Medium Scale sectors.
Thus, it is apparent that venture capital funding should be encouraged to facilitate
development in small and medium enterprise which in turn leads to overall growth in
the Indian economy.
Reference Books & Magazines
Venture Capital, The Indian Experience by I M T Tandey
Issues Facing Indian Venture Capital Industry by H Rajurkar
The Times of India