The Rough Draft was prepared as per the requirement of LL.M. (Business Laws) course work at National Law School of India University, Bangalore.
For full information on Venture Capital Funds, the researcher may be contacted here- vipashag@nls.ac.in
Vipasha Ghangoria,
Doctoral Researcher (International Commercial Arbitration)
2. 3
TABLE OF CONTENTS
Page Number
1. Research Methodology ………………………………………………………4
2. History of Venture Capital Fund in India…………………………………….4
3. Features of Capital Funds in India……………………………………………4
4. Structuring of Venture Capital funds in India………………………………..5
I. Venture Capital Company
II. Trust Funds
III. Structuring Schemes
IV. Structuring of Off Shore Funds
V. Statutory Bodies
VI. Limitations on Structuring of Venture Capital in India
5. Status of Venture Capital Financing in India………………………………….8
I. Funds Sponsored by Financial Institution
II. Funds Sponsored by Commercial Bank
III. Funds setup by Private Sector
IV. A Scheme of Unit Trust of India or a Trust
6. Factors influencing Venture Capitalists Choice of Investment…………….....8
7. Activities of Major Capital Funds in India…………………………………..10
8. Regulation of Venture Capital Fund in India ………………………………..16
I. SEBI (Venture capital funds) Regulations 1996
II. Registration Of Venture Capital Funds
III. Conditions & Restrictions on Investment
IV. Placement Memorandum or Subscription Agreement
V. Investigation
VI. Action in Default
9. Conclusion ……………………………………………………………….…20
10. Summary of Reforms …………………………………………………….…21
3. 4
11. Problem faced by Indian Venture Capital Funds……………………………22
12. Suggestions ………………………………………………………….……..24
13. Bibliography ………………………………………………………………..24
RESEARCH METHODOLGY
SOURCES OF DATA
The researcher has referred to the primary sources of data, i.e., statutes; and from
secondary sources, i.e., books, journals and reports.
MODE OF CITATION
Bluebook citation will be followed in the research paper.
SCOPE AND LIMITATIONS
The researcher is strictly confining herself to the current position of Venture Capital
Funds in India, evaluating the scenario and regulations from 1970s followed by policy
recommendations and suggestions.
RESEARCH QUESTIONS
1. What is the current scheme of Venture Capital Funds in India?
2. How is the structuring of VC Funds in India?
3. What are the Factors influencing Venture Capitalists Choice of Investment?
4. What are the Activities of Major Capital Funds in India?
5. How is Venture Capital Fund in India regulated?
6. What is the problem faced by Indian Venture Capital Funds?
METHODOLOGY
Methodology that has been adopted to carry out the research is descriptive-analytical
to analyze the provisions of various statutes and policies. The researcher has
4. 5
undertaken a qualitative approach, which is inductive in nature. The Researcher has
prepared the research paper by undertaking statutes, rule books and journals. The
research paper is exploratory in nature. The researcher has confined herself strictly to
Doctrinal Study.
History of Venture Capital Fund in India
History of VC in India can be traced back to the early 70’s when GoI had appointed a
committee laid by Late Shri R.S. Bhatt to figure out the manners to meet a loophole in
conventional financing of the then start up companies adhering to completely new
innovative technologies. In mid 80’s, 3 all India Financial Institutions like IDBI, ICICI,
IFCI started investing into the equity of small technological companies. In 1988, GoI
finally made a decision of institutionalizing VC Industry and announced regulations and
guidelines in the parliament. They required VC to get invested in companies based on
innovative technologies, started by 1st generation entrepreneurs. This made Venture
Capital Funds Investment very risky and not attractive. Meanwhile, World Bank chose 6
Institutions to start VC Investment in India namely ICICI, GVFL, Canbank Venture
Capital Fund, APIDC, IFCI Venture Capital Funds Ltd. and Pathfinder.
In 1995, GoI finally allowed Foreign Finance Companies to make investments in India
and many foreign VC private equity firms got into India. In 1997, Information
Technology Boom made the Venture Capital Industry very important in India. Indian
Venture Capitalist’s then changed their focus to Information Technology and Telecom
Industry.
The 1999-2001 recession wound up the VC Industries. They again changed their focus to
existing firms for their growth and expansion. VC Firms also got engaged into funding
buyouts, privatization and restructuring.
Features of Venture Capital
5. 6
1. There is a high risk involved, as there are chances of failure. There are four types of
risk- Management Risk, Market Risk-product may fail in the market1, Product Risk
and Operation Risk-operations many not be cost effective resulting in increased cost
decreased gross margins. 2
2. Venture capital Investments are made in high tech areas using new technologies or
producing innovative goods by using new technology.3
3. Investments are generally in equity and quasi equity participation through direct
purchase of shares, options, and convertible debentures.
4. There is participation in management. This is a unique philosophy of “hand on
management” where VC acts as complementary to the entrepreneurs.4
5. Length of investment is from three to seven years.
6. VC Investments are illiquid i.e. not subject to payment on demand or following a
payment schedule. The return is by way of capital gains when the investment is sold
at the market place.
Structuring of Venture Capital Fund in India
The venture capital in India had been structures on some bases. These are venture
capital, trust funds, a scheme of Unit of India, Offshore entity and statutory body.
I. Venture Capital Company
In such companies, the shareholders are investors in the fund. RCTC Ltd and TDICI Ltd.
were the oldest VC Companies in India. The VC Companies have to register themselves
with SEBI and take a certificate before commencing their operations. Structuring the
venture investments through this route had some shortcomings5 :
1. A company is promoted on the concept of a going concern where as venture capital
investors like to lock in their investment for a limited period. Thus the company
1 T Satyanarayan Chary “Venture Capital Concepts and Applications”, Macmillan Publishers New
Delhi.
2 William D Jefery, A Venture Capital at the Crossroad Harvard Business School
Press Boston, Massachusetts.
3 Ashim Kumar Misra, Venture Capital Financing in India, Practice Hall Publication New Delhi.
4 Joel Evans, “Need for Venture Capital Financing for Micro Ventures”, Chartered Secretary
Volume 28, April-June.
5 Dr. K. J. Singh, “Need for Venture Capital Financing in India”, Dhanpat Rai Company Ltd. Delhi
6. 7
needs to be dissolved after a certain period and the winding up procedures for a
company are cumbersome with a lot of procedural formalities.6
2. Venture Capital Investors seek returns in the form of capital gains as such returns are
more tax efficient. When structured as a company venture capitalist can be provided
their returns by way of dividends, which attracted a dividend tax. All venture capital
funds or companies were required to pay an income tax of 20 percent on income
distributed as dividend. This has presently been exempted.7
3. As yet there are problems in redeeming the share capital of a company to provide
return to the investors. APIDC Venture Capital Ltd and IFB Venture Capital Finance
are venture capital companies promoted by state and private sector respectively and
are registered with SEBI.
II. Trust Funds
Structuring the venture instruments as Trust Funds Overcomes some of the shortcoming
encountered in a company. A trust normally has a limited life and is wound up on a
predetermined time or even earlier if the trustees so desire and there is an enabling
provision in the Trust Deed. The Units can be redeemed during the interim period of
operation of the Trust Fund. The Venture Capital Funds in India are registered under the
Indian Trust Act, 1882 and also registered as a VC Trust with SEBI. When the trustees
themselves manage the funds it is a two-layer structure consisting of investors and
trustees. Gujarat Venture Capital Fund and Canbank VC Funds are two layer trust funds.
In a three-layer structure, trustee entrusts the fund to an Asset Management Company
(AMC) for management. The responsibility of Trustee Company and AMC is delineated
to ensure that there is no overlapping.8 After providing a normal agreed rate of interest to
the investors the net capital appreciation is shared by AMC with the investors in a pre
agreed proportion, say 80-20 bases.
III. Structuring Scheme
6 Joel Evans, “Need for Venture Capital Financing for Micro Ventures”, Chartered Secretary
Volume 28, April-June.
7 Section 10(23f) of Income Tax Act, 1961.
8 L.M. Bhole, “Financial Institutions and Markets Structure, Growth and Innovations, Tata Mc
Graw-Hill Publishing Company Ltd, New Delhi.
7. 8
In India, a few initial funds were structured as schemes of Unit Trust of India (UTI)
wherein the corpus of fund is subscribed by UTI and various domestic an foreign
investors like LIC, GIC, ADB etc. A manager or an Asset Management Company
manages the fund. As all the schemes of UTI were exempt from tax under UTI Act, the
Venture Capital so floated enjoyed tax exemption. Initial funds of TDICI and RCTC
were structured as schemes of UTI and were funded by UTI and multilateral funding
agencies like International Finance Corporation, Asian development Bank etc. Vecaus I,
II and II managed by TDICI and RCTC were such funds.
In India, some funds have been set up as divisions of banks and financial institutions
instead of a separate legal entity. The prominent amongst them are Venture Capital
Activities of IDBI. IFCI had structured Risk Capital Foundation (RCF) as a venture
capital scheme, which in 1975 was converted into an investment company. SBI also set
up Venture Fund as a scheme of the bank. Herein, the profits of venture capital divisions
are taxed along with the profits of the financial institute. Earlier IDBI was exempted
from income tax and it made sense in structuring the venture capital as a division of the
company.
IV. Structuring of Offshore Funds
ANZ Grindlays Investment Limited structured and managed two off shore NRI Funds
(India Investment Fund I and II). The VC Funds promoted and structured in India are
required to comply with SEBI and CBDT Regulations. The private equity funds carrying
out venture investment and structured outside India did not fall under the purview of
SEBI and CBDT for venture capital investment in India. The offshore funds are
structured in Mauritius to avail benefit of tax avoidance treaties between Mauritius and
India. Typically, a fund is constituted as a non-resident offshore fund in Mauritius while
trustee of the fund are constituted as a resident of Mauritius. Even today when SEBI has
formulated registration and regulation for the offshore venture capital funds, a window is
still open for the private equity funds registered in Mauritius to make venture
investments in India.
V. Statutory Body
8. 9
The SEBI (Venture Capital Funds) (Amendment) Regulations, 1999 made a provision
for statutory bodies set up by Parliament and State Legislatures to set venture capital
funds after applying to SEBI for registration and obtaining the necessary certificate.
Venture Fund set up for IT Industry by SIDBI with the financial participation and
support of Central Government is the first example of this kind.
VI. Limitations on Structuring of Venture Capital in India
SEBI rules permit venture capital to be structured as a company or a trust fund with a
three tier mechanism; investor, trustee company and AMC. A tax efficient vehicle in the
form of ‘LLP Act’ is not made available for structuring venture capital in India, unlike
USA. In a LLP, while investor’s liability towards the fund is limited to the extent of his
contribution in the fund the formalities for structuring the funds are simpler. Hence an
efficient structure for venture capital should have following four characteristics of
venture investment – Different classes of investors, limited liability of the investors,
flexibility in operations, transparent and efficient taxation.
STATUS OF VENTURE CAPITAL FINANCING IN INDIA
The concept of Venture Capital and Private Equity in India is very recent as compared to
US, UK, Europe, Israel etc. where it has been in existence since many decades. One of
the major reasons for a matured and developed Venture Capital and Private Equity
Industry in other countries has been a sound legal and regulatory framework. In India,
major developments in Venture Capital and Private Equity Industry have taken place in
last 1.5 decade. Before 1980s, the idea that VC might be established in India would have
seems Utopian. Various new organization structures such a Limited Liabilities
partnership are quite prevalent in the U.S.A but such structures are not permitted in
India. The Indian venture capital organizations have structured mainly on the following:
1. Funds Sponsored by Financial Institution
2. Funds Sponsored by Commercial Bank
3. Funds setup by Private Sector
4. A Scheme of Unit Trust of India or a Trust
Factors influencing Venture Capitalists Choice of Investment
9. 10
The Venture Capitalists usually takes account the following factors while deciding on
the investment.
Track Record of the promoters and the management team is the single most important
factor. There are three most important considerations in selecting venture capital
investment are “Management”, “Management” and “Management”. Venture
Capitalist looks for a track record in terms of the success of the promoters in their
previous vacations, whatever these might have been. They put their bets on successful
people and avoid those who have tasted failure earlier. The two key points a venture
capital sees are whether the entrepreneur has a vision and whether the management
team is cohesive. Here he looks for various questions like:
How do entrepreneurs work together?
How compatible is the venture capital fund with the team?
How complete is the management enterprise in the area of business?
How is the chemistry between various members of the team?
Funds sponsored by Financial Institutions
In this case, venture capital funds are promoted by all India Financial Institutions as
their venture capital divisions. The amount to these venture capital funds are
contributed by the financial institutions. They don’t have their separate balance
sheets. Some of such funds are:
UTI Venture Capital Fund
RCTC set up by IFCI
TDICI set up by IFCI
Technology VC division set up by IDBI
Funds sponsored by the Commercial Banks
Some of the Commercial Banks such as Canara Bank have also set up separate
Venture Capital Fund namely CanBank Financial Service Limited. In most of the
cases, banks have not been directly involved in setting up venture capital funds rather
they have contributed to different venture capital funds.
Funds set up by Private Sector Organization
10. 11
The first venture fund in the private sector was credit capital venture (India) Ltd. The
shareholders have limited liability, some of the other venture funds in the private
sector are:
Infrastructure Leasing and Financial Services Venture Corporation Ltd.
Indian Venture Capital Fund
Twentieth Century Venture Capital Corporation Ltd.
As a Scheme of Unit Trust of India or Unit Trust
In this type of organization , a trust is formed under the Indian Trust Act. The capital
is contributed by high net worth individual or corporate bodies. The Corpus of the
fund is contributed by UTI, various domestic and International Organization,
Multilateral Development Agencies etc.
The structure of venture capital in India can be identified in following forms:
Venture Capital Company
A Statutory Body
Off Shore Entity
Trust Funds
Overseas Venture Capital Funds
There are so many venture capital funds in India which are set-up in abroad but
operating in India. For example, India Investment Funds of ANZ Grindlays Bank Plc,
the first overseas ventures capital in India. There are other foreign funds that
established themselves in India are :
Indocean Chase Capital
Bareing Private Equity
H.S.B.C Private Equity
Draper International
ACTIVITIES OF MAJOR CAPITAL FUND IN INDIA
IDBI Venture Capital
11. 12
IDBI venture capital assistance scheme was started in 1987 when it began
providing direct assistance to new and existing units under this scheme. Government
of India introduced a cess of 5 percent on all payments made for input of technology.
Technology Development Board Act, 1995 was enacted and the asset under acquired
by IDBI out of the money received under this scheme was transferred to
Technology Development Board. After the abolition of the cess, IDBI is making
contribution to its venture fund from its own profits9. In the initial years, IDBI
received an aggregate resource support of Rs.27.8 core out of this Cess
collected by Government of India for venture capital financing. With the enactment
of Technology Development Board Act 1995 assets under IDBI's Venture Capital
Fund financed out of this cess were transferred to the Technology Development Board
constituted under the said Act, with the with effect from April 1, 1998. The
remaining assets worth Rs.57.5 crore constituted IDBI's venture capital fund. After
the abolition of the cess IDBI is apportioning money from its profits to this fund.
For the years 1998-99 to 1999-2000 IDBI has contributed Rs. 30 crore per annum to
its venture capital fund. The Fund had a corpus of Rs. l29 crore. 10 The sche me
presently aims at encouraging ventures concerning development of innovative products
and services, holding substantial potential for growth and returns to encourage
bankable ventures involving higher risk including those in the Information Technology
(IT) sector.
Eligibility: All industrial concerns under Section 2 (c) of IDBI Act, 1964 are eligible.
IDBl considered the following aspects for providing the assistance under its venture
capital scheme.
Venture should norm ally have innovative content.
Ventures, which may not be the first in the technology but would be one of the
first few offering potential for substantial return.
Ventures, while dealing with potential services in emerging sectors should
have a sustainable competitive advantage.
Potential for long-term capital gain still remains the overriding criteria.
9 Venture Capital Financing in India
10 IDBI Annual Report 2010-11 and 2011-12.
12. 13
The criteria, has undergone a sea change. During early nineties the eligibility criteria
emphasized on setting up of pilot plant or even demonstration plant based either on in
house R & D or developed in any of the national laboratories, modifying imported
technology to suit Indian conditions. Even cost studies, surveys, seed marketing etc
incidental to Technological adaptions were eligible. The emphasis was only on
technology and there was no mention about the potential for long term capital gain.
Assistance was available to all existing as well new units eligible under the IDBI Act.
IDBI provides venture financing in the form of-
Equity including preference shares
Convertible debts and
Term loans.
The bulk of the financing is by way of unsecured loans. Most of the debt
financing is in the form of conditional and conventional loan.
Assistance under IDBI Venture Capital (History)-
During 1999-2000 IDBI transferred Rs.30 crore to the Venture Capital Fund raising
the corpus to Rs. 128.99 core and sanctioned an assistance of Rs.57.8 core to 11
ventures as against Rs. 53.4 crore last year. Eight of the eleven projects financed were
in the field of computer software, hardware, electronics and Agro products where
Rs.54.5 crore was committed. Total venture fund investment was Rs. 31 crore, a
growth of 30.2% over last year(Rs 23.8 crore). During the calendar year 1998 IDBI
made 6 new investments worth Rs.33 crore and 4 follow on investments worth Rs.
1.67 crore. Industrial products account for a large share of the investment and the
same is followed by computer related ventures.11
IDBI setup new venture capital fund
This new arm of IDBI is a 100 per cent subsidiary of the parent institution. The new
subsidiary would concentrate only in investments in the IT sector. This would go up
gradually as the new arm on becoming operational. The new subsidiary is expected to
11 As on end December.
13. 14
be in place in three months time. IDBI would first set up a trustee company which
would put in place an Asset Management Company (AMC). The AMC would, in turn,
go ahead with the setting up of the new venture capital fund. The financial institution
has already made foray in venture capital funding. However, at present, the venture
capital funding by the institution is done out of the balance sheet of the parent
institution. Elaborating on the present venture capital funding, IDBI sources stated that
in the last year the institution had done venture capital funding to the tune of Rs. 178
crore. However, this is not substantial given the fact that there is potential for much
more.
Elaborating on the success of ICICI’s VC Funding, officials in ICICI Venture capital
said that till date the company has done 12 findings abroad which includes funding in
Niko, Neo Pharma, Bridge Solutions etc. The ICICI Venture Capital is a 100 per cent
subsidiary of ICICI's Asset Management Company. Elaborating on the revenue
model, ICICI Venture Capital officials said that the revenue model is basically two fold.
It is profit based and fee based and varies from case to case basis. According to
analysts, the recent move by IDBI would also help the institution in getting the new
expertise to developed venture capital funding. Till date, since IDBI is funding venture
capital from its own balance sheet, they have not been able to reconcile with a situation
where the institution can fund something, which is not tangible. "The Fls are used to
term loans and funding bricks and mortars. Venture Capital funding is not just about
investments, it is also about helping the entrepreneurs in developing their business. For
this you need professionals who understand this business", FI source s added. While
IDBI and ICICI has made some headway in venture capital funding, another financial
institution IFCI is yet to make any progress in this front. While IFCI has a arm in the
form of IFCI Venture Capital Fund, till date the arm is yet to make any fruitful
investment in venture capital funding, sources added 12 . IDBI being an all Indian
Financial Institution its Venture Capital scheme is operated all over India. In January
2000, the Venture Capital Fund Scheme has been liberalized and made more flexible so
as to promote and provide financial support to opportunities in the emerging sector of
information technology, media and entertainment, bio-technology, food processing,
which are considered risky for normal bank finance.
12 IDBI to set up New venture Capital Arm, Shantanu Ghosh,
http://www.indianexpress.com/ie/daily/208970009/ibu06040.html
14. 15
ICICI Venture funds Management Company limited (ICICI Venture)
ICICI was a pioneer to introduce venture capital in India. ICICI Venture Funds
Management Company Limited is India’s largest venture capital firm. Presently ICICI
venture is the largest venture capital player in the country. It is managing 20% of the
funds raised in India and has invested in 35% of venture financing deals conducted to
date. It is a wholly owned subsidiary of ICICI Limited and has an affiliation with
Trust Company of West (TCW). ICICI Venture Funds is concurrently managing or is
associated with more than 80 funds aggregating Rs. 2500 crore13. ICICI being an all
India Financial Institution TDICI/ ICICI venture also promoted venture financing in
all parts of the country. Leverage India Fund which is jointly sponsored by IL&FS
and Punjab National Bank along with ICICI Venture Capital are among other
financial investors in mid-sized drug maker Arch Pharma labs who made a part exit in
the company's public issue.
Small industries development Bank of India venture capital scheme
SIDBI has constituted a Venture Capital Fund to fill the gaps in its existing schemes
of assistance to small enterprises. The fund with an initial corpus of Rs.10 core started
operations in 1993. The Fund was setup as an assistance avenue for entrepreneurs
having innovative venture, which generally do not qualify for conventional term
finance. The funds invests only in enterprises setup as private or public limited
companies. Even the existing companies are eligible for venture capital assistance.
The assistance is provided in the form of equity, conditional loan or normal term loan
or suitable mix of the same. SIDBI seeks to play a lead investor's role in the ventures
supported by it and maintains an effective involvement with the management of the
investee company. SIDBI through its close functional Linkages with wide network of
state level financial institutions, commercial banks, consultancy agencies
management institutes and important government agencies benefits the investee
companies. SIDB1 has been given a "Plaque of Merit" under the SME Development
Category by the Association of Development Financing Institutions in Asia and the
Pacific (ADFIAP) at its 31st Annual Meeting held on April 29, 2008 at Tehran14, Iran.
Founded in 1976, ADFIAP has currently 102 member-institutions in 52 countries.
13 ICICI Venture Funds Management Company Ltd, “11th AnnualReport and Accounts 2008-09”.
14 Small Industries Development Bank of India (SIDBI), “Venture Capital Scheme”.
15. 16
ADFIAP's Development Awards, which are given annually to recognize the
outstanding project achievement of its member banks, have become a hallmark of
development performance and excellence in the regions.15
National Venture Fund For Software and IT Industry (NFSIT) has been set up by
SIDBI and managed by SIDBI Venture Capital to meet fund requirement of software
and IT Companies with focus on SMEs.
IFCI Venture Capital Funds Limited
IFCI Venture Capital Funds Ltd. (IFCI Venture) was originally set up by IFCI as a
Society by the name of Risk Capital Foundation (RCF) in 1975 to provide
institutional support to first generation professionals and technocrats setting up their
own ventures in the medium scale sector through soft loans, under the Risk Capital
Scheme. In 1988, RCF was convened into a company, Risk Capital and Technology
Finance Corporation Ltd. (RCTC), when it also introduced the Technology Finance
and Development Scheme for financing development and commercialization of
indigenous technology IFCI Venture Capital Funds Limited (IFCI Venture) has
launched three new funds in emerging sectors of the economy namely:
i) India Automotive Component Manufacturers Private Equity Fund -1-
Domestic (IACM-1-D)
ii) ii) India Enterprise Development Fund (IEDF), a Venture Capital fund set
up to invest in knowledge based projects in key sectors of India economy
with outstanding growth prospects.
iii) iii) Green India Venture Fund (GIVF), with the objective to invest in
commercially viable Clean Development Mechanism (CDM).
RCTC Venture Capital Fund Scheme (VECAUSE-III)
A regular venture capital fund was floated by RCTC in February 1990 to supplement
the funds for its technology finance operations. RCTC acted as a manager of Re. 30
crore UTI fund VECAUS-III contributed by IFCI and UTI and assisted by World Bank.
15 http://www.sidbiventure.co.in/svc-05r.htm
16. 17
IFCI Ventures focus is to promote venture based on new technology, innovative
products processes and services with potential for high growth rate, high returns.
Pharmaceuticals, electronics and telecommunication related.16
CANBANK Venture Capital Fund Ltd
Canara bank was the first nationalized bank in India to start a venture capital fund.
Canara Bank set up Canbank Venture Capital Fund (CVFC)in 1989. CVCF's
assistance was primarily by way of equity participation.
GUJRAT Venture Capital Finance Limited
Gujarat Venture Capital Finance Ltd, was established on 14"' July 1990 by Gujarat
Industrial and Investment Corporation (GHC) Ltd in association with World Bank as a
pioneer venture capital firm in India. The World Bank, GHC, IDBI, CDC (UK), SIDBI
and other private as well as well as public sector organizations are Investors in
GVLF funds.
REGULATION OF VENTURE CAPITAL FUND IN INDIA
SEBI (Venture capital funds) Regulations 1996
The regulations of venture capital fund by the SEBI are set of wide laws which should
be followed by the Indian venture capital funds. The regulations have been partitioned
in VI Chapter.17
Registration Of Venture Capital Funds
A VCF can either be a fund made under the Indian trust act as a Trust or under
Companies Act 2013 as a company. A company or trust (which worked as a VCF
before the commencement of the regulations) shall stop to work as a VCF if it does
not apply to SEBI within 3 months from the commencement of the regulations, for
registration. Such an application should be made in Form A to SEBI, with a fee of Rs.
25,000. The fee should be paid by a draft.
16http://www.ifciltd.com/subsidiariesassociates/IFCIVentureCapitalFundsLtd/tabid/93/default.aspx
17 SEBI Venture Capital Fund Regulations, 1996
17. 18
i) There should be fulfillment of stipulations before granting the certificate
of registration by SEBI-
a) In case of a company, VCF should be the main object in the MOA of the
company and the MOA and AOA should expressly bar invitation to public.
Any officer of the company should not be embroiled in any litigation in
relation to the security market or convicted of an economic offence.
b) In case of a trust, the trust should be in the configuration of a deed and to be
registered under the Indian Registration Act, 1908.
c) In case of carrying the business of venture; capital fund should be the primary
object. Any trustee should not be embroiled in any litigation in relation to the
security market or convicted of an economic offence.
d) In case of a body corporate, the body corporate should be constituted under
the Central or State Laws & it is to be permitted to venture in the field of
VCF.
iii) If SEBI finds out something in the application that makes it incomplete, SEBI
would give 30 days to remove such a loophole, which on failing would get the
application rejected by the board.
iv) If SEBI finds the applicant eligible, SEBI would inform the applicant, and after
applicant receives the information, he/she should give SEBI the prescribed fee Rs. 5 lacs,
after which SEBI will issue the Certificate of Registration.18
Conditions and Limitations on Investments
There are many restrictions on the amount of investment to be made by the VCF in
India. Such an investment can be made by anyone irrespective of being whether an
Indian, Foreigner or Non Resident of India, but investment in the VCF should not be less
than Rs. 5 lacs. This stipulations is not applicable to investment by the employees,
directors or the principal officers of the company or the trustee where the VCF is a trust.
The strategy of the investment should be subject to revelation by the VCF at the time of
18 SEBI “Guidelines For Venture Capital”.
18. 19
registration. The VCF should also reveal its life cycles’ duration. In a single venture
capital undertaking, only 25% of the total fund can be invested. The following manner
should be followed in regard to the Investment-
i) At the minimum, 66.67% of the total fund has to be invested in unlisted equity
shares or any other instruments connected with the equity shares of the venture capital
undertaking.
ii) At the Maximum, 33.33% of the fund to be invested, should be invested by the
way of Initial Public Offering of a VC undertaking shares of which are proposed to be
listed, the debt instrument of the VC undertaking in which the venture capital fund has
already invested, preferential allotment of equity shares of a listed company, equity
shares or equity linked instrument of a financially weak company and Special Purpose
Vehicle's which have been created by the venture capital fund.
Only after the expiry of 3 years from the date when they were issued to the investors by
the venture capital fund, a VCF may get its units listed on any recognized stock
exchange. There should be no invitation by the VCF to any member of the public by way
of advertisement for the subscriptions to its units. Investments could be received by the
VCF through private placements of its units.
Placement Memorandum or Subscription Agreement
There should be issuance of a placement memorandum by every VCF, containing terms
and conditions related to the scheme through which money is proposed to be raised from
investors. The VCF might also enter into a subscription agreement with the investors
who would dictate conditions of the scheme through which money is proposed to be
raised. A copy of such placement memorandum or subscription agreement shall be
submitted by the VCF to SEBI along with the report of the money that has been raised
via such an agreement or memorandum.
Details of the trustee, trust, directors and the principal officers of the VCF should be
there. The least amount of money to be raised to start the VCF and the minimum share to
be invested in every scheme of the VCF should also be mentioned along with the Tax
implications applicable to the investors.
19. 20
It should also contain the way of subscription to the units of the fund, the period of
maturity of the fund (if any) & the way in which the fund would be wrapped up. Every
VCF should be maintaining a book of record for a time of 8 years generating the clear
picture of the VCF. At any moment, SEBI may call for information related to the
working of the VCF, the information shall be submitted to SEBI in the prescribed time
limit.19
Investigation
On receipt of a complaint by SEBI from the investors or it may suo motto appoint one or
more that one person as investigating officer/s, who would investigate maintenance of
the A/c books of the VCF, compliance of the regulations and the day to day affairs of the
VCF.20 Before the investigation is carried out, a 10 days notice period should be given,
also if SEBI thinks it fit in the interest of the investors, SEBI also might not give any
notice.
It is the duty of every officer of the VCF to assist with the investigation officers, the
investigating officers should be given all the documents, books etc which are in the
physical custody of the officers of the VCF.21 Such an officer should be given any
statement that has been demanded for by him. The officer has to submit his report to
SEBI, after completing the investigation. 22 After taking into consideration the
investigation by the Board and after having given the VCF an opportunity to get heard,
the Board may issue directions to the VCF to not launch any schemes which are new or
prohibiting the person concerned from disposal of the property of the VCF or may also
direct to to refund any investor any amount of money/asset.
Action, In Case of Default23
Any VCF that has failed to act in accordance with the regulations or has failed to provide
reports of the affairs of the VCF to SEBI or furnishes any sort of report that is untrue,
does not assist in any enquiry carried out by SEBI or has failed to act on the complaints
19 SEBI “Guidelines for Venture Capital”.
20 Securities and Exchange Board of India: “Venture Capital Funds(Amendment) Regulations
21 SEBI (Substantial Acquisitions of Shares & Takeover) Regulations, 1997.
22 SEBI (Discloser & InvestorProtection) Guidelines, 2000.
23 SEBI (Foreign Venture Capital Investor) Regulations, 2000.
20. 21
which have been made by the investors or has not given reply satisfactorily in such a
case to SEBI, shall be dealt according to SEBI (Procedures for Holding Enquiry by
Enquiry Officers and Imposing Penalty) Regulations, 2002.24
The VCF are operated within the walls of the following regulations-
SEBI (Venture Capital Fund) Regulations, 1996
SEBI (Foreign Venture Capital Investor) Regulations, 2000
SEBI (Disclosure & Investor Protection) Guidelines, 2000
Securities Contracts (Regulation) Act, 1956
Foreign Exchange Management (Transfer or Issue of Security by a Person
Resident Outside India) Regulations, 2000
Securities & Exchange Board of India (Foreign Venture Capital Investor)
(Amendment) Regulations 2004.
Securities & Exchange Board of India (Venture Capital Funds) (Amendment)
Regulations 2006.25
SEBI (Substantial Acquisition of Shares and Takeover) Regulations, 1997
Indian Income Tax Act, l961("ITA")
CONCLUSION
Indian Private Equity continues to grow and evolve, but the path has not always been
upwards to the right. Many have seen a number of global firms shutter their Indian
officeS and few have successfully raised new money. Ironically Indians investment
themes have never been stronger. Entrepreneurship is in many ways the cornerstone of
the nation's economy.
VC has become a huge mechanism for supporting innovative ideas and growth
of entrepreneurs. In India, this has been boosted by the current growth in IT. There is a
requirement to increase availability of VC in countries, which are developing as most of
these risks averse, but social awareness in regard to the role of VC is limited. In the
capital market, there is a lot of distortion, because of excessive regulations and multiple
24 http://www.legalserviceindia.com/articles/ven_cap.htm
25 Securities and Exchange Board of India, IES Dept (Venture Capital Cell) “Press Release No.
169/99”.
21. 22
controls, this hinders the growth of VC. The SIDBI in past encouraged the growth of the
VC Industry for hi-tech SME units in India by promoting 13 State/regional level funds
and setting up an all India Venture Fund.
The guidelines which were issued by RBI in 1988 on 'Venture Capital'
recognized it’s role in the conditions and circumstance of India. A lot of VC Institutions
have come out in due course the Technology Development and Investment corporation
of India (which has been set up by the ICICI). The Indian VC industry is in a very
nascent stage. DFIs (Development Financial Institutions) provided for Finance in the
early years for the industry by the manner of easy loans provided at low interest rates
with importance being given on industrial products and technologies, which are
indigenous. Success in software and information technology in India and Non Resident
Indian entrepreneurs have accumulated much public attention and interest in VC
Industry.
A vibrant VC and private equity industry in India will eventually fill the loopholes
between the capitals intensive, technology based enterprises & funding by the
institutional lender, for example banks. The reasons of existence of gaps are solely
because companies in knowledge based sectors have their basis on assets, which are
intangible e.g. human capital, and technology, which haven’t been developed into a
marketable commodity.
Summary of reforms
There have been a lot of reforms, which have led lo the present state of boom in the
private equity scenario in India. Some of the major reforms impacting this industry can
be summarized as under:
In 1996, SEBI framed SEBI (Venture Capital Funds) Regulations, 1996.26
In 1999, the Companies Act (Amend) Act 1999, dished out with the prior
approval of Central Government in cases investment by a company exceeded
60% (paid up share capital + free reserves) or 100% free reverses whatever is
26 Aggarwal Vipin, “SEBI Venture Capital Guidelines: An Appraisal” Chartered Secretary, March
2008.
22. 23
more, and to enable the company for making investment by way of General
Meeting’s Special Resolution.
A lot of initiatives were taken in the industrial policy. Under the National Textile
Policy 2000 27 , the garment sphere was de-reserved from the ambit of SSI
reservation & there was a proposition of VCF with an intention to facilitate
entrepreneurship based on knowledge in the industry.
In Companies (Amendment) Act 2001, reduced the period of issue of shares from
24 months, from when the company completes the buyback of its shares.
In 2001, every company limited by shares was allowed to issue shares with
differential right.
In 2003, Qualified Institutional Buyer (QIB) status was being granted to Venture
Capital Funds in accordance with the SEBI (DIP) Guidelines, thereby enabling
them for subscription of securities at IPO of a VC Undertaking through book-
building process.
In 2004, Venture Capital Funds were permitted to invest in Non Banking
Financial Corporations which were registered with Reserve Bank of India and
engaged in equipment leasing or hire purchase. They were also permitted to
invest in companies dealing in gold financing for jewellery. FCVI were allowed
to invest 100% in 1 Venture Capital Undertaking, as compared to the earlier
percentage.
In 2005, an exemption was been granted from approval of prior Government
under press note 18 of 1998.
In 2005, Portfolio Investment were allowed in Indian Companies.
In 2007 RBI has permitted VCFs to invest in equity and equity linked
instruments only of offshore Venture Capital undertakings, subject to overall
limit of USD 500 million and applicable SEBI regulations.
In 2008 SEBI issued guidelines for overseas investments by venture capital
funds.
In 24 April 2009, to ensure flow of finance for VC, the overall ceiling of
investment by banks was increased to the level of bank's investment in VCF
registered with SEBI; basically in ordinary shares, convertible debentures of
27 http://texmin.nic.in/policy_2000.html
23. 24
corporate and units of mutual funds etc. of their 5% of their incremental
deposits of the previous year.
Problem faced by Indian Venture Capital
1. There are a lot of restrictions in the legal framework as well as the financial
framework due to which there is a lack development of VC Industry in India.
2. Investments in India Start-up are being made essentially by overseas funds.
Why? First, raising money in India for VC funds is not easy: a combination of
cumbersome and murky laws coupled with lack of investors who understand
the VC business ensures this.
3. For venture capital funds, which deal in high-risk investments, structuring
flexibility is very important to meet their business strategies. In India, such
structures like Limited Liability Partnership (LLP) and Limited Liability
Company (LLC) are not recognized under the Indian Partnership Act and the
Companies Act, which are commonly used and widely accepted structure
internationally.
4. Indian institution do not understand start-ups they were created for the
traditional SME (small and medium enterprises) sector are managed by
bureaucrats and bankers, and do not understand the technology VC business.
5. Technically, there is no private pool of capital of finance risk venture in India.
The financial institutions occupy a dominant position in providing long term
finance to Indian Industry. State development agencies do provide limited
amounts of equity finance to assist in the development of new business but
there are no private, professionally managed capital sources.
6. There are no private sector insurance companies or pension funds which
gather concurrent premium income and there are no private banks who are
willing to give a small part of their resources to the VC Projects.
7. Under the ongoing Venture Capital Fund Regulations and FVCI Regulations,
VCFs/FVCIs are not allowed to invest in real estate and non banking financial
services. The restriction on non- banking services companies is creating
problems where the investments are made through a separate holding
24. 25
company since there is no definition of non-banking financial services
anywhere in the regulations.
8. VC have not been given tax incentives in accordance with the kind of risk they
go through. This has also been responsible for the growth of venture capital
industry.
SUGGESTIONS
1. Establishment of private VCF should be made easier. They should be allowed
to form VCF independently rather than as joint venture with financial
institutions.
2. The government of India should allow pensions fund and insurance companies
to invest in VC as in United States of America where corporate contributions
to venture funds are enormous.
3. There should be strong legal framework for the venture capital firm in India. In
the current regime, many regulations makes it complex.
4. Commercial banks should be allowed to categorize investment in VFC as
"Priority Sector Lending”. As venture capital is basically used to finance small
scale industries therefore lending to these units shall be categorized as priority
sector advances.
BIBLIOGRAPHY
Books
1. Ashim Kumar Mishra Venture Capital Financing in India, Prentice Hall
Publication New Delhi.
2. T Satyanarayan Chary, “Venture Capital: Concepts & Applications”,
Macmillan Publication New Delhi.
25. 26
3. Smith Robert H (1992), “Venture Capital”, The New Palgrave Directory of
Money & Finance.
4. Young George, “Venture Capital in Hi-tech Companies”, Frances Printer
(Publisher) London.
Articles
1. Kane W Edward “Understanding of Venture Capital Market”, The Institution
of Chartered Financial Analysts.
2. Fred Tannenbun and Sumesh Dewan, “Venture Capital Transaction in the
United States and India”.
3. Bhisht Mahim “Venture Capital : Concepts, Project Evaluation and the Indian
Scenario” Productivity Vol. 40 No. 1, October-November, 1999.
