Venture Capital

The finance ministry is expected to take up the matter with the Reserve Bank of India (RBI) and seek suitable policy changes to lift restrictions placed on such investments by the Foreign Exchange Management Act (Fema).

"The changes are deemed necessary, since the stock market regulator (Sebi) allows domestic venture capital (VC) funds to raise money from both foreign and domestic investors by issuing units," said a senior finance ministry official.

 NRIs are allowed to invest in shares and bonds of public sector companies, mutual funds, and government securities. Units of venture capital funds do not come under the definition of securities.

The move will benefit the domestic venture capital industry, which raise capital through issue of units to investors on a private placement basis.

Source: Economic Times By Dheeraj Tiwari Domestic VC fund doors may be opened to NRIs

The Reserve Bank of India (RBI) is likely to come up with capital adequacy norms for bank-sponsored venture capital (VC) firms to prevent reputational risk to their promoters. In addition, RBI wants banks to rebrand their VC funds in a manner that they appear as subsidiaries and not a part of the bank.

In its annual report, the central bank had said that it would lay down a risk management and capital adequacy framework for bank-sponsored private pools of capital.

“RBI is working on capital adequacy norms for VCs floated by banks. The central bank wants to emphasise on branding in way that the funds look like subsidiaries. At present, investors have a feeling that they are investing in the bank and not in the fund,” said Amitabh Chaturvedi, chief executive officer, Dhanalakshmi Bank. He said the move had taken some time but expected the regulator’s approval by November. After this, the bank will apply to the Securities Exchange Board of India. It plans to float the fund by the first quarter of the next financial year.

Recently, private sector lender Dhanalakshmi Bank and public sector Indian Overseas Bank applied to RBI for launching a VC fund. Public sector lender IDBI Bank’s application has been pending for some time. It plans to raise Rs 1,500 crore for its PE fund.

Source: Business-standard RBI to tighten norms for bank VCs

AMID a muted recovery, low-risk appetite and sporadic deals, a motley crowd of venture capitalists and private equity investors met over dinner at a South Mumbai hotel on Tuesday evening to discuss two things : Their identity and future. After being around for decades and having put in over $40 billion, they are struggling to cobble together a definition for themselves while trying to figure out what life holds for them if the new tax code becomes a reality two years down the line.

For the first time Indian authorities are looking for a formal definition of a venture capital (VC) fund—a description that can be incorporated in the proposed FDI Act that promises to do away with multiple agencies and a plethora of press notes. But interestingly, the VC community is yet to craft a definition that’s acceptable to the government. “We have defined a VC as a patient capital with a long-term horizon of 7-10 years and a provider of growth capital...but the authorities have not agreed to this,” says Mahendra Swarup, president of Indian Venture Capital Association (IVCA), which represents close to 80% of the industry in value terms.

The government, perhaps, is fishing for a more realistic description since regulations allow quick exit for VCs. Under Sebi rules, a VC which stepped in as an investor a year before a company goes for an IPO, can sell the stock soon after the company is listed.

However, finding an appropriate definition is a lesser worry for VCs. They are more anxious to make their point to the finance ministry on the draft tax code. The association has hired the audit and consultancy firm PricewaterhouseCoopers (PwC) to make representations to the government with regard to the code proposals. “PwC will look into all the issues...I strongly feel that the government will not do something that will impact investment into India,” said Mr Swarup.

Source: Economic Times Identity crisis for venture capitalists

The decision, reflected in some of the communications between the Reserve Bank India and custodian banks of VC funds, could not only make life easier for foreign funds and widen the scope for their risk capital, but also boost foreign direct investment (FDI) in the country.

In the past one year, FVCFs, which were allowed to come in, were specifically told to stick to activities such as infrastructure, bio-technology, nano-technology, biofuel, IT-related activities for hardware and software development and a few other areas outlined by the government in the list of 10 sectors identified for tax benefits to VCs.

Recently, RBI, while giving the green light to some of the FVCFs, has said "if the FVC investor intends to make any private equity investments, then it may have to avail the FDI route". This means that barring a few sensitive sectors, an FVCF registered in India is free to invest in almost any business in the country.

Source: Economic Times
India widens foreign VC funds' investment options

Venture capitalists and seed fund providers receive around 500-1,200 business plans every year. The trend continued even among the student fraternity. Venture firms such as Morpheus Venture Partners (MVP) and Centre for Innovation, Incubation and Entrepreneurship (CIIE) that work closely with students and incubator centres have seen a spurt in activity.

Nandini Hirraniah, founding partner at MVP, said, "The slowdown might have acted as a catalyst at some point. From September 2008 to January-February 2009, we received 150 business plans at the rate of two plans per day."

CIIE's experience has been similar. Between June 2008 and June 2009, it received more than 800 plans. In the year before that they received 300-400 plans.

Source: Business-standard Start-ups help VCs beat slowdown

A pass-through in taxation means that the business entity need not pay tax. Instead, all taxable income is passed through to its owners or members.

According to the provisions of the Income Tax Act, VC funds that invest in nine designated sectors -- biotechnology, nanotechnology, IT hardware and software, research and development for new chemical entities, seed research, dairy, poultry, bio-fuels and large hotel-cum-convention centers -- do not pay any tax on the gains realised on such investments. But the investors or limited partners (LPs) in these funds pay the tax.

"It will create a level-playing field for investors. For instance, people who are investing from Malaysia will get the benefit of tax pass-through. At present, we have a trust structure where investors cannot exit from a fund in the middle. The direct tax code has opened various sources of funding and now we can even raise funds from high net-worth individuals," said Axis Private Equity CEO Alok Gupta.

Foreign VC funds registered with the Securities and Exchange Board of India (Sebi) are exempted from paying any tax in India as most of them are also registered in Mauritius.

New direct tax code to make fund-raising easier for VCs

Investors in equity funds can sell their stake to another fund and exit at any time--there is no compulsion to stay invested for a certain number of years,
but investments in specialized infrastructure debt funds will have a minimum lock-in period of five years. They will be close-ended funds.

Long-term resources funds, generated through this route, will be critical for infrastructure development as the government has estimated an investment of about $500 billion over the next five years, with one-third of the funding coming from the private sector.

Source: Live Mint Debt funds from VCs for infrastructure financing soon

There are certain advantages to investing into India through VC funds. VC funds get tax
pass-through for investments in nine specified sectors -- that is, the income accruing to them is not taxed before being passed on to those who have provided the corpus of the VCs. There is no lock-in period, unlike in the case of foreign investment coming directly into real estate, for example.

Further, VCs are exempt from making open offers to buy shares from the public after acquiring shares in excess of 15% of a company's total equity. To take advantage of these concessional features and avoid the discipline of normal investment routes, some investors have been camouflaging their investment into India as VC investment.

All that such investors have to do is to register a trust in India and register the trust as a VC fund with markets regulator Sebi. Ministry officials feel that the VC route is being used to acquire companies for asset stripping, to avoid the stringent norms for foreign investment in a sector like real estate.

The legitimate objective of venture funds and private equity is to achieve substantial long-term capital appreciation, primarily through privately-negotiated equity and equity-linked investments. (Private equity funds are also registered as VC funds).

Source: Economic Times Foreign Direct Investment (FDI) Into Trusts Under Venture Capital (VC) Garb May Be Chained By Lock-In

In what has surprised the venture capital (VC) firms, the approval letters issued by RBI to FVCIs provide for a new clause that significantly curtails the investment horizons for such entities to a narrow band of 10 investible sectors. These include infrastructure, biotechnology, information technology, nanotechnology, research in new chemical entities in the pharmaceuticals sector, dairy and poultry industry, among others.

The sectors prescribed are similar to those provided under section 10 (23FB) of the Income Tax Act, 1961, for availing tax pass-through treatment for domestic VC funds.

The intention behind introducing the FVCI regime was to provide such investors a favourable investment environment in India, in comparison with foreign direct investment (FDI), as envisaged by the KB Chandrasekhar Committee Report of January 2000. The report emphasized the importance of sectoral flexibility for FVCIs and noted sectoral restrictions for investment by VC funds are not consistent with the start-up ventures that are built on innovation and technology and can emerge in any business.

As private equity (PE) firms find it difficult to raise capital in difficult economic times, they are offering limited partners (LPs) more incentives to put in their money.

Making the most of the situation, LPs are now demanding a greater say in the use of and returns on the money they commit to PE firms.

LPs are entities that include public and corporate pension funds, insurance companies, high net-worth individuals, and university and other endowments that are the source of money for PE firms, which then establish funds to invest.
PE fund investors Mint spoke with said LPs have collectively turned cautious, are demanding more rights, and subjecting those raising funds to intense scrutiny.

"LPs are now negotiating terms on the fee and share of profits that the fund can take home," said Sandeep Aneja, chief operating officer and managing director of Milestone Capital Advisors Pvt Ltd, a Mumbai-based real estate fund that is raising a $400 million fund from overseas, and has commitments of $220 million.

"The two and 20 structure is being actively questioned," said Akil Hirani, managing partner of Mumbai-based corporate law firm Majmudar and Co., referring to the 2% commission and the 20% carry that PE firms, also called general partners (GPs), typically get. Carry is an industry term referring to the profit from exiting from an investment.

The number and value of PE deals in the realty sector over the 10 months ended October 2008, has not seen any significant slowdown. According to data provided by Venture Intelligence, a research service focused on Private Equity & Venture Capital, about 75 deals valued at $7.3 billion (Rs 35,600 crore) were made in the real estate sector. By the end of the year, the value of deals may turn to be about the same as last year. For the whole of 2007, the realty sector saw PE deals valued at $8.7 billion, a number 19 per cent higher than the deals tied up so far in 2008.

Arun Natarajan, Founder and CEO, Venture Intelligence, agrees that the volume of private equity investments flowing into realty may be the same as in 2007. "However, if one looks at the year-on-year growth, it has slowed now compared to 2007 over 2006," Natarajan said.

In the context of property price declines and shelving of projects by some developers, private equity deals of $7.3 billion this year do not paint a particularly gloomy picture. However, the credit crunch being faced by the developer community continues to suggest that not all of the fund flows, indicated by the above deal value, may actually materialise.

Alok Aggarwal, chairman and founder of Evalueserve, a firm that tracks PE and VC firms, expects nearly 20% of foreign PE and VC firms to pull out.

"Out of 370 PE and VC firms active in India, about 260 are foreign players. With the financial market meltdown and rupee depreciation having dealt major blows to the PE industry, we expect 60 to 70 of them to exit the country within next 12 months," he told ET.

The latest deal tracker by advisory firm Grant Thornton confirms that PE and VC deals in India are slowing down, and has already dropped to 2006-levels in October. "If the activity in deal space remains moderate and subdued for sometime, a few foreign players will exit," said Pricewaterhouse Coopers executive director Sanjeev Krishan.

Analysts at Grant Thornton point out that a large chunk of investments have been coming from international funds, which in turn are funded by international banks or investment banks.

"The next 6-12 months would be tough for the PE industry in India," says CG Srividya, partner, Specialist Advisory Services at Grant Thornton. She estimates that 70% of the PE funding is done by foreign firms, of which a sizeable chunk is accounted for by the smaller players.

"Unlike funds, which are directly backed by major international banks, these small players will feel most of the heat," says Ms Srividya

Venture Intelligence CEO Arun Natrajan feels that if the global credit scenario does not improve in next 12 months lesser-known names in Indian PE and VC arena will have to bear the brunt. "While India dedicated funds would not have a choice but to stay invested, we might see global funds moving out of India and reallocating assets if the current scenario does not improve within an year. Majority of the foreign PE investments in India comes from these lesser-known names," Mr Natrajan said.

In October, the number of PE & VC deals has plunged to 12, a number last seen in January 2006. On an average, PE & VC transactions in the last two and a half years has been between 30 to 35 on a monthly basis. In January this year, a record 60 deals were witnessed. The two major deals of October included Wipro chairman Azim Premji's investment fund picking up a 3% stake in NSE for $100 million and Investcorp investing $98 million in Redington.

These companies have raised more than $3.0 billion (Rs. 14,000 crore) from both domestic and foreign investors to put into India. However, compared with a year ago, the amount raised seems to be slowing.

"Our investments are backed by sound research and we operate under highest standards of prudence and governance. These are the qualities in- vestors look for in times like these," said Manu Punnose, CEO of nine-yearold Subhkam Ventures, which is raising Rs. 400 crore.

Chennai-based TVS Shriram's India fund is raising Rs 500 crore. "Historically, private equity funds that started during market downturns have outperformed funds that invested in bull market years," said Gopal Srinivasan, chairman and managing director, TVS Capital Funds Ltd.

The Kotak Group has raised $1.2 billion for infrastructure assets and another $440 million in other sectors.

Milestone Capital Advisors, started by former Pantaloon Retail chief operating officer Ved Prakash Arya is busy raising a new fund, Milestone Domestic Scheme-II, which will have a corpus of $250 million.

Many VCFs were setting up entities in Mauritius with only a few thousand dollars as the overseas investors in the funds were reluctant to park the money in Mauritius before the regulatory clearance. This was unacceptable to RBI. Indeed, RBI had returned more than 16 foreign VCF applications to Sebi citing `under-capitalisation' as the reason.

After this, several foreign VC funds began capitalising the investment company before approaching the financial sector regulators. Sources said Sebi has already issued the in-principle approval to 10 applicants. However, while clearing the cases, RBI has inserted a new clause, which restricts investments by these foreign funds to certain sectors, similar to those prescribed under the Income Tax Act for availing of a tax pass-through for Sebi-registered VCFs.

Under this, foreign VCFs will be permitted in 10 sectors like infrastructure, biotechnology, IT related to hardware and software development, nanotechnology, seed research and development, R&D of new chemical entities in pharma sector, dairy industry, poultry industry, production of bio-fuels and hotel-cum-convention centres with seating capacity of more than 3,000.

In the face of a global meltdown, some venture capital firms are planning to shift from early stage start-ups to backing companies that have been around for some years and need capital to push growth.

"There may happen a shift away from earlier stage investing to later stage safer investments simply because of shifting risk profiles," says Mohanjit Jolly, executive director, Draper Fisher Jurvetson India Advisory Services Pvt. Ltd (DFJ). The firm, which started as a pure early stage technology focused fund in India, has now decided to take decisions on a case-to-case basis.

This would be a repetition of what happened between 1999 and 2001, when the fortunes of dot-com firms, whose basis of valuation was eyeballs rather than revenues, nosedived and several Indian investors such as ICICI Venture and ChrysCapital (then Chrysalis Capital) moved away from funding early stage companies.

Mumbai-based Matrix Partners India says the stage shift will be visible in the number of deals in the near future. "There will be a decrease in the number of deals in early stage, while the deal flow in growth investment is actually improving," says co-founder and managing director Rishi Navani, adding that as risk aversion is rampant currently, growth equity will appear safer.

Matrix began with a $150 million (Rs721.5 crore today) India fund focused on early stage investing. Last year, it raised an additional $300 million to invest in growth equity deals as well. So far, it has made two growth investments--Murjani Group, a luxury retailer, and Tree House Education and Accessories Pvt. Ltd, a Mumbai-based preschool chain. The company has also made five-six early stage investments in firms that include Quickr India, Itz Cash and Yo! China.

Matching the drop in risk, growth stage investments come with lower returns, but venture capital firms seem comfortable with that. The liquidity horizon for a seed stage company is 7-10 years, while a growth stage business provides a shorter exit period, generally about three-five years.