Project on "Study of Venture Capital in India"
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Executive Summary, Introduction To Project (Synopsis), Objective Of The Study, Statement Of Problems, Limitation Of Proj...
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A Project Submitted for a
“STUDY OF VENTURE CAPITAL IN INDIA” PROJECT SUBMITTED TO
ANNAMALAI UNIVERSITY SUBMITTED BY
PRASHANT S. JADHAV Enrollment no: - 4740800052 PROJECT GUIDE PROF. AMIT GOEL MBA (FINANCE), CA.
Masters of Business Administration (Applied Management) (Second Year)
NIS ACADEMY Sakinaka, Andheri (E). Mumbai.400072 2009 – 2010 Study Of Venture Capital In India
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Study Of Venture Capital In India
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PROJECT TITLE:-
“STUDY OF VENTURE CAPITAL IN INDIA”
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DECLARATION
I, the undersigned, student of NIS ACADEMY of Masters of Business Administration (Applied Management) Second year hereby declare that I have completed this Project of “Study of Venture Capital in India” in the academic year 2009-2010. The information submitted in this project is true and original to the best of my knowledge.
Mr. Prashant Jadhav
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CERTIFICATE This is to certify that Mr. Prashant S. Jadhav has successfully completed the project work as partial fulfillments of the requirement for The Masters of Business Administration (Applied Management) in the academic year 2009-2010.
Signature of Project Guide
Signature of Location Head
Mr. Amit Goel
Mrs.Rita Balachandran
Date:
Date:
College Seal
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ACKNOWLEDGEMENT
One of the pleasant aspects of preparing a project report is the opportunity to thank to those who have contributed to make the project completion possible. I am extremely thankful to Mr. Amit Goel & Mrs. Rita Balachandran. Whose active interest in the project and insights helped us formulate, redefine and implement our approach towards the project. We are also thankful to all those seen and unseen hands & heads, which have been of direct or indirect, help in the completion of this project.
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PREFACE In India, a revolution is ushering in a new economy, wherein major investment are being made in the knowledge based industry with substantially low investments in land, building, plant and machinery. The asset/ collateral- backed lending instruments adopted for the hard for the hard core manufacturing industries, are proving to be inadequate for the knowledge- based industries that often start with just idea. The only way to finance such industries is through Venture Capital. Venture Capital is instrumental in bringing about industrial development, for it exploits the vast and untapped potentialities and promotes the growth of the knowledgebased industries worldwide. In India too, it has become popular in different parts of the country. Thus, the role of venture capitalist is very crucial, different, and distinguishable to the role of traditional finance as it deals with others’ money. In view of the globalization; venture Capital has turned out to be a boon to both business and industry. This report, which contains in-depth study of Venture Capital Industry in India, is made with an intension to get through all the aspects related to the topic and to become able to make some suggestion at the industry. This report deals with the concept of Venture Capital, with particular reference to India. The report includes all facts, rules and regulations regarding Venture Capital.
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EXECUTIVE SUMMARY
Venture capital is a growing business of recent origin in the area of industrial financing in India. The various financial institution set-ups in India to promote industries have done commendable work. However, these institutions do not come up to benefit risky ventures when they are undertaken by new or relatively unknown entrepreneurs. They contend to give debt finance, mostly in the form of term loans to the promoters and their functioning has been more akin to that of commercial banks. Starting and growing a business always require capital. There are a number of alternative methods to fund growth. These include the owner or proprietor’s own capital, arranging debt finance, or seeking an equity partner, as is the case with private equity and venture capital. Venture capital is a means of equity financing for rapidly-growing private companies. Finance may be required for the start-up, development/expansion or purchase of a company. Venture Capital firms invest funds on a professional basis, often focusing on a limited sector of specialization (eg. IT, Infrastructure, Health/Life Sciences, Clean Technology, etc.). Indian Venture capital and Private Equity Association(IVCA) is a member based national organization that represents venture capital and private equity firms, promotes the industry within India and throughout the world and encourages investment in high growth companies. IVCA member comprise venture capital firms, institutional investors, banks, incubators, angel groups, corporate advisors, accountants, lawyers, government bodies, academic institutions and other service providers to the venture capital and private equity industry. Study Of Venture Capital In India
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Members represent most of the active venture capital providers and private equity firms in India. These firms provide capital for seed ventures, early stage companies, later stage expansion, and growth finance for management buyouts/buy-ins of established companies. Venture capitalists have been catalytic in bringing forth technological innovation in USA. A similar act can also be performed in India. As venture capital has good scope in India for three reasons: First: The abundance of talent is available in the country. The low cost high quality Indian workforce that has helped the computer users worldwide in Y2K project is demonstrated asset. Second: A good number of successful Indian entrepreneurs in Silicon Valley should have a demonstration effect for venture capitalists to invest in Indian talent at home. Third: The opening up of Indian economy and its integration with the world economy is providing a wide variety of niche market for Indian entrepreneurs to grow and prove themselves.
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Table of contents Sr. No.
1.
2.
Particular
Page No.
Approval Latter
-
Declaration
4
Certification
5
Acknowledgment
6
Preface
7
Executive Summary
8
Introduction To Project (Synopsis)
12-17
Objective Of The Study
13
Statement Of Problems
14
Limitation Of Project
16
Scope Of The Project
16
Research Design And Instruments
17
Conceptual Framework
18-57
Concept Of Venture Capital
19
Features Of Venture Capital
21
Venture Capital Spectrum/Stages
23
Venture Capital Investment Process
36
Methods Of Venture Financing
43
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3.
4.
Difference Between Venture Capital And Other Funds(Private Equity)
45
Venture Capital & Alternative Financing Comparison
47
Players Venture Capital Industry
54
Global Scenario Of Venture Capital Industry
58-95
Overview
59
History & Evolution
59
Current Industry Trends
64
Growth Of Venture Capital In Global
67
2009 Global Venture Capital Industry Survey
69
China, India And Israel Will Be Most Attractive Growth Of Venture Capital
89
Primary Reasons For Venture Capital Investors Expanding Globally
92
Investing Globally By Investing Locally
94
Impediments To Global Investing
95
Venture Capital In India
96-142
Evolution Of Venture Capital Industry In India
97
Objective And Vision For Venture Capital In India
100
Venture Capital Industry Life Cycle In India
101
Growth Of Venture Capital In India
105
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2009 Venture Capital Investment In India
108
Need For Growth Of Venture Capital In India
109
Regulatory And Legal Framework
111
Major Regulatory Framework For Venture Capital Industry
112
Regulation Of The Business Of Venture Capital In India
117
Key Success Factor For Venture Capital Industry In India
120
Industrial Attractiveness
123
Domestic Economic Factors
124
Guidelines For Overseas Venture Capital Investment In India
130
Challenges Ahead For Venture Capital Financing In India
132
Problems Of Venture Capital Financing In India
133
Opportunities And Threats
134
5.
Recommendations
142
6.
Conclusion
150
7.
Bibliography & Webliography
152
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INTRODUCTION TO PROJECT (SYNOPSIS)
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OBJECTIVES OF THE STUDY
Understand the concept of venture capital. Venture Capital funding is different from traditional sources of financing. Venture capitalists finance innovation and ideas which have potential for high growth but with inherent uncertainties. This makes it a high-risk, high return investment.
Study venture capital industry in India. Scientific, technology and knowledge based ideas properly supported by venture capital can be propelled into a powerful engine of economic growth and wealth creation in a sustainable manner. In various developed and developing economies venture capital has played a significant developmental role.
Study venture capital industry in global scenario. Venture capital has played a very important role in U.K., Australia and Hong Kong also in development of technology growth of exports and employment.
Study the evaluation & need of venture capital industry in India. India is still at the level of ‘knowledge’. Given the limited infrastructure, low foreign investment and other transitional problems, it certainly needs policy support to move to the next stage. This is very crucial for sustainable growth and for maintaining India’s competitive edge
Understand the legal framework formulated by SEBI to encourage venture capital activity in Indian economy. Promoting sound public policy on issues related to tax, regulation and securities through representation to the Securities and Exchange Board of India (SEBI), Ministry of Finance (MoF), Reserve Bank of India (RBI) and other Government departments
Find out opportunities that encourage & threats those hinder venture capital industry in India. Study Of Venture Capital In India
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To know the impact of political & economical factors on venture capital investment.
STATEMENT OF PROBLEMS Venture capital is in its nascent stages in India. The emerging scenario of global competitiveness has put an immense pressure on the industrial sector to improve the quality level with minimization of cost of products by making use of latest technological skills. The financing firms expect a sound, experienced, mature and capable management team of the company being financed. Since the innovative project involves a higher risk, there is an expectation of higher returns from the project. The payback period is also generally high (5 - 7 years). The various problems/ queries can be outlined as follows:
Problems regarding the infrastructure details of production like plant location, accessibility, relationship with the suppliers and creditors, transportation facilities, labor availability etc.
The limited infrastructure, low foreign investment and other transitional problems, because of above three reasons availability of fund is very low in market.
Uncertainty regarding the success of the product in the market.
As there is requirement of an experienced management team, Due to unavailability of experienced and skilled people it is difficult to analyze the future growth of the product in the market.
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Government has taken all the Initiatives in formulating policies to encourage investors and entrepreneurs. A government policy has many rules and regulation that can create problems in allocating the fund to the Organizations.
Initiatives of the SEBI to develop a strong and vibrant capital market giving the adequate liquidity and flexibility for investors for entry and exit. Due to many rules and regulations from SEBI organization face lots of difficulties at the time of entering in the market.
Problem regarding requirement of an above average rate of return on investment, also longer payback period. The returns on investment are high but the probability of fund return is depending on the product success in future.
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LIMITATION OF PROJECT
A study of this type cannot be without limitations. It has been observed those venture capitals are very secretive about their investments. This attitude is a major hindrance for data collection. However venture capital funds/companies that are members of Indian venture capital association are to be included in the study.
SCOPE OF THE PROJECT The scope of the research includes all types of venture capital firms set up as a company & funds irrespective of the fact that they are registered with SEBI of India or not part of this study
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RESEARCH DESIGN AND INSTRUMENTS
In India neither venture capital theory has been developed nor are there many comprehensive books on the subject. Even the number of research papers available is very limited. The research design used is descriptive in nature. (The attempt has been made to collect maximum facts and figures available on the availability of venture capital in India, nature of assistance granted, future projected demand for this financing, analysis of the problems faced by the entrepreneurs in getting venture capital, analysis of the venture capitalists and social and environmental impact on the existing framework.) The research is based on secondary data collected from the published material. The data was also collected from the publications and press releases of venture capital associations in India. Scanning the business papers filled the gaps in information. The Economic times, Financial Express and Business Standards were scanned for any article or news item related to venture capital. Sufficient amount of data about the venture capital has been derived from this project.
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CONCEPTUAL FRAMEWORK
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CONCEPT OF VENTURE CAPITAL The term venture capital comprises of two words that is, “Venture” and “capital”. “Venture” is a course of processing the outcome of which is uncertain but to which is attended the risk or danger of “Loss”. “Capital” means recourses to start an enterprise. To connote the risk and adventure of such a fund, the generic name Venture Capital was coined. Venture capital is considered as financing of high and new technology based enterprises. It is said that Venture capital involves investment in new or relatively untried technology, initiated by relatively new and professionally or technically qualified entrepreneurs with inadequate funds. The conventional financiers, unlike Venture capitals mainly finance proven technologies and established markets. However, high technology need not be prerequisite for venture capital. Venture capital has also been described as ‘unsecured risk financing’. The relatively high risk of venture capital is compensated by the possibility of high return usually through substantial capital gains in term. Venture capital in broader sense is not solely an injection of funds into a new firm, it is also an input of skills needed to set up the firm, design its marketing strategy, organize and manage it. Thus it is a long term association with successive stages of company’s development under highly risky investment condition with distinctive type of financing appropriate to each stage of development. Investors join the entrepreneurs as co-partners and support the project with finance and business skill to exploit the market opportunities. Venture capital is not a passive finance. It may be at any stage of business/ production cycle, that is startup, expansion or to improve a product or process, which are associated with both risk and reward. The Venture capital gains Study Of Venture Capital In India
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through appreciation in the value of such investment when the new technology succeeds. Thus the primary return sought by the investor is essentially capital gain rather than steady interest income or dividend yield.
The most flexible Definition of Venture Capital is:“The support by investors of entrepreneurial talent with finance and business skills to exploit market opportunities and thus obtain capital gains.” Venture capital commonly describes not only the provision of start up finance or ‘seed corn’ capital but also development capital for later stages of business. A long term commitment of funds is involved in the form of equity investments, with the aim of eventual capital gains rather than income and active involvement in the management of customer’s business.
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FEATURES OF VENTURE CAPITAL High Risk High Tech Equity Participation & Capital Gains Participation In Management Length Of Investment Illiquid Investment
High Risk By definition the Venture capital financing is highly risky and chances of failure are high as it provides long term start up capital to high risk- high reward ventures. Ventures capital assumes four type of risks, these are: o Management risk
-Inability of management teams to work together.
o Market risk
-Product may fail in the market.
o Product risk
-Product may not be commercially viable.
o Operation risk
-Operation may not be cost effective resulting in
increased cost decreased gross margin. High Tech As opportunities in the low technology area tend to be few of lower order, and hitech projects generally offer higher returns than projects in more traditional area, venture capital investments are made in high tech. areas using new technologies or producing innovative goods by using new technology. Not just high technology, any high risk ventures where the entrepreneur has conviction but Study Of Venture Capital In India
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little capital gets venture finance. Venture capital is available for expansion of existing business or diversification to a high risk area. Thus technology financing had never been the primary objective but incidental to venture capital. Equity Participation & Capital Gains Investments are generally in equity and quasi equity participation through direct purchase of share, options, convertible debentures where the debt holder has the option to convert the loan instruments into stock of the borrower or a debt with warrants to equity investment. The funds in the form of equity help to raise term loans that are cheaper source of funds. In the early stage of business, because dividends can be delayed, equity investment implies that investors bear the risk of venture and would earn a return commensurate with success in the form of capital gains. Participation In management Venture capital provides value addition by managerial support, monitoring and follow up assistance. It monitors physical and financial progress as well as market development initiative. It helps by identifying key resource person. They want one seat on the company’s board of directors and involvement, for better or worse, in the major decision affecting the direction of company. This is a unique philosophy of “hand on management” where Venture capitalist acts as complementary to the entrepreneurs. Based upon the experience other companies, a venture capitalist advice the promoters on project planning, monitoring, financial management, including working capital and public issue. Venture capital investor cannot interfere in day today management of the enterprise but keeps a close contact with the promoters or entrepreneurs to protect his investment.
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Length of Investment Venture capitalist help companies grow, but they eventually seek to exit the investment in three to seven years. An early stage investment may take seven to ten years to mature, while most of the later stage investment takes only a few years. The process of having significant returns takes several years and calls on the capacity and talent of venture capitalist and entrepreneurs to reach fruition. Illiquid Investment Venture capital investments are illiquid, that is not subject to repayment on demand or following a repayment schedule. Investors seek return ultimately by means of capital gain when the investment is sold at market place. The investment is realized only on enlistment of security or it is lost if enterprise is liquidated for unsuccessful working. It may take several years before the first investment starts too locked for seven to ten years. Venture capitalist understands this illiquidity and factors this in his investment decision.
THE VENTURE CAPITAL SPECTRUM/STAGES
The growth of an enterprise follows a life cycle as shown in the diagram below. The requirements of funds vary with the life cycle stage of the enterprise. Even before a business plan is prepared the entrepreneur invests his time and resources in surveying the market, finding and understanding the target customers and their needs. At the seed stage the entrepreneur continue to fund the venture with his own fund or family funds. At this stage the fund are needed to solicit the consultant’s services in formulation of business plans, meeting potential customers and technology partners. Next the funds would be required for development of the product/process and producing prototypes, hiring key people and building up the managerial team. This is followed by funds for assembling Study Of Venture Capital In India
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the manufacturing and marketing facilities in that order. Finally the funds are needed to expand the business and attaint the critical mass for profit generation. Venture capitalists cater to the needs of the entrepreneurs at different stages of their enterprises. Depending upon the stage they finance, venture capitalists are called angel investors, venture capitalist or private equity supplier/investor. Venture capital was started as early stage financing of relatively small but rapidly growing companies. However various reasons forced venture capitalists to be more and more involved in expansion financing to support the development of existing portfolio companies. With increasing demand of capital from newer business, venture capitalists began to operate across a broader spectrum of investment interest. This diversity of opportunities enabled venture capitalists to balance their activities in term of time involvement, risk acceptance and reward potential, while providing ongoing assistance to developing business.
Introduction stage
Later Stage
Seed Capital
Growth Stage
Early Stage
Second
Startup Capital
Venture Capital Spectrum/Stage Study Of Venture Capital In India
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Different Venture capital firms have different attributes and aptitudes for different types of Venture capital investments. Hence there are different stages of entry for different venture capitalists and they can identify and differentiate between types of venture capital investments, each appropriate for the given stage of the investee company, these are:1. Early stage Finance
Seed capital
Start up Capital Early/First Stage Capital Later/Third Stage capital 2. Later Stage Finance Expansion/Development Stage Capital Replacement Finance Management Buy Out and Buy Ins Turnarounds Mezzanine/Bridge Finance Not all business firms pass through each of these stages in sequential manner. For instance seed capital is normally not required by service based ventures. It applies largely to manufacturing or research based activities. Similarly second round finance does not always follow early stage finance. If the business grows successfully it is likely to develop sufficient cash to fund its own growth, so does not require venture capital for growth.
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The table below shows risk perception and time orientation for different stages of venture capital financing. Financing Stage
Period (funds
Risk
Activity to be financed
locked in years) perception Early stage finance
7-10
Extreme
For supporting a concept or idea or R & D for
Start up First stage Second stage Later stage finance
Very high
product development Initializing operations or
High
developing prototypes Start commercial
3-5
Sufficiently
production and marketing Expand market & growing
1-3
high Medium
working capital need Market expansion,
5-9 3-7
acquisition & product development for profit making company Acquisition financing
Buy out-in
1-3
Medium
Turnaround
1-3
Medium to high Turning around a sick
Mezzanine
1-3
Low
company Facilitating public issue
Venture Capital- Financing Stages
Seed Capital
It is an idea or concept as opposed to a business. European venture capital association defines seed capital as “The financing of the initial product development or capital provided to an entrepreneur to prove the feasibility of a project and to qualify for start up capital.” Study Of Venture Capital In India
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The characteristics of the seed capital may be enumerated as follows: o Absence of ready product market o Absence of complete management team o Product/process still in R & D stage o Initial period/licensing stage of technology transfer Broadly speaking seed capital investment may take 7 to 10 year to achieve realization. It is the earliest and therefore riskiest stage of Venture capital investment. The new technology and innovations being attempted have equal chance of success and failure. Such projects, particularly hi-tech, projects sink a lot of cash and need a strong financial support for their adaptation, commencement and eventual success. However, while the earliest stage of financing is fraught with risk, it also provides greater potential for realizing significant gains in long term. Typically seed enterprises lack asset base or track record to obtain finance from conventional sources and are largely dependent upon entrepreneur’s personal resources. Seed capital is provided after being satisfied that the entrepreneur has used up his own resources and carried out his idea to a stage of acceptance and has initiated research. The asset underlying the seed capital is often technology or an idea as opposed to human assets (a good management taem0 so often sought by venture capitalists. Volume of Investment Activity It has been observed that Venture capitalist seldom make seed capital investment and these are relatively small by comparison to other forms of Venture finance. The absence of interest in providing a significant amount of seed capital can be attributed to the following three factors:Study Of Venture Capital In India
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a) Seed capital projects by their very nature require a relatively small amount of capital. The success or failure of an individual seed capital investment will have little impact on the performance of all but the smallest venture capital investments. This is because the small investments are seen to be cost inefficient in terms of time required to analyze structure manage them. b) The time horizon to realization for most seed capital investment is typically 7-10 years which is longer than all but most long-term oriented investors will desire. c) The risk of product and technology obsolescence increases as the time to realization I extended. These types of obsolescence are particularly likely to occur with high technology investments particularly in the fields related to Information Technology.
Start Up Capital
It is stage second in the venture capital cycle and is distinguishable from seed capital investments. An entrepreneur often needs finance when the business is just starting. The start up stage involves starting a new business. Here in the entrepreneur has moved closer towards establishment of a going concern. Here in the business concept has been fully investigated and the business risk now becomes that of turning the concept into product. Start up capital is defined as; “Capital needed to finance the product development, initial marketing and establishment of product facility.” The characteristics of start-up capital are:a) Establishment of company or business: the company is either being
organized or is established recently. New business activity could be based on experts, experience or a spin-off from R & D. Study Of Venture Capital In India
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b) Establishment of most but not all the members of the team: the skills
and fitness to the job and situation of the entrepreneur’s team is an important factor for start up finance. c) Development of business plan or idea: the business plan should be fully
developed yet the acceptability of the product by the market is uncertain. The company has not yet started trading. In the start up preposition Venture capitalists’ investment criteria shifts from idea to people involved in the venture and the market opportunity. Before committing any finance at this stage, venture capitalist however, assesses the managerial ability and the capacity of the entrepreneur, besides the skills, suitability and competence of the managerial team are also evaluated. If required they supply managerial skill and supervision for implementation. The time horizon for start up capital will be typically 6 or 8 years. Failure rate for start up is 2 out of 3. Start up needs funds by way of both first round investment and subsequent follow-up investments. The risk tends to be lower relative to seed capital situation. The risk is controlled by initially investing a smaller amount of capital in start-ups. The decision on additional financing is based upon the successful performance of the company. However, the term to realization of a start up investment remains longer than the term of finance normally provided by the majority of financial institutions. Longer time scale for using exit route demands continued watch on start up projects. Volume of Investment Activity Despite potential for secular returns most venture firms avoid investing in startups. One reason for the paucity of start up financing may be high discount rate that venture capitalist applies to venture proposals at this level of risk and maturity. They often prefer to spread their risk by sharing the financing. Thus syndicates of investor’s often participate in start up finance. Study Of Venture Capital In India
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Early Stage Finance It is also called first stage capital is provided to entrepreneur who has a proven product, to start commercial production and marketing, not covering market expansion, de-risking and acquisition costs. At this stage the company passed into early success stage of its life cycle. A proven management team is put into this stage, a product is established and an identifiable market is being targeted. British Venture capital Association has vividly defined early stage finance as: “Finance provided to companies that have completed the product development stage and require further funds to initiate commercial manufacturing and sales but may not be generating profits.” The characteristics of early stage finance may be: Little or no sales revenue. Cash flow and profit still negative. A small but enthusiastic management team which consists of people with technical and specialist background and with little experience in the management of growing business. Short term prospective for dramatic growth in revenue and profits. The early stage finance usually takes 4 to 6 years time horizon to realization. Early stage finance is the earliest in which two of the fundamentals of business
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are in place i.e. fully assembled management team and a marketable product. A company needs this round of finance because of any of the following reasons: Project overruns on product development. Initial loss after start up phase. The firm needs additional equity funds, which are not available from other sources thus prompting venture capitalist that, have financed the start up stage to provide further financing. The management risk is shifted from factors internal to the firm (lack of management, lack of product etc.) to factor external to the firm (competitive pressures, in sufficient will of financial institutions to provide adequate capital, risk of product obsolescence etc.) At this stage, capital needs, both fixed and working capital needs are greatest. Further, since firms do not have foundation of a trading record, finance will be difficult to obtain and so venture capital particularly equity investment without associated debt burden is key to survival of the business. The following risks are normally associated to firms at this stage:a) The early stage firms may have drawn the attention of and incurred the challenge of a larger competition. b) There is a risk of product obsolescence. This is more so when the firm is involved in high-tech business like computer, information technology etc.
Second stage Finance It is the capital provided for marketing and meeting the growing working capital needs of an enterprise that has commenced the production but does not have positive cash flows sufficient to take care of its growing needs. Second stage finance, the second trench of Early Stage Finance is also referred to as follow on Study Of Venture Capital In India
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finance and can be defined as the provision of capital to the firm which has previously been in receipt of external capital but whose financial needs have subsequently exploded. This may be second or even third injection of capital.
The characteristics of a second stage finance are: A developed product on the market A full management team in place
Sales revenue being generated from one or more products There are losses in the firm or at best there may be a breakeven but the surplus generated is insufficient to meet the firm’s needs. Second round financing typically comes in after start up and early stage funding and so have shorter time to maturity, generally ranging from 3 to 7 years. This stage of financing has both positive and negative reasons. Negative reasons include: Cost overruns in market development Failure of new product to live up to sales forecast. Need to re-position products through a new marketing campaign Need to re-define the product in the market place once the product deficiency is revealed. Positive reasons include:
Sales appear to be exceeding forecasts and the enterprise needs to acquire assets to gear up for production volumes greater than forecasts.
High growth enterprises expand faster than their working capital permit, thus needing additional finance. Aim is to provide working capital for Study Of Venture Capital In India
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initial expansion of an enterprise to meet needs of increasing stocks and receivables. It is additional injection of funds and is an acceptable part of venture capital. Often provision for such additional finance can be included in the original financing packages as an option, subject to certain management performance targets.
Later Stage Finance It is called third stage capital is provided to an enterprise that has established commercial production and basic marketing set-up, typically for market expansion, acquisition product development etc. it is provided for market expansion of the enterprise. The enterprises eligible for this round of finance have following characteristics: Established business, having already passed the risky early stage. Expanding high yield, capital growth and good profitability. Reputed market position and an established formal organization structure. “Funds are utilized for further plant expansion, marketing, working capital or development of improved products.” Third stage financing is a mix of equity with debt or subordinate debt. As it is half way between equity and debt in US it is called “mezzanine” finance. It is also called last round of finance in run up to the trade sale or public offer. Venture capitalists prefer later stage investment vis a Vis early stage investments, as the rate of failure in later stage financing is low. It is because firms at this stage have a past performance data, track record of management, established Study Of Venture Capital In India
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procedures of financial control. The time horizon for realization is shorter, ranging from 3 to 5 years. This helps the venture capitalists to balance their own portfolio of investment as it provides a running yield to venture capitalists. Further the loan component in third stage finance provides tax advantage and superior return to the investors. There are four sub divisions of later stage finance: Expansion/Development Finance Replacement Finance Buyout Financing
Turnaround Finance Expansion/ Development finance An enterprise established in a given market increases its profit exponentially by achieving the economies of scale. This expansion can be achieved either through an organic growth, that is by expanding production capacity and setting up proper distribution system or by way of acquisitions. Anyhow, expansion needs finance and venture capitalists support both organic growth as well as acquisitions for expansion. At this stage the real market feedback is used to analyze competition. It may be found that the entrepreneur needs to develop his managerial team for handling growth and managing a larger business. Realization horizon for expansion/development investment is one to three years. It is favored by venture capitalist as it offers higher rewards in shorter period with lower risk. Funds are needed for new or larger factories and warehouses, production capacities, developing improved or new products, developing new
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markets or entering exports by enterprise with established business that has already achieved break even and has started making profits. Replacement Finance It means substituting one shareholder for another, rather than raising new capital resulting in the change of ownership pattern. Venture capitalist purchase share from the entrepreneurs and their associates enabling them to reduce their shareholding in unlisted companies. They also buy dividend coupon. Later, on sale of the company or its listing on stock exchange, these are re-converted to ordinary shares. Thus Venture capitalist makes a capital gain in a period of 1 to 5 years Buy-out / Buy-in Financing It is a resent development and a new form of investment by venture capitalist. The funds provided to the current operating management to acquire or purchase a significant share holding in the business they manage are called management buyout. Management Buy-in refers to the funds provided to enable a manager or a group of managers from outside the company to buy into it. It is the most popular form of venture capital amongst stage financing. It is less risky as venture capitalist in invests in solid, ongoing and more mature business. The funds are provided for acquiring and revitalizing an existing product line or division of a major business. MBO (Management buyout) has low risk as enterprise to be bought have existed for some time besides having positive cash flow to provide regular returns to the venture capitalist, who structure their investment by judicious combination of debt and equity. Of late there has been a
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gradual shift away from start up and early finance towards MBO opportunities. This shift is because of lower risk than start up investments. Turnaround Finance It is rare form later stage finance which most of the venture capitalist avoid because of higher degree of risk. When an established enterprise becomes sick, it needs finance as well as management assistance for a major restructuring to revitalize growth of profits. Unquoted company at an early stage of development often has higher debt than equity; its cash flows are slowing down due to lack of managerial skill and inability to exploit the market potential. The sick companies at the later stages of development do not normally have high debt burden but lack competent staff at various levels. Such enterprises are compelled to relinquish control to new management. The venture capitalist has to carry out the recovery process using hands on management in 2 to 5 years. The risk profile and anticipated rewards are akin to early stage investment. Bridge Finance It is the pre-public offering or pre-merger/acquisition finance to a company. It is the last round of financing before the planned exit. Venture capitalist help in building a stable and experienced management team that will help the company in its initial public offer. Most of the time bridge finance helps improves the valuation of the company. Bridge finance often has a realization period of 6 months to one year and hence the risk involved is low. The bridge finance is paid back from the proceeds of the public issue.
VENTURE CAPITAL INVESTMENT PROCESS
Venture capital investment process is different from normal project financing. In order to understand the investment process a review of the available literature on Study Of Venture Capital In India
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venture capital finance is carried out. Tyebjee and Bruno in 1984 gave model of venture capital investment activity with some variations is commonly used presently. As per this model this activity is a five step process as follows: 1. Deal Organization 2. Screening 3. Evaluation or due Diligence 4. Deal Structuring 5. Post Investment Activity and Exit
Investors Screening
VC MGT Fund
Selection Investment process Structuring
Prospective Investee
Monitoring
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Deal Origination: In generating a deal flow, the VC investor creates a pipeline of deals or investment opportunities that he would consider for investing in. deal may originate in various ways. Referral system, active search system, and intermediaries. Referral system is an important source of deals. Deals may be referred to VCFs by their parent organizations, trade partners, industry associations, friends etc. Another deal flow is active search through networks, trade fairs, conferences, seminars, foreign visits etc. intermediaries is used by venture capitalists in developed countries like USA, is certain intermediaries who match VCFs and the potential entrepreneurs. Screening: VCFs, before going for an in-depth analysis, carry out initial screening of all projects on the basic of some broad criteria. For example, the screening process may limit projects to areas in which the venture capitalist is familiar in terms of technology, or product, or market scope. The size of investment, geographical location and stage of financing could also be used as the broad screening criteria.
Due Diligence:
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Due diligence is the industry jargon for all the activities that are associated with evaluating an investment proposal. The Venture capitalists evaluate the quality of entrepreneur before appraising the characteristics of the product, market or technology. Most venture capitalists ask for a business plan to make an assessment of the possible risk and return on the venture. Business plan contains detailed information about the proposed venture. The evaluation of ventures by VCFs in Indian includes; Preliminary evaluation: the applicant required to provide a brief profile of the proposed venture to establish prima facie eligibility. Detailed evaluation: once the preliminary evaluation is over, the proposal is evaluated in greater detail. VCFs in India expect the entrepreneur to have: integrity, long-term vision, urge to grow, managerial skills, commercial orientation. VCFs in India also make the risk analysis of the proposed projects which includes: product risk, market risk, technological risk and entrepreneurial risk. The final decision is taken in terms of the expected risk-return trade-off as shown in figure. Deal Structuring: In this process, the venture capitalist and the venture company negotiate the terms of the deals, that are the amount form and price of the investment. This process is termed as deal structuring. The agreement also include the venture capitalists right to control the venture company and to change its management if needed, buyback arrangement specify the entrepreneurs equity share and the objectives share and the objectives to be achieved. Post Investment Activities:
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Once the deal has been structured and agreement finalized, the venture capitalist generally assumes the role of a partner and collaborator. He also gets involved in shaping of the direction of the venture. The degree of the venture capitalists involvement depends on his policy. It may not, however be desirable for a venture capitalist to get involved in the day-to-day operation of the venture. If a financial or managerial crisis occurs, the venture capitalist may intervene, and even install a new management team.
Exit: Venture capitalists generally want to cash-out their gains in five to ten years after the initial investment. They play a positive role in directing the company towards particular exit routes. A venture may exist in one of the following ways: There are four ways for a venture capitalist to exit its investment: Initial Public Offer (IPO) Acquisition by another company Re-purchase of venture capitalists share by the investee company Purchase of venture capitalists share by a third party Promoters Buy-back The most popular disinvestment route in India is promoters buy-back. This route is suited to Indian conditions because it keeps the ownership and control of the promoter intact. The obvious limitation, however, is that in a majority of cases the market value of the shares of the venture firm would have appreciated so
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much after some years that the promoter would to be in a financial position to buy them back. In India, the promoters are invariably given the first option to buy back equity of their enterprise. For example, RCTO participates in the assisted firm’s equity with suitable agreement for the promoter to repurchase it. Similarly, ConfinaVCF offers an opportunity to the promoters to buy back the shares of the assisted firm within an agreed period at a predetermined price. If the promoter fails to buy back the shares within the stipulated period, Confine-VCF would have the discretion to divest them in any manner it deemed appropriate. SBI capital Markets ensures through examining the personal assets of the promoters and their associates, which buy back, would be a feasible option. GV would make disinvestment, in consultation with the promoter, usually after the project has settled down, to a profitable level and the entrepreneur is in a position to avail of finance under conventional schemes of assistance from banks or other financial institutions. Initial Public Offers (IPOs) The benefits of disinvestments via the public issue route are improved marketability and liquidity, better prospects for capital gains and widely known status of the venture as well as market control through public share participation. This option has certain limitations in the Indian context. The promotion of the public issue would be difficult and expensive since the first generation entrepreneurs are not known in the capital markets. Further, difficulties will be caused if the entrepreneurs business is perceived to be an unattractive investment proposition by investors. Also, the emphasis by the Indian investors on shortterm profits and dividends may tend to make the market price unattractive. Yet another difficulty in India until recently was that the Controller of Capital Issues (CCI) guidelines for determining the premium on shares took into account the Study Of Venture Capital In India
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book value and the cumulative average EPS till the date of the new issue. This formula failed to give due weight age to the expected stream of earning of the venture firm. Thus, the formula would underestimate the premium. The government has now abolished the Capital Issues Control Act, 1947 and consequently, the office of the controller of Capital Issues. The existing companies are now free to fix the premium on their shares. The initial public issue for disinvestments of VCFs holding can involve high transaction costs because of the inefficiency of the secondary market in a country like India. Also, this option has become far less feasible for small ventures on account of the higher listing requirement of the stock exchanges. In February 1989, the Government of India raised the minimum capital for listing on the stock exchanges from Rs 10 million to Rs 30 million and the minimum public offer from Rs 6 million to Rs 18 million. Sale on the OTC Market An active secondary capital market provides the necessary impetus to the success of the venture capital. VCFs should be able to sell their holdings, and investors should be able to trade shares conveniently and freely. In the USA, there exist well-developed OTC markets where dealers trade in share on telephone/terminal and not on an exchange floor. This mechanism enables new, small companies which are not otherwise eligible to be listed on the stock exchange, to enlist on the OTC markets and provides liquidity to investors. The National Association of Securities dealers Automated Quotation System (NASDAQ) in the USA daily quotes over 8000 stock prices of companies backed by venture capital. The OTC Exchange in India was established in June 1992. The Government of India had approved the creation for the Exchange under the Securities Contracts (Regulations) Act in 1989. It has been promoted jointly by UTI, ICICI, SBI Capital Markets, Can Bank Financial Services, GIC, LIC and IDBI. Since this list Study Of Venture Capital In India
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of market-makers (who will decide daily prices and appoint dealers for trading) includes most of the public sector venture financiers, it should pick up fast, and it should be possible for investors to trade in the securities of new small and medium size enterprise. The other disinvestment mechanisms such as the management buy outs or sale to other venture funds are not considered to be appropriate by VCFs in India. The growth of an enterprise follows a life cycle as shown in the diagram below. The requirements of funds vary with the life cycle stage of the enterprise. Even before a business plan is prepared the entrepreneur invests his time and resources in surveying the market, finding and understanding the target customers and their needs. At the seed stage the entrepreneur continue to fund the venture with his own fund or family funds. At this stage the funds are needed to solicit the consultant’s services in formulation of business plans, meeting potential customers and technology partners. Next the funds would be required for development of the product/process and producing prototypes, hiring key people and building up the managerial team. This is followed by funds for assembling the manufacturing and marketing facilities in that order. Finally the funds are needed to expand the business and attaint the critical mass for profit generation. Venture capitalists cater to the needs of the entrepreneurs at different stages of their enterprises. Depending upon the stage they finance, venture capitalists are called angel investors, Venture capitalist or private equity supplier/investor.
METHODS OF VENTURE FINANCING Venture Capital is typically available in three forms in India, they are:
Equity: All VCFs in India provide equity but generally their contribution does not exceed 49% of the total equity capital. Thus, the effective control
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and majority ownership of the firm remains with the entrepreneur. They buy shares of an enterprise with an intention to ultimately sell them off to make capital gains.
Conditional Loan: it is repayable in the form of a royalty after the venture is able to generate sales. No interest is paid on such loans. In India, VCFs change royalty ranging between 2% to 15%; actual rate depends on other factors of the venture such as gestation period, cost flow patterns, riskiness and other factors of the enterprise.
Income Note: it is a hybrid security which combines the features of both conventional loan and conditional loan. The entrepreneur has to pay both interest and royalty on sales, but at substantially low rates.
Participating Debenture: such security carries charges in 3 phases. In the start up phase, before the venture attains operations to a minimum level, no interest is charged, after this, low rate of interest is charged, up to a particular level of operation. Once the venture is commercial, a high rate of interest is required to be paid.
Quasi Equity: quasi equity instruments are converted into equity at a later date. Convertible instruments are normally converted into equity at the book value or at certain multiple of EPS, i.e. at a premium to par value at a later date. The premium automatically rewards the promoter for their initiative and hand work. Since it is performance related, it motivates the promoter to work harder so as to minimize dilution of their control on the company. The different quasi equity instruments are follows: o Cumulative convertible preference shares. o Partially convertible debentures. o Fully convertible debentures.
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Other Financing methods: a few venture capitalists, particularly in the private sector, have started introducing innovative financial securities like participating debentures, introduced by TCFC is an example.
DIFFERENCE BETWEEN VENTURE CAPITAL AND OTHER FUNDS (PRIVATE EQUITY)
Venture Capital Vs Development Funds Venture capital differs from development funds as latter means putting up of industries without much consideration of use of new technology or new entrepreneurial venture but having a focus on underdeveloped areas (locations). In majority cases it is in the form of loan capital and proportion of equity is very thin. Development finance is security oriented and liquidity prone. The criteria for investment are proven track record of company and its promoters, and sufficient cash generation to provide for returns (principal and interest). The development bank safeguards its interest through collateral. They have no say in working of the enterprise except safeguarding their interest by having a nominee director. They do not play any active role in the enterprise except ensuring flow of information and proper management information system, regular board meetings, adherence to statutory requirements for effective management information system, regular board meetings, adherence to statutory requirements for effective management control where as Venture capitalist remain interested if the overall management of the project account of high risk involved I the project till its completion, entering into production and making available proper exit route for liquidation of the investment. As against this fixed payments in the form of installment of principal and interest are to be made to development.
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Venture Capital Vs Seed Capital & Risk Capital It is difficult to make a distinction between venture capital, seed capital, and risk capital as the latter two form part of broader meaning of Venture capital. Difference between them arises on account of application of funds and terms and conditions applicable. The seed capital and risk funds in India are being provided basically to arrange promoter’s contribution to the project. The objective is to provide finance and encourage professionals to become promoters of industrial projects. The seed capital is provided to conventional projects on the consideration of low risk and security and use conventional techniques for appraisal. Seed capital is normally in the form low interest deferred loan as against equity investment by Venture capital. Unlike Venture capital, Seed capital providers neither provide any value addition nor participate in the management of the project. Unlike Venture capital Seed capital provider is satisfied with low-normal returns and lacks any flexibility in its approach. Risk capital is also provided to established companies for adapting for new technologies. Herein the approach is not business oriented but developmental. As a result on one hand the success rate of units assisted by seed capital/risk. Finance has been lower than those provided with venture capital. On the other hand the return to the seed/risk capital financier had been very low as compared to venture capitalist. Seed Capital Scheme
Venture Capital Scheme
Basic
Income or aid
Commercial viability
Beneficiaries
Very small entrepreneurs
Medium and large
Rs. 15 lac(Max)
entrepreneurs are also covered Up to 40 percent of promoters’
Size of assistance
equity Study Of Venture Capital In India
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Appraisal process
Normal
Skilled and Specialized
Estimates returns
20 percent
30 percent plus
Flexibility
Nil
Highly flexible
Value addition
Nil
Multiple ways
Exit option
Sell back to promoters
Several, including public offer
Funding sources
Owner funds
Outside contribution allowed
Syndication
Not done
Possible
Tax concession
Nil
Exempted
Success rate
Not good
Very satisfactory
Difference between Seed Capital Scheme and Venture Capital Scheme
Venture Capital Vs Bought Out Deals The important difference between the venture capital and bought out deals is that bought outs are not based upon high risk- high reward principal. Further unlike venture capital they do not provide equity finance at different stages of the enterprise. However both have a common expectation of capital gains yet their objectives and intents are totally different.
VENTURE CAPITAL & ALTERNATIVE FINANCING COMPARISON
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Venture capital & alternative financing comparison If we are struggling to find success in our quest for venture capital, maybe we are looking in the wrong place. Venture capital is not for everybody. For starters, venture capitalists tend to be very picky about where they invest. They are looking for something to dump a lot of money into 9usually no less than $1 million) that will pour even more money right back at them in a short amount of time (typically 3-7 years). We may be planning for a steady growth rate as opposed to the booming, overnight success that venture capitalists tend to gravitate toward. We may not be able to turn around as large of a profit as they are looking for in quick enough time. We may not need the amount of money that they offer or our business may simply not be big enough. Simply put, venture capital is not the right fit for our business and there are plenty of other options available when it comes to finding capital.
Substitute in Early stage Study Of Venture Capital In India
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o Angels
Most venture capital funds will not consider investing in anything under $1 million to $2 million. Angels, however, are wealthy individuals who will provide capital for a startup business. These investors have usually earned their money as entrepreneurs and business managers and can serve as a prime resource for advice on top of capital. On the other hand, due to typically limited resources, angels usually have a shorter investment horizon than venture capitalists and tend to have less tolerance for losses. o Private Placement
An investment bank or agent may be able to raise equity for our company by placing our unregistered securities with accredited investors. However, you should be aware that the fees and expenses associated with this practice are generally higher than those that come with venture and angel investors. We will likely receive little or no business counsel from private investors who also tend to have little tolerance for losses and under-performance.
o Initial Public Offering
If we are somehow able to gain access to public equity markets than an initial public offering (IPO) can be an effective way to raise capital. Keep in mind that, while the public market’s high valuations, abundant capital and liquidity characteristics make it attractive, the transaction costs are high and there are ongoing legal expenses associated with public disclosure requirements.
Later Stage Financing
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This method is intended to develop a foundation for your business from scratch. Financial management is essential to make this work. With bootstrap financing you’re building a business from nothing, which means there is little to no margin for error in the finance department. Keep a rigid account of all transactions and don’t stray from your budget. A few different methods of bootstrapping include: Factoring, this generates cash flow through the sale of your accounts receivable to a “factor” at discounted price for’s cash. Trade Credit is an option if you are able to find a vendor or supplier that will allow you to order goods on net 30, 60 or 90 day terms. If you can sell the goods before the bill comes due then you have generated cash flow without spending any money. Customers can pay you up front our services. Leasing, your equipment instead of purchasing it outright.
o Fund from Operations
Look for ways to tweak your business in order to reduce the cash flowing out and increase the cash flowing in. Funding found in business operations come free of finance charges, can reduce future financing charges and can increase the value of your business. Month-by-month operating and cash projections will show how well we have planned, how you can optimize the elements of your business that generate cash and allow you to plan for new investments and contingencies. o Licensing
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Sell licenses to technology that is non-essential to our company or grant limited licensing to essential technology that can be shared. Throughout licensing we can generate revenue from up-front fees, access fees, royalties or milestone payments. o Vendor Financing
Similar to the trade credit related to bootstrap financing, vendors can play a big role in financing your new business. Establish vendor relationships through our trade association and strike deals to offer their product and pay for it at a date in the near future. Selling the product in time is up to us. In hopes of keeping you as a customer, vendors may also be willing to work out an arrangement if we need to finance equipment or supplies. Just make sure to look for stability when you research a vendor’s credentials and reputation before you sign any kind of agreement. And keep in mind that many major suppliers (GE Small Business Solutions, IBM Global Financing) own financial companies that can help you. o Self Funding
Search between the couch cushions and in old jacket pockets for whatever extra money you might have lying around and invest it into your business. Obviously loose change will not be enough for extra business funding, but take a look at your savings, investment portfolio, retirement funds and employee buyout options from your previous employer. You won’t have to deal with any creditors or interest and the return on your investment could be much higher. However, make sure that you consider the risks involved with using your own resources. How competitive is the market that you are about to enter into? How long will it take to pay you back? Will you be able to pay yourself back? Can you afford to lose everything that you are investing if your business were to fail? It’s
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important that your projected returns are more than enough to cover the risk that you will be taking. o SBIR and STTR Programs
Coordinated by the SBA, SBIR (Small Business Innovation Research) and STTR (Small business Technology Transfer) programs offer competitive federal funding awards to stimulate technological innovation and provide opportunities for small businesses. You can learn more about these programs at SBIRworld.com. o State Funding
If you’re not having any luck finding funding from the federal government take a look at what your state has to offer. There is a list of links to state development agencies that offer an array of grants and financial assistance for small businessessonsAbout.com.. o Community Banks
These smaller banks may have fewer products than their financial institution counterparts but they offer a great opportunity to build banking relationships and are generally more flexible with payment plans and interest rates. o Microloans
These types of loans can range from hundreds of dollars to low six-figure amounts. Although some lenders regard microloans to be a waste of time because the amount is so low, these can be a real boon for a startup business or one that just needs to add some extra cash flow. o Finance Debt Study Of Venture Capital In India
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It may be more expensive in the long run than purchasing, but financing your equipment, facilities and receivables can free up cash in the short term or reduce the amount of money that you need to raise. o Friends
Ask your friends if they have any extra money that they would like to invest. Assure them that you will pay them back with interest or offer those stock options or a share of the profits in return. o Family
Maybe you have a rich uncle or a wealthy cousin that would be willing to lend you some money get your business running or send it to the next level. Again, make it worth their while by offering interest, stocks or a share of the profits. o Form a Strategic Alliance
Aligning your business with a corporation can produce funding from upfront or access fees to your service, milestone payments and royalties. In addition, corporate partners may be able to provide research funding, loans and equity investments.
o Sell Some Assets
Find an interested party to buy some of your assets (computers, equipment, real estate, etc…) and then lease them back to you. This provides an instant source of cash and you will still be able to use whatever assets you need. o Business Lines of Credit
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If your business has positive cash flow and has proven that it will cover its debts then you may be eligible for a business line of credit. This type of financing is a common service offered by most business banks and serves as business capital, up to an agreed upon amount, that you can access at any time. o Personal Credit Cards
Using personal credit cards to finance a business can be risky but, if you take the right approach, they can also give your business a lift. You should only consider using this type of financing for acquiring assets and working capital. Never consider this to be a long-term option. Once your company breaks even or moves into the black, ditch the credit cards and move toward traditional bank financing or lease agreements. o Business Credit Cards
Business credit cards carry similar risks as personal credit cards but tend to be a safer alternative. While the activity on this card goes toward your credit report, a business credit card can help you to build business credit, keep your business expenses separate from your personal expenses and can make tax season easier to manage.
PLAYERS IN VENTURE CAPITAL INDUSTRY Idea
Established the company
Expansion
Small Capital Study Of Venture Business Break In IndiaInvesting In
concept Angle
Venture Even-point Fund
Big
Corporate technology investors Venture Funds
Troubleshooting
IPO
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+ Financial Funds
Players in Venture Capital Industry
There are following group of players: Angels and angel clubs Venture capital funds o Small o Medium o Large Corporate Venture funds Financial service venture groups
Angels and angel clubs Angels are wealthy individuals who invest directly into companies. They can form angel clubs to coordinate and bundle their activities. Beside the money, angels often provide their personal knowledge, experience and contacts to support their investees. With average deals sizes from USD100, 000 to USD
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500,000 they finance companies in their early stages. Examples for angel clubs are –Media Club, Dinner Club, and Angel’s forum Small and Upstart Capital Funds These are smaller Venture Capital Companies that mostly provide seed and startup capital. The so called “Boutique firms” are often specialized in certain industries or market segments. Their capitalization is about USD 20 to USD 50 million (is this deals size or total money under management or money under management per fund?). As for small and medium Venture capital funds strong competition will clear the market place. There will be mergers and acquisitions leading to a concentration of capital. Funds specialized in different business areas will form strategic partnerships. Only the more successful funds will be able to attract new money. Examples are: o Artemis Comaford o Abbell Venture Fund o Acacia Venture Partners Medium Venture Funds The medium venture funds finance all stages after seed and operate in all business segments. They provide money for deals up to USD 250 million. Single funds have up to USD 5 billion under management. An example is Accel Partners Large Venture Funds As the medium funds, large funds operate in all business sectors and provide all types of capital for companies after seed stage. They often operate internationally and finance deals up to USD 500 million the large funds will try to improve their position by mergers and acquisitions with other funds to improve size, reputation Study Of Venture Capital In India
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and their financial muscle. In addition they will to diversify. Possible areas to enter are other financial services by means of M&As with financial services corporations and the consulting business. For the latter one the funds have a rich resource of expertise and contacts in house. In a declining market for their core activity and with lots of tumbling companies out there is no reason why Venture Capital funds should offer advice and consulting only to their investees. Examples are: o AIG American International Group o Cap Vest man o 3i Corporate Venture Funds These Venture Capital funds are set up and owned by technology companies. Their aim is to widen the parent company’s technology base in an win-winsituation for both, the investor and the investee. In general, corporate funds invest in growing or maturing companies, often when the investee wishes to make additional investments in technology or product development. The average deals size is between USD 2 million and USD 5 million. The large funds will try to improve their position by mergers and acquisitions with other funds to improve size, reputation and their financial muscle. In addition they will to diversify. Possible areas to enter are other financial services by means of M&As with financial services corporations and the consulting business. For the latter one the funds have a rich resource of expertise and contents in house. In a declining market for their core activity and with lots of tumbling companies out there is no reason why Venture Capital funds should offer advice and consulting only to their investees. Examples are:
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o Oracle o Adobe o Dell o Kyocera As an example, Adobe systems launched a $40m venture fund in 1994 to invest in companies strategic to its core business, such as Cascade Systems Inc and lantana research Corporation-has been successfully boosting demand for its core products, so that Adobe recently launched a second $40m fund. Financial Funds: A solution for financial funds could be a shift to a higher securisation of Venture Capital activities. That means that the parent companies shift the risk to their customers by creating new products such as stakes in a Venture Capital fund. However, the success of such products will depend on the overall climate and expectations in the economy. As long as the sown turn continues without any sign of recovery customers might prefer less risky alternatives.
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GLOBAL SCENARIO OF VENTURE CAPITAL INDUSTRY
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OVERVIEW The global economic downturn has many venture capitalists altering strategies, including reducing investment levels in the short term, according to the 2009 Global Venture Capital Survey by Deloitte Touche Tohmatsu and the National Venture Capital Association. Fifty-one percent of the survey respondents are decreasing the number of companies in which they plan to invest and just 13 percent are increasing this activity. The 2009 Global Venture Capital survey, which measured the opinions of more than 750 venture capitalists worldwide, also shines headlights into the postrecession landscape. The cleantech sector is poised to become the leading investment category and the globalization of the venture capital industry will intensify the latter posing significant competitive questions for the United States and opportunities for emerging markets such as China. “While the recession has slowed the pace of venture investing in the short term, it may very well have expedited the global evolution of the industry in the long run,” said Mark Jensen, national managing partner of Deloitte LLP’s Venture Capital Services. “In recent years, many entrepreneurs who have been educated in the United States have returned home to start companies in their home countries. The playing field continues to level out in terms of new innovation hot spots, broader access to capital and growing regional ecosystems that foster risk taking and capital formation.”
HISTORY & EVOLUTION Prior to World War Two, the source of capital for entrepreneurs everywhere was either the government, government-sponsored institutions meant to invest in such Study Of Venture Capital In India
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ventures, or informal investors (today, termed “angels’) that usually had some prior relationship to the entrepreneur. In general, throughout history private banks, quite reasonably, have been unwilling to lend money to a newly established firm because of the high risk and lack of collateral. After World War two, in the U.S. a set of intermediaries emerged who specialized in investing in fledgling firms having the potential for extremely rapid growth. Form its earliest beginnings on the U.S. East Coast, venture capital gradually expanded and became an increasingly professionalized institution. During this period, the locus of the venture capital industry shifted from New York and Boston on the east Coast to Silicon Valley on the west coast. By the mid 1980s, the ideal-typical venture capital firm was based in Silicon Valley and invested largely in electronics with lesser sums devoted to biomedical technologies. Until the present, in addition to Silicon Valley, the two other major concentrations have been Boston and New York City. In both Europe and Asia, there are significant concentrations of venture capital in London, Israel, Hong Kong, Taiwan, and Tokyo. In the U.S., the government has played a role in the development of venture capital, though, for the most part, it was indirect. The indirect role, i.e., the general policies that also benefited the development of the venture capital industry, was probably the most significant. Some of the most important of these were;
The U.S. government generally practiced sound monetary and fiscal policies ensuring relatively low inflation with a stable financial environment and currency.
U.S. tax policy, though it evolved, has been favorable to capital gains, and a number of decreases in capital gains taxes may have had some positive effect on the availability of venture capital.
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With the exception of a short period in the 1970s, U.S. pension funds have been allowed to invest prudent amounts in venture capital funds. The NASDAQ stock market, which has been the exit strategy of choice for venture capitalists, was strictly regulated and characterized by increasing openness thus limiting investor’s fears of fraud and deception. This created a general macroeconomic environment of transparency and predictability, reducing risk for investors. Put differently, environmental risks stemming from government action were minimized- a shop contrast to most developing nations. Another important policy has been a willingness to invest heavily and continuously in university research. This investment funded generations of graduate students in the sciences and engineering. From this research has come trained personal and innovations; U.S. universities particularly, MIT, Stanford, and UC Berkeley played a particular salient role. The most important direct U.S. government involvement in encouraging the growth of venture capital was the passage of the small Business Investment Act of 1958 authorizing the formation of Small Business Investment Corporations (SBICs). This legislation created a vehicle for funding small firms of all types. The legislation was complicated, but for the development of venture capital the following features were most significant: It permitted individuals to from SBICs with private funds as paid-in capital
and then they could borrow money on a 2:1 ratio initially up to $300,000, i.e., they could use up to $300,000 of SBA-guaranteed money for their investment of $150,000 in private capital.
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There were also tax and other benefits, such as income and a capital gains pass through and the allowance of a carried interest as compensation. The SBIC program becomes one that many other nations either learned from or emulated. The SBIC program also provided a vehicle for banks to circumvent the Depression-era laws prohibiting commercial allowed them to acquire equity in small firms. This made even more capital available to fledgling firms, and was a significant source of capital in the 1960s and 1970s. The final investment format permitted SBICs to raise money in the public market. For the most part, these public SBICs failed and/or were liquidate by the mid 1970s. After the mid 1970s, with the exception of the bank SBICs, the SBIC program was no longer significant for the venture capital industry. The SBIC program experienced serious problems from its inception. One problem was that as a government agency it was very bureaucratic having many rules and regulations that were constantly changing. Despite the corruption, something valuable also occurred. Namely, and especially, in Silicon Valley, a number of individuals used their SBICs to leverage their personal capital, and some were so successful that were able to reimburse the program and raise institutional money to become formal venture capitalists. The SBIC program accelerated their capital accumulation, and as important, government regulations made these new venture capitalists professionalize their investment activity, which had been informal prior to entering the program. Now-illustrious firms such as Sutter hill ventures, Institutional Venture Partners, Bank of America Ventures, and Menlo Ventures began as SBICs. The historical record also indicates that government action can harm venture capital. The most salient example came in 1973 when the U.S. Congress, in response to widespread corruption in pension funds, changed Federal pension fund regulations. In their haste to prohibit pension fund abuses, Congress passed Study Of Venture Capital In India
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the employment Retirement Income Security Act (ERISA) making pension fund managers criminally liable for losses incurred in High-risk investments. This was interpreted to include venture capital funds; as a result pension managers shunned venture capital nearly destroying the entire industry. This was only reversed after active lobbying by newly created National Venture Capital Association (NVCA). In 1977, it succeeded in starting a gradual loosening process that was completed in 1982. The new interpretation of these pension fund guidelines contributed to first a trickle then a flood of new money into venture capital funds. The most successful case of the export of Silicon Valley- style venture capital practice is Israel where the government played an impotent role in encouraging the growth of venture capital. The government has a relatively good economic record; there is a minimum of corruption, massive investment in military, particularly electronics research and the excellent higher educational system. The importance of the relationships between Israelis and Jewish individuals in U.S. high-technology industry and the creation of the Israeli venture capital system should not be underestimated. For example, the well-known U.S. venture capitalist, Fred Adler, began investing in Israeli startups in the early 1970s, was involved in forming the first Israeli venture capital fund. Still the creation of Israeli venture capital industry would wait until the 1990s, when the government funded an organization Yozma, to encourage venture capital in Israel. Yozma received $100 million from the Israeli government. I invested $8 million in ten funds that were required to raise another $12 million each from “a significant foreign partner”, presumably an overseas venture capital firm. Yozma also retained $20 million to invest itself. These “sibling” funds were the backbone of a now vibrant community that invests in excess of $1 billion in Study Of Venture Capital In India
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Israel in 1999 (Pricewaterhouse 2000). In the U.S., venture capital emerged through an organic trial-and-error process, and the role of the government was limited and contradictory. In Israel the government played a vital role in a supportive environment in which private-sector venture capital had already emerged. The role of government differs. In the U.S. the most important role of the government in was indirect, in Israel it was largely positive in assisting the growth of venture capital, in India the role of the government has had to be proactive in removing barriers (Dossani and Kenney 2001). In every nation, the state has played some role in the development of venture capital. Venture capital is a very sensitive institutional from due to the high-risk nature of its investments, so the state must be careful to ensure its policies do not adversely affect its venture capitalists. Put differently, capricious governmental action injects extra risk into the investment equation. However, judicious, well planned government policies to create incentives for private sector involvement have in the appropriate lead to the establishment of what becomes an independent self-sustaining venture capital industry.
CURRENT INDUSTRY TRENDS Round Class Distribution The distribution of financing rounds by round class in mature markets is typically 30-40% in the early stage rounds, 20-25% in second round, and 35-40% in later rounds. In emerging market like China, the round distribution is very different as 68% in early stage and 25% in second round. In mature countries, the investments are made at early start up or product development phase. Study Of Venture Capital In India
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Industry Shifts
It is perhaps no surprise that contraction is mostly concentrated in information technology and the business, consumer and retail industries, give the huge number of companies financed in the technology and Internet boom of 19992000, and the subsequent down turn. The healthcare pool, driven by investment in biopharmaceuticals and medical devices, has actually grown to some degree in the different geographies. In United States, the healthcare pool has grown consistently over the last several years, both in terms of number of companies and cumulative dollars invested. Key observations on the pool of private companies by industry:o The information and technology pool has declined by just 6% since 2002; particularly due to increasing Interest in WEB 2.0 innovations. o Since 2003, the cumulative investment has declined in similar amounts. o The business, consumer and retail category has faced the steepest declines
across the board. In US the number had fallen 54% since 2002 and 54% in Europe since 2003. In Israel; it dropped 67% since 2004. o The number of healthcare companies has grown in U.S. since 2002 by 27% and the capital risen 30% in last five years. Capital investment to the pool of healthcare of companies dropped by 95 in Europe since 2003 and 9% in Israel since 2004. o Clean technology is a small but increasing element of the pool. There were 262 clean technology companies with a cumulative invested venture capital of U.S. $38 billion in 2007.
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Mega Trends Several global mega trends will likely have an impact on venture capital in the next decade:o Beyond the BRICs: - A new wave of fast growing economies is joining
the global growth leaders like Brazil, China, India And Russia. The beginning of venture capital activity has been seen in others countries such as Indonesia, Korea, Turkey and Vietnam. o The new multinationals: - A new breed of global company is emerging
from developing countries and redefining industries through low-cost advantage, modern infrastructure, and vast customer databases in their home countries. These companies are potential acquirers of developed market companies at all stages of growth. o Globalization of capital: - Changes in economic and financial landscape
are creating significant regional shifts in IPO activity. These changes have also sparked global consolidation alliances among stock exchanges. o Transformation of the CFO’s role and function: - With the globalization
and increasingly complex regulatory environment, CFOs have a wider range of responsibilities and finance function has been transformed to face broader mandates. o Clean Technology: - Clean technology is poised to become the first
break through sector of 21st century. Encompassing energy, air and water treatment, industrial efficiency improvements, new material and waste management etc. are playing very vital role globally because of which VC investors are enjoying rewards.
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GROWTH OF VENTURE CAPITAL IN GLOBAL
Growth of venture capital in global Clean technology venture investments in North America, Europe, China and India totaled US$5.6 billion in 557 deals. However, as these figures are preliminary, the firms expect the final figures could be up by as much as 10%. "Utilities continue to bring their capital and access to credit to the cleantech sector and are playing a key role in getting more projects off the ground. In 2009 we saw a surge in utility Power Purchase Agreement (PPA) announcements with Solar Thermal and Solar PV accounting for 80% of the total PPAs, while Wind saw increased capacity announcements in the second half of the year aided by the Study Of Venture Capital In India
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extension of the production tax credit," said Scott Smith, U.S. Clean Tech leader for Deloitte. "Additional project financing came from large corporations whose direct investments in cleantech increased by 14% in the second half of 2009 compared to the same period in 2008. Leading global utilities and non-utilities are likely to continue to see cleantech projects as an attractive investment from an economical and regulatory perspective." Venture investment was down 33% in 2009, compared to US$8.5 billion in 2008, yet investment in cleantech declined less than other sectors, despite the economic recession. The largest deal in all sectors was Solyndra’s US$198 million to expand its CIGS thin film production. The company has since filed for an IPO.
2009 GLOBAL VENTURE CAPITAL INDUSTRY SURVEY The 2009 Global Venture Capital Survey was sponsored by the Global Deloitte Telecom, Media & Technology (DTT TMT) industry group, in conjunction with the following venture capital associations throughout the world: • Brazilian Association of Private Equity & Venture Capital (ABVCAP) • British Private Equity & Venture Capital Association (BVCA) • Canada’s Venture Capital & Private Equity Association (CVCA) • European Private Equity & Venture Capital Association (EVCA) • Emerging Markets Private Equity Association (EMPEA) • Indian Venture Capital Association (IVCA) • Israel Venture Association (IVA) • Latin American Venture Capital Association (LAVCA) • Malaysian Venture Capital and Private Equity Association (MVCA) Study Of Venture Capital In India
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• National Venture Capital Association (NVCA) • Singapore Venture Capital & Private Equity Association (SVCA) • Taiwan Private Equity & Venture Capital Association (TVCA) • Zero2IPO The survey conducted with venture capitalists (VCs) in the Americas, Asia pacific (AP), Europe and Israel. There were 725 responses from general partners of venture capital firm with assets under management ranging from less than $100 million to greater than $1 billion. Multiple responses from the same firm were allowed, as the survey was a general measurement of the state of global investing from all general partners, not attitudes of specific firm. If respondents did not answer a question, the count for the question was adjusted accordingly. The highest number of respondents—35 percent—claimed assets under management totaling between $100 million and $499 million. Another 34 percent had managed assets that were less than $100 million, 17 percent had managed assets greater than $1 billion, and 14 percent had between $500 million and $1 billion in assets under management.
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40%
Assets under Management
35%
35% 30% 25% 20%
18%
17%
16%
14%
15% 10% 5% 0% $1-$49 million
$50-$99 million $100-$499 million $500-$1 billion
>$1 billion
Geographically, the breakdown of responses continues to be fairly representative of both the size and location of firms in the venture capital industry around the world. Forty-four percent of the respondents were from the United States, 21 percent from European countries (excluding the UK), 16 percent from Asia Pacific countries, 10 percent from the Americas (excluding the U.S.), 7 percent from the UK, and 2 percent from Israel.
Location of respondents 7%
16%
AP Europe Israel 21%
44%
The Americas U.S. UK
10%
2%
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Firm type 28% Venture Capitl Private Equity and Venture Capital 72%
Seventy-two percent of the respondents had a primary investment focus on venture capital while 28 percent were primarily focused on private equity and venture capital. And, this year, 52 percent of venture capitalists noted that they are investing outside of their home country. Given the severity of the current global recession, this year's survey focused on issues surrounding its impact on venture capitalists. The survey questions asked how the global recession is affecting strategy; how future investments are being planned, both by sector and region; what the anticipated size of the next fund will be and who VCs think their limited partners will be. We also wanted to know what countries they believe have the most to gain and lose in this new economy, as well as what they feel the role of government should be in fostering innovation. This year's report looks broadly at the results in a global context, but an appendix is included that breaks out survey responses by geographic regions—the U.S., the Americas (excluding the U.S.) Europe (excluding the UK), UK, AP and Israel. If you are interested in responses of investors in a specific region, we encourage you to check the appendix for those charts.
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CURRENT STRATEGIES FOR NEW GLOBAL ECONOMIC "The perfect storm" has become the cliché of choice to sum up the global economic recession of 2008-2009. Certainly, today's economic environment is dramatically different than the venture capitalists were operating in five years ago when the first Global Venture Capital Survey was launched. Five years ago, the venture capital community was recovering from the tech bubble bursting and was just beginning to see significant move towards the globalization of the venture capital industry. Today, the economy is in a far different place. But, there are still signs of optimism. VCs are more attuned to the global economy and we're seeing the maturation of some sectors—specifically semiconductors and telecom—while other sectors—clean technologies and life sciences—are emerging as areas with great growth potential. With this shake up in the economy, we are seeing venture capitalists make adjustments to their investment strategy in order to weather this storm and establish the foundation to thrive in the future. "It's been a difficult recession, but the industry is coping and making adjustments," said Mark Jensen, U.S. national managing partner of Deloitte and Touche LLP's Venture Capital Services. "They're moving forward and not sitting on their hands waiting for something to happen." In general, VCs are decreasing their overall investing dollars, focusing on their best companies and increasing their alloca- tion to later-stage investments. "We have not altered our fundamental strategic focus on early-stage health care investing in response to the recession," explained Kevin Lalande, managing director of Sante Ventures. "That said, new market realities and lingering uncertainty have factored prominently in our decisions about which specific opportunities to pursue of those consistent with our strategy. In the current environment, we are opting for fewer, more capital efficient Study Of Venture Capital In India
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deals in which the existing venture syndicate has enough reserve capacity to fund a company, if necessary, all the way to cash flow independence." Adjusting to a New Reality In short, the tourists have left, explained Mark Heesen, president of the NVCA. "Young entrepreneurs who thought they could get rich quickly with just a good idea are now gone and those now left standing recognize the challenges and tenacity needed to establish and build a sustainable business," he said. "Those out on the dustings trying to get funded are much more astute about the globalization of the economy and worldwide competition. They understand that the value of their company today is not what it will be six months from now and that if they want to be funded, it will likely be at a lower valuation than in the past." Lower valuations could present opportunities for VCs looking for a good deal. But are they spending? In fact, we see the larger firms eying a bigger slowdown than the smaller firms. Just more than half of respondents from firms managing $500 million or more are decreasing their level of investment, compared to about one in three of those managing $99 million or less.
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120%
100% 17%
18%
21%
12%
13%
37%
36%
51%
51%
$500-$1 Billion
>$1 billion
80%
60%
49%
42% 47%
40%
20%
40%
34%
32%
$1-$49 million
$50-$99 million
0%
increasinglevel of investment
$100-$499 million
same level of investment
Decreasin level of investment
Impact of the global recession on investment strategies-level of investment in terms of capital (by asset under management) However, the vast majority of firms are maintaining the same strategy when it comes to industry sector. At least seven out of 10 VCs—and the percentage increases with the size of the firm—plan to maintain the same strategy in terms of industry sector.
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120%
100% 27%
26%
73%
74%
18%
18%
17%
82%
82%
83%
80%
60%
40%
20%
0% $1-$49 MILLION
$50-$99 MILLION $100-$499 MILLION $500-$1 BILLION
Changing strategy in terms of industry sector
>$1 BILLION
Column1
Impact of the global recession on investment strategies-industry sector (by assets under management) "Our firm is interested primarily in potentially great companies that already have some revenue traction," said Patrick Sheehan, a partner with Environmental Technologies Fund. "We're trying to find situations where we understand customer need, and it's easier to do when there are existing customers. Our investing style hasn't changed with the recession; it's become more appropriate." What VCs are re-evaluating is the stage in which they're investing. Very few are shifting to early-stage investing. Instead, about half are maintaining their current strategy and a significant percentage are shifting their focus to later-stage and existing portfolio companies. No doubt this is due to both the strain on the capital markets and the fact that it's now taking longer for companies to be acquired and rare for them to go public. Investing in later-stage companies shortens the VC's gestation period and allows them to exit sooner. Study Of Venture Capital In India
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"In this environment, it pays to be either a very early-stage investor or a very late-stage investor," said Steve Fredrick, general partner of Grotech Ventures. "The classic Series B round, where a business is still finding its legs and remaining capital requirements are at best an estimate, carries more risk given higher burn rates and the climate's uncertainty around future financings. So, we're seeing reduced investment levels as firms either invest smaller sums in very early-stage companies, or invest traditional sums in fewer and much later-stage companies. The middle ground has been largely vacated." Impact of the global recession on investment strategies-stage (by assets under 120%
100%
8%
5%
7%
2%
4%
80%
60%
58%
58%
65%
54%
57%
40%
20%
34%
35%
30%
44%
39%
0% $1-$49 million
$50-$99 million
$100-$499 million
$500-$1 Billion
>$1 billion
Shifting Focus to later-stage companies and existing portfolio companies Maintaining current strategy in term of stage Shifting focus to early-stage companies
management) Five years ago, when the first Global Venture Capital Survey was conducted, the Study Of Venture Capital In India
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results indicated some interest in clean technologies and the life sciences. This year, regardless of fund size, we see tremendous interest from VCs in both of these sectors, especially clean technologies, where more than six out of 10 respondents anticipate their investment levels to increase and another three out of 10 will hold their investments at the same level.
Telecommunication
15%
56%
Semiconductors, Including electronics 6% Software
44%
New media/social networking
26%
Biopharmaceuticals
24%
60% 49%
28% 51%
63%
Consumer business
24% 0%
20%
18% 25%
48%
37%
Clean technologies
Increase
50%
22%
Medical device and equipment
29%
32% 51%
40%
Remain the same
12% 6%
25% 60%
80%
100%
120%
Decraese
In terms of total capital invested, anticipated level of investment change in select sectors, over the next three years
Among U.S., UK and Israeli investors, about half expect to increase their investments in cleantech, while about seven out of 10 AP respondents and European respondents expect their cleantech investments to increase. Two-thirds of respond- dents from the Americas plan to increase their cleantech investments. This interest could be because we're seeing an increase in government/political support for cleantech and VCs are looking more to government participation in both investments and incentives.
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AP
73%
Europe
71%
Israel
24%
24%
50%
the Americas
28%
55%
UK
38%
50%
0%
5%
50%
66%
US
3%
20%
43%
40%
Increase
60%
Remain the same
7%
7%
7%
80%
100%
120%
Decrease
In term of total capital Investment, anticipated level of investment in clean technologies, over the next three year (by location)
"Governments around the world are very supportive of creating a cleantech industry with tax credits and incentives," said Heesen. "In the U.S., it's now seen as an energy independence issue, a security issue and a jobs issue. And the public is more supportive of cleantech activities as more people are cognizant of the threat of global warming." But while this finding is significant, it's also important to note that with a couple of exceptions where the sectors have significantly matured—semiconductors and telecommunications—VCs expect their level of investment in other industries to remain the same or increase.
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Eastern Exposure Another trend that hasn't changed in the last five years is venture capitalists' interest in China and India. Regardless of the size of the firm, investors are intrigued by the investment possibilities of these two countries. "We are lucky to be sitting at the hub of what we believe will be the most exciting venture market in the coming years China," said Gavin Ni, founder, president and CEO of Zero2IPO. "If you take a look at the short-term, you see China will be the first to emerge out of the worldwide downturn. China is projecting 7 percent-plus GDP growth in 2009—the highest in the world. Then, looking beyond, you see a swelling middle class—but still a minority of the population—with money in their pockets to spend. That does not even scratch the surface of the eventual buying power of the largest population in the world—1.3 billion potential consumers." Half of all respondents expect their investment levels to increase in Asia (excluding India), while 43 percent expect to increase their investments in India over the next three years. In 2007, 41 percent of respondents indicated an interest in expanding their investment focus in Asia Pacific. About one-third expect to increase their investment levels in South America. Only 17 percent expect to increase their investments in North America, the same as 2007. Compared to North America, the numbers were only slightly better for Europe and the UK (25 percent) and Israel (19 percent). More than half of the respondents do intend to maintain their investment levels in Europe, while 21 percent expect those levels to decrease. This investment strategy is a change from 2007, when one-third of respondents indicated that they were interested in expanding their investment focus in Europe.
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Asia(excl. India)
50%
Europe and the UK
38%
25%
India
54%
21%
43%
Israel
19%
Nortgh America
17%
South America
47%
11%
62%
19%
60%
36% 0%
12%
20%
40%
Remain the same
22%
45% 60%
Increse
Decrease
19% 80%
100%
120%
In terms of total capital invested, anticipated level of investment change in select regions, over the next three year
When it comes to interest in Asia and India, UK respondents are the most enthusiastic, planning either to increase investment levels (67 percent and 58 percent, respectively) or keep them at the same levels (33 percent and 42 percent, respectively). But, about nine out of 10 U.S. VCs are also increasing or maintaining their investments in Asia and India and about the same number of respondents from Asia Pacific have similar plans.
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AP
61%
Europe
29%
52%
Israel
28%
20%
67%
the Americas
33%
46%
U.S
38%
40%
UK
15%
50%
11%
67% 0%
11%
20%
33%
40%
Increase
60%
Remain the same
80%
100%
120%
Decrease
In terms of total capital invested anticipated level of investment change in Asia Pacific (excl. India). Over the next three years (by location)
AP
57%
Europe(excl.UK)
36%
38%
48%
Israel
14%
83%
The Americas(excl.U.S)
46%
U.S UK
17% 31%
34%
20% Increase
23%
55% 58%
0%
7%
12% 42%
40% Remain the same
60%
80%
100%
120%
Decrease
In terms of total capital invested, anticipated level of investment change in India, over the next three year (by location)
In other words, noted Jensen, "Firms are now looking at the whole world in terms of their investing priorities. The world has gone global in venture capital and the firms are adapting their strategies accordingly." David Chao, co-founder and general partner of DCM, agrees. "The lines between Study Of Venture Capital In India
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whether a company is American, Asian or European are blurring because by necessity many start-ups today have multiple offices. Entrepreneurs can start companies anywhere they want in the world and pick locations where conditions are favorable and talent pools are available at reasonable prices." That perspective is reinforced when you see that investment interest in North America seems to be decreasing. Only 29 percent of VCs in the Americas (excluding the U.S.) plan to increase their investments in North American countries while 37 percent expect them to remain the same. Twenty-two percent of Israeli investors plan to increase their North American investments while 33 percent expect investment levels to remain the same. European investors (excluding the UK) are looking at a 16 percent increase and half expect their investments to remain the same. Only 15 percent of Asia Pacific VCs expect to increase their investment in North American countries while 40 percent expect it to remain the same. In the UK, a mere 14 percent plan on increasing their investments but 48 percent plan on keeping their levels the same. Even among U.S. VCs, only 16 percent plan to increase their North American investing levels while 71 percent expect their investment levels to stay as they are.
AP
15%
Europe(excl.UK)
16%
Israel
40% 50%
22%
the Americas(excl.U.S)
16%
UK
14% 0%
34%
33%
29%
U.S
45%
44% 37%
33%
71%
13%
48% 20% Increase
40%
38% 60%
Remain the same
80%
100%
120%
Decrease
In term of total capital Invested, anticipated level of investment change in North America, over the three year (by location) Study Of Venture Capital In India
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Why is there so much interest in China and India? China and India are emerging markets compared to North America, and the U.S. specifically, with great growth potential. Also, the strained exit markets in the U.S. and the impact of recent government policies appear to be discouraging investors from increasing their risk exposure in North America.
AP
9%
Europe(excl.UK)
29%
63%
26%
64%
Israel
57%
the Americas (excl.U.S)
43%
43%
U.S
14%
28%
UK
43%
52%
22% 0%
10%
20%
57% 20% Increase
40%
20% 60%
Remain the same
80%
100%
120%
Decrease
Venture capitalists anticipated level of investment in Europe and the UK, over the next three years (by location) At least a quarter of global VCs intend to increase their investments levels in Europe and the UK. This is mainly driven by VCs in the Americas (excluding the U.S.), among which 43 percent plan to invest more into Europe and the UK. However, another 43 percent of the VCs in that same area intend to reduce their investments in Europe and the UK. The most positive forecast comes from U.S. players, among which 28% expect to increase investments, while only 20% foresee a decrease. Israeli and Asia-Pacific VCs show the least interest in Europe and the UK... Fund Raising Despite the fact that the world is struggling with a recession, VCs are remarkably optimistic about their future funds. Most VCs believe that their next fund will be either Study Of Venture Capital In India
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larger than their existing fund or will be approximately the same size. And, that's across the board, regardless of the size of the venture firm or where they're located. Among those managing more than $1 billion, 24 percent project that their next fund size will increase while almost half expect it to remain the same. Less than a third anticipates a decrease. Those numbers are very close when it comes to those firms managing $500 million to $1 billion. As the size of the firm grows smaller, the firms grow more optimistic about the size of their next fund levels, with 60 percent of the smallest—those managing $1 million to $49 million— anticipating their fund levels will grow and another 28 percent stating that they'll remain the same. 120% 100% 80%
12%
13%
28%
29%
60%
19%
22%
33% 51%
40% 60%
58%
20%
28%
48%
49% 27%
24%
$500-$1 billion
>$1 billion
0% $1-$49 million
$50-$99 million Increase
$100-$499 million Remain the Same
Decrease
Projected fund size compared to current fund (by assets under management) The numbers are far more consistent when you look at this question regionally. Very little decrease in fund size is projected across the board. And, those projecting increases or stasis range from the Americas (excluding the U.S.) at 73 percent to the UK at 87 percent. The region anticipating the greatest increase in their next fund is Europe (excluding the UK) at 55 percent. Europe (excluding the UK) (15 percent) and the UK (13 percent) are the regions with the lowest expectations of decreased fund size in the Study Of Venture Capital In India
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future. 120% 100% 80% 60%
15%
21%
21%
27%
18%
43%
23%
43%
30%
30%
13% 44%
40% 20%
49%
55%
AP
Europe(excl.UK)
50%
36%
38%
43%
U.S
UK
0%
Increase
Israel
the Americas (excl.U.S)
Remain the Same
Decrease
Projected fund size compared to current fund (by location) Where around the world is this money coming from? Over the next five years, the vast number of respondents expects that the number of their limited partner investors located outside their home country or region will remain the same or increase, again regardless of the size of the firm or their home country. UK investors, at 97 percent, appear to be the most eager to engage investors outside of their home country, but even 92 percent of those VCs responding from Europe (excluding the UK) project that the number of their limited partners located outside of their region will remain the same or increase. 120% 100% 80% 60%
15% 31%
9%
5%
4%
30%
43%
43%
61%
52%
54%
the Americas (excl.U.S)
U.S
UK
14%
32% 64%
40% 20%
8%
54%
60% 21%
0% AP
Europe(excl.UK)
Increase
Israel
Remain the Same
Study Of Venture Capital In India
Decrease
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Anticipated number of investors (limited partners) located outside the venture capitalists home country /region, over the next five years (by location) There is, however, a disconnection between the optimism these respondents expressed and where the investment funds will actually come from. We asked venture capitalists how the current economic crisis will affect the various types of limited partners' willingness to invest over the next three years, and while they plan to increase the size of their funds and level of investing, they nevertheless see their traditional investor base —commercial banks, investment banks, corporate operating funds, insurance companies and public pension funds—to be drying up. "Limited partners were cutting their venture allocations and number of managers before this economic period began. Like all good investors, they are tracking results and culling their herd. While they may have taken more risks in years past to increase their dollars or number of investments, no doubt the jury is starting to come in," explained Ray Rothrock, managing general partner at Venrock. "However, venture is still popular for LPs, if they can find the right groups. I would think they, like VCs seeking great entrepreneurs everywhere, are seeking great VCs everywhere. It makes perfect sense." Among all respondents, 88 percent see commercial bank investors' willingness to invest in venture capital over the next three years decreasing. Another 87 percent were just as pessimistic over investment banks. About six out of 10 were not sanguine about corporate operating funds, insurance companies, corporate venture capital, and endowments decreasing as limited partners. Intriguingly, venture capitalists are looking to governments as their financial partners. More than half of VCs see an increase in governments as willing investment partners with another fourth looking at an increase by family offices.
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Commercial banks
4% 8%
88%
Investment banks
4% 8%
87%
Corporate operating funds
15%
Corporate venture capital Endowments
22%
23% 9%
Family offices
29%
59% 31%
14%
Fund of funds
56% 38%
governments
54% 19% 9%
40% 21%
24%
16%
Public pension funds
15%
65% 33%
51%
30% 20%
Increase
24%
57%
26%
Private pension funds
0%
47%
30%
22%
Individuals and families
48%
32% 23%
Foundations
Insurance companies
63%
55% 40%
Remain the Same
60%
80%
100%
120%
Decrease
The current economic crisis will affect the following types of limited partners' willingness to invest in the venture capital asset class, over the next three years 22% by corporate venture capital, followed by fund of funds. This is significant, given a tradition of reliance on private capital in the United States. Six out of ten Asia Pacific respondents also believe there will be an increase in activity on the part of government. Among Israeli respondents, that number is almost half of respondents, while two-thirds of those in the Americas (excluding the U.S.), Europe (excluding the UK) and the UK see government investment increasing. Of course, these questions were being answered at a very negative point in time (February-March 2009), and with the financial challenges traditional investors are facing, it's clear that the VC community is increasingly looking to the government for assistance. But even so, it's unclear how they can assert that their funds will increase or Study Of Venture Capital In India
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remain the same when there are fewer limited partners and there's less capital available. Winner is… Apparently, among venture capitalists, there's China and there's everyone else. That was clearly demonstrated in response to earlier questions about where VCs plan to increase their investments. It was further validated when VCs were asked directly which country has the most to gain in overall stature over the next three years. Most respondents from around the globe chose China either first or second on their lists. "A question I frequently get is whether China's recent growth in venture investing is sustainable. I would say, 'of course,'" said Zero2IPO president and CEO, Gavin Ni, "I interact with China's entrepreneurs every day. There is a real drive to win, and there's no stopping until the game is won. Others see the victory and want to win, too. And, the rules of the game from China's government continue to drive strong business growth." China was a clear favorite among U.S. investors with 42 percent of respondents believing that the country has the most to gain. Only 24 percent held that conviction for the U.S., followed by 12 percent for India, 5 percent for Brazil and 2 percent for Russia. Among VC respondents from the Americas (excluding the U.S.), 35 percent look to Brazil while 18 percent see China being a clear winner, followed by Canada at 16 percent, India at 14 percent and the U.S. trailing at 12 percent. Israeli respondents selected the U.S. with 36 percent, followed by China (29 percent), Brazil and Israel (14 percent) and India (7 percent). More than half of Asia Pacific respondents were enthusiastic about China, while 20 percent looked at India as having the most gain, followed by Japan (6 percent), the U.S. (5 percent) and Afghanistan (4 percent). Almost three out of 10 respondents from Europe (excluding the UK) see China as having the most to gain. Sixteen percent saw that potential from India and the U.S., Study Of Venture Capital In India
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followed by Brazil (7 percent) and France (6 percent). Finally, 35 percent of UK respondents eyed China as the clear winner, with India following at 24 percent, the U.S. at 9 percent and the United Arab Emirates at 6 percent.
China
42%
U.S
24%
India
12%
Brazil
5%
Russia
2% 0%
5%
10%
15%
20%
25%
30%
35%
40%
45%
Top five locations viewed as having the most to gain in terms of overall economic stature, over the next three years (U.S. respondents)
Brazil
35%
China
18%
Canda
16%
India
14%
U.S
12% 0%
5%
10%
15%
20%
25%
30%
35%
40%
Top five locations viewed as having the most to gain in terms of overall economic stature, over the next three years (the Americas (excl. U.S) respondents) On the opposite end of the spectrum, across the board the U.S. consistently was perceived as having the most to lose in economic stature—even by more than half of Study Of Venture Capital In India
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U.S. respondents. This shouldn't be surprising, given that having created venture capital; the U.S. has long had preeminent status. With the rest of the world looking at the future of the industry and where people will be investing, there's no question among any respondents that the U.S.'s elevated status cannot continue to be taken for granted, particularly given this new economic environment and the entrepreneurial ecosystems that are emerging around the world.
CHINA, INDIA AND ISRAEL WILL BE MOST ATTRACTIVE GROWTH OF VENTURE CAPITAL
While overall investment levels are expected to be lower, the KPMG survey found that 2009 funding will be targeted toward key geographic regions and industry segments. In addition, the KPMG survey found that venture investors do not see the IPO market improving for at least a year, and only a small portion of portfolios are poised for exit in 2009. While overall investment levels are expected to be lower, the KPMG survey found that 2009 funding will be targeted toward key geographic regions and industry segments. Respondents indicated that China, India and Israel will be the most attractive regions for venture capital, while cleantech, life sciences, mobile and digital entertainment will remain the hot industries. ‘While overall funding will decrease, venture capitalists will continue to invest in those areas they feel will provide the best return on investment,’ said Brian Hughes, KPMG partner based in Philadelphia and co-leader of its venture capital practice. ‘Not surprisingly, they continue to be bullish on emerging markets and industry sectors, such as cleantech, that project near term growth.’ In polling 270 venture capitalists, corporate buyers and entrepreneurs, KPMG found that 73 per cent of respondents expect their firm’s revenue to stay the same Study Of Venture Capital In India
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or increase in 2009. In fact, 52 per cent expect revenue growth to increase, including 37 percent who predict revenue growth in excess of 10 percent. Only 26 per cent see declining revenues in the year ahead. The outlook on sustained revenue growth is the silver lining to a tough year that has seen the fewest venture capital portfolio companies go public since 1977. In fact, the KPMG survey found that venture capitalists expect the negative IPO trend to continue in 2009, with 88 per cent of respondents expecting IPO activity to stay the same or to decline further. Additionally, 82 per cent of venture capitalists surveyed indicated that they do not anticipate recovery in the IPO market for at least 12 months. The outlook on IPO activity has clearly impacted venture capital exit opportunities, and 80 per cent of respondents said less than 20 per cent of their portfolio is poised for exit in 2009. The decline in IPO opportunities coupled with the expected, continued regression in valuations of venture-backed companies, may influence the venture capital community to see acquisitions as liquidity and exit opportunities. When asked about valuation of venture backed companies, 84 per cent of respondents predicted decreasing valuations, while only six percent see an increase. With valuations declining, 58 percent of respondents see M&A increasing next year. ‘There is no question that economic and market conditions have made the current environment difficult for venture capitalists,’ said Packy Kelly, KPMG partner based in Silicon Valley and co-leader of its venture capital practice. ‘These conditions may lead investment firms to focus on the health of existing portfolio companies and slow the pace of investment. But the commercialization of products in the clean tech sector probably contributes to a large degree to the expected growth in revenue of emerging companies.
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According to the KPMG survey, the outlook on investment levels and deal volume for 2009 mirrors the views on IPO activity. In fact, 74 per cent of respondents expect overall venture investment to decrease and 82 per cent see a decline in deal volume. While it is uncertain when venture investment will trend back up, 50 per cent of venture capitalists surveyed do not expect that up-tick to occur until the second half of 2009, while 32 per cent predict it will not happen until 2010 or beyond. Only 18 per cent predict the turnaround in venture funding will start in the first two quarters of 2009. While overall investment levels are expected to be lower, the KPMG survey found that 2009 funding will be targeted toward key geographic regions and industry segments. Respondents indicated that China, India and Israel will be the most attractive regions for venture capital, while clean tech, life sciences, mobile and digital entertainment will remain the hot industries. ‘While overall funding will decrease, venture capitalists will continue to invest in those areas they feel will provide the best return on investment,’ said Brian Hughes, KPMG partner based in Philadelphia and co-leader of its venture capital practice. ‘Not surprisingly, they continue to be bullish on emerging markets and industry sectors, such as cleantech, that project near term growth.” Another indication of the current market conditions’ negative impact on the venture community can be seen in attitudes toward start-up investing. Ninetyseven per cent of venture capitalists surveyed said the credit crisis will have an adverse effect on the availability of venture financing to start-up companies, and 73 per cent said it will be harder to get debt or lease financing.
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PRIMARY REASONS FOR VENTURE CAPITAL INVESTORS EXPANDING GLOBALLY
Among the primary reasons VCs around the world are interested in investing globally is to take advantage of higher quality deal flow- particularly in the United States, China, parts of Europe, and Israel. This is especially true for nonU.S. firms. A second reason is the emergence of an entrepreneurial environment, again and notably in China, but also India. Among U.S. firms, this latter rationale is the most significant motivation for investing globally. Other motivators include access to quality entrepreneurs, diversification of industry and geographic risk and access to foreign markets.
40 34
35 30
15
US
non US
28
25 20
global
31
22 19 16 12 12 12
17 14
14 11
16 12 9
10
5 6
5
5
2
3
0
Primary reasons why investors expanding globally venture Study Of Venture Capital In India
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Above chart reveals that 19% U.S. respondents are expand globally for generating high quality deal flow. And 31% believe that expand globally for getting benefit of emergence of entrepreneurial environment. Whit 17% respondents of non U.S are expanding globally for diversification of industry and geographic risk. All respondents are least concerned about low cost of locations.
INVESTING GLOBALLY BY INVESTING LOCALLY One way to build a comfort zone for global investing and to take advantage of opportunities abroad is to invest locally in companies with operations outside their home country, as opposed to investing directly in foreign countries. This year, there was a significant increase in the number of respondents who indicated that a sizeable number of their portfolio companies have a considerable amount of operations outside the country in which they are headquartered. A significant number, 88 percent of U.S. respondents and 82 percent of non-U.S. respondents, indicated that at least some portion of their portfolio has significant operations outside of the country of headquarters. Again, moderation is evident as more than half of those indicated that less than 25 percent of their portfolio had significant foreign operations. Nonetheless, these numbers have increased significantly from prior years and reflect an increased trend in this method of investment.
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35
32 32 32
30
30 25
25
21
20 15
18
17
15
18 15
12
12 9
10
5
5
2
3
2
0 0%
1-10%
11-25% Global
26-50% U.S.
51-75%
76-100%
Non- U.S.
Percentage of venture capital firms portfolio companies that give significant operation outside the country Globally and among U.S. respondents, China has become the primary choice for relocating manufacturing operations, while India is the primary choice For R&D operations. Engineering operations tend to land in India as well, but China is also a popular location. For back office activities, again the choice is India. However, for non-U.S. respondents, the United States is the primary choice for R&D and engineering while European respondents preferred Central and Eastern Europe for manufacturing R&D and Engineering. One reason why this approach is taking off is that investors are concerned about intellectual property and liquidity events and in general they feel a need to be closer to top management. This also reflects a new reality from day one companies that reflect a larger global entrepreneurial sector. This strategy allows the portfolio companies (and investors) to take advantage of cost saving and access o talent in foreign markets while protecting intellectual property. There are however concerns that such a trend could result in the U.S. losing its R&D edge.
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IMPEDIMENTS TO GLOBAL INVESTING For all the benefits of overseas investing, VC firms encounter a variety of risks and challenges abroad. Both U.S. firms and non-U.S. firms perceive the U.S as the country where the cost of complying with regulation is too high. In fact, the percentage of nonU.S. respondents who indicated this as a concern leaped from 28% last year to 41% this year. Globally, 4% more, 44% saw this issue as a concern. 46% of U.S. respondents believe the cost of complying with corporate governance is too high.
Top markets where the cost of complying with corporate governance regulation too high From the above chart we can see that most of the respondents believe that U.S. has high cost of complying with Corporate Governance regulation and China, India, Israel and Canada cost of complying with corporate governance regulation too high.
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VENTURE CAPITAL IN INDIA
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EVOLUTION OF VENTURE CAPITAL INDUSTRY IN INDIA The first major analysis on risk capital for India was reported in 1983. It indicated that new companies often confront serious barriers to entry into capital market for raising equity finance which undermines their future prospects of expansion and diversification. It also indicated that on the whole there is a need to review the equity cult among the masses by ensuring competitive return on equity investment. This brought out the institutional inadequacies with respect to the evolution of venture capital. In India, the Industrial Finance Corporation of India (IFCO) initiated the idea of Venture Capital when it established the Risk Capital Foundation in 1975 to provide seed capital to small and risky projects. However the concept of venture capital financing got statutory recognition for the first time in the fiscal budget for the year 1986-87. The venture Capital companies operating at present can be divided into four groups: Promoted by All-India Development Financial Institutions Promoted by State Level Financial Institutions Promoted by Commercial Banks Private Venture Capitalists. Promoted by all India Development Financial Institutions Study Of Venture Capital In India
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The IDBI started a Venture Capital in 1976 as per the long term fiscal policy of government of India, with an initial of Rs. 10 Cr. which raised by imposing a chess of 5% on all payment made for the import of technology know-how projects requiring funds from Rs.5 Lacks to Rs.2.5Cr. Were considered for financing. Promoter’s contribution ranged from this fund was available at a concessional interest rate of 9% (during gestation period) which could be increased at later stages. The ICICI provided the required impetus to Venture Capital activities in India, 1986 it started providing venture Capital finance in 1998 it promoted, along with the Unit trust of India (UTI) Technology Development and information Company of India (TDICI) as first venture Capital company registered under the companies act, 1956. The TDICI may provide financial assistance to venture capital undertaking which are set up by technocrat entrepreneurs, or technology information and guidance services. The risk capital foundation established by the industrial finance corporation of India (IFCI) in 1975, was converted in 1988 into the Risk Capital and Technology Finance Company (RCTC) as a subsidiary company of the IFCI the rate provides assistance in the form of conventional loans, interest free conditional loans on profit and risk sharing basis or equity participation in extends financial support to high technology projects for technological up gradations. The RCTC has been renamed as IFCI Venture Capital Funds Ltd. (IVCF) Promoted by State Level Financial Institutions In India, the State Level Financial Institutions in some states such as Madhya Pradesh, Gujarat, Uttar prades, etc., have done an excellent job and have provided venture capital to a small scale enterprise. Several successful Study Of Venture Capital In India
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entrepreneurs have been the beneficiaries of the liberal funding environment. In 1990, the Gujarat Industrial Investment Corporation, promoted the Gujarat Venture Financial Ltd (GVFL) along with other promoters such as the IDBI, the World Bank, etc., the GVFL provides financial assistance to business in the form of equity, conditional loans or income notes for technologies development and innovative products. It also provides finance assistance to entrepreneurs. The government of Andhra Pradesh has also promoted the Andhra Pradesh Industrial Development Corporation (APIDC) venture capital ltd. to provide venture capital financing in Andhra Pradesh. Promoted by Commercial Banks Canbank Venture Capital Fund, State bank Venture Capital Fund and Grindlays bank Venture Capital Fund have been set up the respective commercial banks to undertake venture capital activities. The State bank Venture Capital funds provides financial assistance for bought out deal as well as new companies in the form of equity which it disinvests after the commercialization of the project. Canbank Venture Capital Funds provides financial assistance for proven but yet to be commercially exploited technologies. It provides assistance both in the form of equity and conditional loans. Private venture Capital Funds Several private sector venture capital funds have been established in India such as the 20th Centure Venture Capital Company, Indus venture capital Funds, Infrastructure Leasing and financial Services Ltd. Some of the companies that have received funding through this route include: Study Of Venture Capital In India
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o Mastek, one of the oldest software house in India
o Ruskan software, Pune based software consultancy o SQL Star, Hyderabad based training and software development consultancy o Satyam Infoway, the first private ISP in India o Hinditrom, makers of embedded software o Selectia, provider of interaction software selectior o Yantra, ITL Infosy’s US subsidiary, solution for supply chain management o Rediff on the Net, India website featuring electronic shopping, news, chat etc.
OBJECTIVE AND VISION FOR VENTURE CAPITAL IN INDIA Venture capitalists finance innovation and ideas which have potential for high growth but with inherent uncertainties. This makes it a high-risk, high return investment. Apart from finance, venture capitalists provide networking, management and marketing support as well. In the broadest sense, therefore, venture capital connotes financial as well as human capital. In the global venture capital industry, investors and investee firms work together closely in an enabling environment that allows entrepreneurs to focus on value creating ideas and allows venture capitalists to drive the industry through ownership of the levers of control, in return for the provision of capital, skills, information and complementary resources. This very blend of risk financing and hand holding of entrepreneurs by venture capitalists creates an environment particularly suitable for knowledge and technology based enterprises.
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Scientific, technology and knowledge based ideas properly supported by venture capital can be propelled into a powerful engine of economic growth and wealth creation in a sustainable manner. In various developed and developing economies venture capital has played a significant developmental role. India, along with Israel, Taiwan and the United States, is recognized for its globally competitive high technology and human capital. India has the second largest English speaking scientific and technical manpower in the world.
The Indian software sector crossed the Rs 100 billion mark turnover during 1998. The sector grew 58% on a year to year basis and exports accounted for Rs 65.3 billion while the domestic market accounted for Rs 35.1 billion. Exports grew by 67% in rupee terms and 55% in US dollar terms. The strength of software professionals grew by 14% in 1997 and has crossed 1, 60000. The global software sector is expected to grow at 12% to 15% per annum for the next 5 to 7 years. Recently, there has also been greater visibility of Indian companies in the US.
Given such vast potential not only in IT and software but also in the field of service industries, biotechnology, telecommunications, media and entertainment, medical and health services and other technology based manufacturing and product development, venture capital industry can play a catalytic role to put India on the world map as a success story.
VENTURE CAPITAL INDUSTRY LIFE CYCLE IN INDIA Study Of Venture Capital In India
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From the industry life cycle we can know in which stage venture capital are standing. On the basis of this management can make future strategies of their business.
Introduction
2000
2001
2002
Growth
2003
2004
2005
2006
2007
2008
2009
The growth of venture capital in India has four separate phases:
Phase I- formation of TDICI in 80’s and regional funds as GVFL & APIDC in early 90s.
The first origin of modern venture capital in India can be traced to the setting up of a technology Development Funds in the year 1987-88, though the levy of access on all technology import payment. Technology development fund was stated to provide financial support to innovative and high risk technological programmers through the Industrial development bank of India. The first phase was the initial phase in which the concept of venture capital got wider acceptance. The first period did not really experience any substantial growth of venture capitals. The 1980’s were marked by an increasing disillusionment with the trajectory of the economic system and a belief that liberalization was needed. The liberalization process started in 1985 in a limited
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way. The concept of venture capital received official recognition in 1988 with the announcement of the venture capital guidelines. During 1988 to 1992 about 9 venture capital institutions came up in India. Though the venture capital funds should operate as open entities, Government of India controlled them rigidly. One of the major forces that induced Government of India to start venture funding was the World Bank. The initial funding has been provided by World Bank. The most important feature of the 1988 rules was that venture capital funds received the benefit of a relatively low capital gains tax rate which was lower than the corporate rate. The 1988 guidelines stipulated venture capital funding firms should meet the following criteria: o Technology involved should be new, relatively untried, very closely held, in the process of being taken from pilot to commercial stage or incorporate some significant improvement over the existing ones in India. o Promoters/entrepreneurs using the technology should be relatively new, professionally or technically qualified, with inadequate resources to finance the project. Between 1988 and 1994 about 11venture capital funds became operational either through reorganizing the business or through new entities. All these followed the Government of India guidelines for venture capital activities and have primarily supported technology oriented innovative business started by first generation entrepreneurs. Most of these were operated more like a financing operation. The main feature of this phase was that the concept got accepted. Venture capitals become operational in India before the liberalization process started. The context was not fully ripe for growth of venture capitals. Till 1995 the venture capital operated like any bank but provided funds without collateral. The first stage of the venture capital industry in India was plagued by Study Of Venture Capital In India
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in experienced management, mandates to invest in certain states and sectors and general regulatory problems. Many public issue by small and medium companies have shown that the Indian investor is becoming increasingly wary of investing in the projects of new and unknown promoters. The liberation of the economy and toning up of the capital market changed the economic landscape. The decisions relating to issue of stocks and shares was handled by an office namely: Controller of capital issues (CCI). According to 1988 venture capital guideline, any organization requiring starting venture funds have to forward an application to CCI. Subsequent to the liberalization of the economy in 1991, the office of CCI was abolished in May 1992 and the powers were vested in Securities and Exchange Board of India (SEBI). The Securities and Exchange Board of India Act, 1992 empower SEBI under section 11(2) thereof to register and regulate the working of venture capital funds. This was done in 1996, through a government notification. The power to control venture funds has been given to SEBI only in 1995 and the notification came out in 1996. Till this time venture funds were dominated by Indian firms. The new regulations became the harbinger of the second phase of the venture capital growth.
Phase II- Entry of Foreign Venture Capital Funds (VCF) between 19951999
The second phase of venture capital growth attracted many foreign institutional investors. During this period overseas and private domestic venture capitalists began investing in VCF. The new regulations in 1996 helped in this. Though the changes proposed in 1996 had a salutary effect, the development of venture capital continued to be inhibited because of the regulatory regime and restricted the FDI environment. To facilitate the growth of venture funds, SEBI appointed a committee to recommend the changes needed in the venture capital funding context. This coincided with the IT boom as well as the success of Silicon Valley Study Of Venture Capital In India
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startups. In other words, venture capital growth and IT growth co-evolved in India.
Phase III-(2000 onwards)- Venture capital becomes risk averse and activity declines:
Not surprisingly, the investing in India came “crashing down” when NASDAQ lost 60% of its value during the second quarter of 2000 and public markets (including those in India) also declined substantially. Consequently, during 20012003, the venture capitals started investing less money and in money and in more mature companies in an effort to minimize the risks. This decline broadly continued until 2003.
Phase IV- (2004 onward)- Global venture capitals firms actively investing in India
Since India’s economy has been growing at 7%-8% a year, and since some sectors, including the services sector and the high end manufacturing sector, have been growing at 12%-14% a year investors renewed their interest and started investing again in 2004 the number of deals and the total dollars invested in India has been increasing substantially.
GROWTH OF VENTURE CAPITAL IN INDIA
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Growth of Venture Capital in India The venture capital is growing 43% CAGR. However, in spite of the venture capital scenario improving, several specific Venture Capital funds are setting up shop in India, with the year 2007 having been a landmark year for venture capital in India. The no of deals are increasing year by year. The no of deal in 2003 only 56 and now in 2007 it touch the 387 deals. The introduction stage of venture capital industry in India is completed in 2003 after that growing stage of India venture capital industry is starrted. Tere are 160 venture capital firms/funds in India. In 2006 it is only but in 2007 the number of venture capital firms are 146. The reason is good position of capital market. But in 2008 no of venture capital firms increase by only 14 the reason is crashdown of capital market by 51%. The no of venture capital funds are increasing year by year 2000
2001
2002
2003
2004
2005
2006
2007
2008
81
77
78
81
86
89
105
146
160
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NO. OF VC FIRMS IN INDIA
180
160
160 S M IR F C V F O . O N
146
140 120 100
105 81
80
77
78
81
2001
2002
2003
86
89
2004
2005
60 40 20 0 2000
2006
2007
2008
YEARS
Venture capital growth and industrial clustering have a strong positive correlation. Foreign diect investment, starting of R&D centres, availability of venture capital and growth of entreneurial firms are getting concentrated into five clusters. The cost of mnitoring and the cost of skill acquisition are lower in clusters, especially for innovation. Entry costs are also lower in clusters. Cerating enetrepreneursship and stimulating innovation in clusters have to become a major concern of public policy makers. This is essential becouse only when the cultural context is conductive for risk management venture capital will take-of. Clusters support innovation and facilitates risk bearing. Venture capital prefer clusters because the information costs are lower. Policies for promoting dispersion of industries are becoming redundant after the economic liberalization. The venture capital firm invest their money in most developning sectors like health care, IT-ITes, Telecom, Bio-technology, Media & Entretainment, shipping & ligistics etc.
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Total investment 685
1284
988
1101
3979
1628
478
1638
615 1839
IT & ITES
BFSI
Healtcare & Lifesciences
Media& Entertinment
Telecom
Manufacturing
Eng & constrution
Energy
Shipping & Logistics
Others
Total sector wise venture capital investment Now venture capital is nascent stage in India. Now due to growth of sector, the venture capital industry is also growing. The top most players in the industries are ICICI venture capital fund, IT&FS venture capital fund, Canbank.
2009 VENTURE CAPITAL INVESTMENT IN INDIA
Venture Capital firms invested $475 million in 92 deals during 2009, down from the $836 million invested across 153 deals in the previous year, according to a study by Venture Intelligence and Global-India Venture Capital Association. Venture capital firms, however, began to increase the pace of their investments in Indian companies in the October-December quarter, making 42 investments Study Of Venture Capital In India
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worth $265 million, compared to 23 investments worth $102 million in the comparative period a year earlier, the study said. "The strong recovery in investment activity in the last quarter of 2009, as well the rising interest among global investors towards emerging markets like India, is quite encouraging for the growth of the sector," Sudhir Sethi, director of the Global-India Venture Capital Association, said in a statement. "During 2010, we expect significant follow-on investments into companies that raised Series a round (first round) in the past two to three years as well as a rise in exit activity as the global economic recovery gathers pace," he added. The information technology and IT-enabled services industry retained its status as the favorite among venture capital investors during 2009, but the industry's share declined to about 43% of total investments from about 55% in 2008. Other industries that attracted significant investor attention during the period included financial services, healthcare and life sciences, and alternative energy. Within IT and IT-enabled services, online services companies retained their status as the favorite sector, accounting for about 39% of the investments during 2009. Investmentin Area 10% 15% 50%
25%
South India (47%in the total value) North India (12% in the total value)
Western India (29%in the total value) East India (12%in the total value)
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Companies based in south India accounted for 50% of all venture capital investments (47% by value) during 2009. Their peers in western India accounted for 25% of the pie (29% by value) while companies in north India accounted for 15% of the investments (12% by value). Among cities, companies headquartered in Bangalore and Mumbai were the favorites among venture capital investors during 2009, with the former attracting 29 investments and the latter 15. The Delhi National Capital Region accounted for 11 investments, followed by Hyderabad with 9 investments.
NEED FOR GROWTH OF VENTURE CAPITAL IN INDIA People in developing countries are poor in part because they have far less capital than people in industrial countries. Because of this shortage, workers have little in the way of specialized machinery and equipment, and firms lack money to obtain more equipment. As a result, productivity of workers in developing countries is low compared with that of workers in industrial countries. Financialresource flows from industrial to developing countries are an obvious means to overcome this inequality. But financial resources are not enough. Some developing countries have natural resources such as oil or minerals that, when sold on world markets, have provided large amounts of money. In many cases the money has failed to stimulate sustained economic growth or increased productivity and income for the average person. In part, failure to use capital productively results from the way these resources flow. In some countries the government gets the money, which it uses to perpetuate itself through military spending or through increased consumption spending. In other cases, resources flow to wealthy individuals who use them to maintain high levels of conspicuous consumption. Study Of Venture Capital In India
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India is still developing country. In India, a revolution is ushering in a new economy, wherein entrepreneurs mind set is taking a shift from risk adverse business to investment in new ideas which involve high risk. The conventional industrial finance in India is not of much help to these new emerging enterprises. Therefore there is a need of financing mechanism that will fit with the requirement of entrepreneurs and thus it needs venture capital industry to grow in India. Few reasons for which active Venture Capital Industry is important for India include:
Innovation: Needs risk capital in a largely regulated, conservation, legacy
financial system
Job Creation: large pool of skilled graduates in the first and second tier
cities
Patient capital: Not flighty, unlike FIIs
Creating new Industry Clusters: Media, Retail, Call Centers and back
office processing, trickling down to organized effort of support services like Office services, Catering, Transportation.
REGULATORY AND LEGAL FRAMEWORK At present, the Venture Capital activity in India comes under the purview of different sets of regulations namely: The SEBI (Venture Capital Funds) Regulation, 1996[Regulations] lays down the overall regulatory framework for registration and operations of venture capital funds in India. The Indian Trust Act, 1882 or the company Act, 1956 depending on whether the fund is set up as a trust or a company. Study Of Venture Capital In India
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The foreign investment Promotion Board (FIPB) and the RBI in case of an offshore fund. These funds have to secure the permission of the FIPB while setting up in India and need a clearance from the RBI for any repatriation of income. The Central Board of Direct Taxation (CBDT) governs the issues pertaining to income tax on the proceed from VC funding activity. The long term capital gain tax is at around 10% in India and the relevant clauses to VC may be found in Section 10(sub section 23) Overseas venture capital investments are subject to the Government of India Guidelines for Overseas Venture Capital Investment in India dated September 20, 1995. For tax exemptions purposes venture capital funds also needs to comply with the Income Tax Rules made under Section 10(23FA) of the Income Tax Act.
MAJOR REGULATORY FRAMEWORKS FOR VENTURE CAPITAL INDUSTRY VC & FVCI
SEBI
RBI
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FIPB
TAX Page No: 115
• SEBI (VCF) Reg. 1996 • SEBI(FVCI) Reg.2000 • SCR Act.1956 • SEBI(SAST) Reg.1997 • SEBI(DIP)Guidelines ,2000 • SEBI Act,1992
•
FEMA,
1999 • Transfer or issue of security by a person resident outside India regulation 2000
•
FDI policy • Investme nt approvals • Press Notes
• IT Act, 1961 • DTAA Singapore Mauritius Others
Major Regulatory frameworks for venture capital industry In addition to the above, offshore funds also require FIPB/RBI approval for investment in domestic funds as well as in Venture Capital Undertakings (VCU). Domestic funds with offshore contributions also require RBI approval for the pricing of securities to be purchased in VCU likewise, at the time of disinvestment, RBI approval is required for the pricing of the securities. Definition of venture capital fund: The Venture Capital Fund is now defined s a fund established in the form of a Trust, a company including a body corporate and registered with SEBI which: Has a dedicated pool of capital; Raised in the manner specified under the regulations; and To invest in venture capital undertaking in accordance with the regulation. Definition of Venture Capital Undertaking: Venture Capital Undertaking means a domestic company: Whose share are not listed on a recognized stock exchange in India
Which is engaged in business including such activities or sectors which are specified in the negative list by the Board with the approval of the Central
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Government by notification in the Official Gazette in this behalf? The negative list includes real estate, non-banking financial services, gold financing, activities not permitted under the Industrial Policy of the Government of India. Minimum contribution and fund size: the minimum investment in a Venture Capital Fund from any investor will not be less than Rs.5 lacks and the minimum corpus of the fund before the fund can start activities shall be at least Rs.5 corers. Investment Criteria: The earlier investment criterion has been substituted by new investment criteria which has the following requirements: Disclosure of investment strategy; Maximum investment in single venture capital undertaking not to exceed 25% of the corpus of the fund; Investment in the associated companies not permitted; At least 75% of the investible funds to be invested in unlisted equity shares or equity linked instruments; Not more than 25% of the investible funds may be invested by way of; o Subscription to initial public offer of a venture capital undertaking whose shares are proposed to be listed subject to lack in period of one year; o Debt or debt instrument of a venture capital undertaking in which the venture capital funds has already made an investment by way of equity. It has also been provided that Venture Capital Fund seeking to avail benefit under the relevant provisions of the Income Tax Act will be required to divest from the investment within a period of one year from the listing of the Venture Capital Undertaking. Study Of Venture Capital In India
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Disclosure and Information to Investors: in order to simplify and expedite the process of fund raising, the requirement of filing the Placement memorandum with SEBI is dispensed with and instead the fund will be required to submit a copy of Placement Memorandum/ copy of contribution agreement entered to with the investors along with the details of the fund raiser for information to SEBI. Further, the contents of the Placement Memorandum are strengthened to provide adequate disclosure and information to investors. SEBI will also prescribe suitable reporting requirement from the fund on their investment activity. QIB status for Venture Capital funds: the venture capital funds will be eligible to participate in the IPO through book building route as qualified Institutional Buyer subject to compliance with the SEBI (Venture Capital Fund) Regulations. Relaxation in Takeover Code: the acquisition of share by the company or any of the promoters from the Venture Capital Funds under the terms of agreement shall be treated on the same footing as that of acquisition of shares by promoters/companies from the state level financial institutions and shall be exempt from making an open offer to other shareholders. Investment by Mutual Funds in Venture capital Funds: in order to increase the resources for domestic venture capital funds, Mutual Funds are permitted to invest up to 5% of its corpus in the case of open ended schemes and up to 10% of its corpus in the case of close ended schemes. A part from raising the resources for Venture Capital Funds this would provide an opportunity to small investors to participate in venture capital activities through Mutual funds. Government of India Guidelines: the Government of India (MOF) Guidelines for Overseas Venture Capital Investment in India dated September20, 1995 will be repealed by the MOF on notification of SEBI Venture Capital Fund Regulations. Study Of Venture Capital In India
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The following will be the salient features of SEBI (foreign Venture Capital Investors) Regulations, 2000: Definition of Foreign Venture capital Investor: any entity incorporated and established outside India and proposes to make investment in Venture Capital Fund or Venture Capital Undertaking and registered with SEBI. Eligibility Criteria: entity incorporated and established outside India in the form of Investment Company, Trust, Partnership, Pension Fund, Mutual Fund, University Fund, Endowment Fund, Asset Management Company, Investment Manager, Investment Management Company or other Investment Vehicle Incorporated outside India would be eligible for seeking registration from SEBI. SEBI for the purpose of registration shall consider whether the applicant is regulated by an appropriate foreign regulatory authority; or is income tax payer; or submits a certificate from its banker of its or its promoters, track record where the applicant is neither a regulated entity nor an income tax payer.
Investment Criteria: Disclosure of investment strategy; Maximum investment in single venture capital undertaking not to exceed 25% of the funds committed for investment to India however it can invest its total fund committed in one venture capital fund; Atleast 75% of the investible funds to be invested in unlisted equity shares
or equity linked instruments. Not more than 25%of the investible funds may be invested by way of: Study Of Venture Capital In India
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o Subscription to initial offer of a venture capital undertaking whose shares are proposed to be listed subject to lock in period of one year; o Debt or debt instrument of a venture capital undertaking in which the venture capital funds has already made an investment by way of equity. Hassle Free Entry and Exit: the Foreign Venture Capital Investors proposing to make venture capital investment under the Regulations would be granted registration by SEBI. SEBI Registered Foreign Venture Capital Investors shall be permitted to make investment on an automatic route within the overall sectoral ceiling of foreign investment under Annexure III of statement of Industrial Policy without any approval from FIPB. Further, SEBI registered FVCIs shall be granted a general permission from the exchange control angle for inflow and outflow of funds and no prior approval of RBI would be required for pricing, however, there would be export reporting requirement for the amount transacted. Trading in Unlisted Equity: the board also approved the proposal to permit OTCEI to develop a trading window for unlisted securities where Qualified Institutional Buyers (QIB) would be permitted to participate.
REGULATION OF THE BUSINESS OF VENTURE CAPITAL FUND IN INDIA
Eligibility conditions for grant of license to a venture capital fund.(1) A venture capital fund shall not be granted license unless it fulfills the following conditions, namely:a) It is incorporated as a company under the Companies Ordinance, 1984 (XLVII of 1984); Study Of Venture Capital In India
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b) It is not engaged in any business other than that of investment in venture projects; c) It has a minimum paid-up capital of fifty million rupees raised through private placement; and d) For the purpose of managing its entire business, it has entered into a contract, in writing, with a venture capital company and a copy of which has been filed with the Commission. (2)
The board of venture capital fund shall not have a director, who is on the
board of any venture project being financed by the fund. Condition for grant of license.(1) No venture capital fund shall commence business unless a license is granted under these rules. (2)
For obtaining a license a venture capital fund shall a. Make an application to the Commission on Form V providing information as sought in Annex therein, along with all the relevant documents; b. Submit a bank draft payable to the Commission evidencing the payment of non-refundable application processing fee amounting to fifty thousand rupees; and c. Submit an undertaking that no change in the memorandum and articles of association and in the directors shall be made without prior written authorization of the Commission and that all conditions for grant of license shall be complied with.
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(3) On being satisfied that a venture capital fund is eligible for the grant of a license and that it would be in the public interest so to do, the Commission may grant a license in form VI. (4) Without prejudice to any other conditions under these rules, the Commission may while granting license imposes any conditions, as it may deem necessary.
Terms and conditions of operation. - Unless granted a general or specific waiver by the Commission, a venture capital fund shall a. Not expose more than forty per cent of its equity to any single group of companies; Explanation. - For the purposes of this rule group of companies shall mean companies managed by the members of one family
including
spouse,
dependent
lineal
ascendants
and
descendants and dependent brothers and sisters. b. Disclose in its accounts all investments in companies and group of companies exceeding ten per cent of paid-up capital of venture capital fund; c. ensure that the maximum exposure of the venture capital fund to its directors, affiliated companies and companies in which any of the directors and their family members including spouse, dependent lineal ascendants and descendants and dependent brothers and sisters hold controlling interest shall not exceed ten per cent of the overall portfolio of venture capital; and d. Not accept any investment from any investor, which is less than one million rupees. Renewal of license. –
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(1) The license granted to the fund under rule 10 shall be valid for one year and shall be renewable annually on payment of a fee of twenty thousand rupees on an application being made on Form VII. (2) The Commission may, after making such inquiry and after obtaining such further information as it may consider necessary, renew the license of such fund, one year on Form VIII on such conditions as it may deem necessary. Private placement.A venture capital fund shall raise and receive monies for investment in venture projects through private placement of such securities as may be notified by the Commission, from time to time. Placement memorandum.A venture capital fund shall, before soliciting placement of its securities, file with the Commission a placement memorandum which shall inter alia give details of the terms subject to which monies are proposed to be raised from such placements.
KEY SUCCESS FACTOR FOR VENTURE CAPITAL INDUSTRY IN INDIA
Knowledge becomes the key factor for a competitive advantage for company. Venture Capital firms need more expert knowledge in various fields. The various key success factors for venture capital industry are as follow:
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Knowledge about Govt. changing policies: Investment, management and exit should provide flexibility to suit the business requirements and should also be driven by global trends. Venture capital investments have typically come from high net worth individuals who have risk taking capacity. Since high risk is involved in venture financing, venture investors globally seek investment and exit on very flexible terms which provides them with certain levels of protection. Such exit should be possible through IPOs and mergers/acquisitions on a global basis and not just within India. In this context the judgment of the judiciary raising doubts on treatment of tax on capital gains made by firms registered in Mauritius gains significance - changing policies with a retrospective effect is undoubtedly acting as a dampener to fresh fund raising by Venture capital firms. Quick Response time : The companies have flat organization structure results in quicker decision making. The entrepreneur is relieved of the trauma that one normally goes through in an interface with a funding institution or a development agency. They follow a clearly defined decision making process that works with clock like precision, which means that if they agree on a funding schedule entrepreneur can count on them to stick it.
Knowledge about Global Environment With increasing global integration and mobility of capital it is important that Indian venture capital firms as well as venture financed enterprises be able to have opportunities for investment abroad. This would not only enhance their
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ability to generate better returns but also add to their experience and expertise to function successfully in a global environment. Good Human Resource : Venture capital should become an institutionalized industry financed and managed by successful entrepreneurs, professional and sophisticated investors. Globally, venture capitalist are not merely finance providers but are also closely involved with the investee enterprises and provide expertise by way of management and marketing support. This industry has developed its own ethos and culture. Venture capital has only one common aspect that cuts across geography i.e. it is risk capital invested by experts in the field. It is important that venture capital in India be allowed to develop via professional and institutional management. Balance between three factors Venture Capital backed companies can provide high returns. However, despite of success stories like Apple, FedEx of Microsoft, a lot of these deals fail. It is said that only one out of ten companies succeed. That's why every deal has an element of potential profit and an element of risk, depending on the deals size. To be successful, a Venture Capital Company must manage the balance between these three factors.
Financial markets and the industries to invest in Study Of Venture Capital In India
Knowled ge
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Risk management skills and contacts to investors
Possible investees and external expertise
Frame work for key success factor Knowledge is key, to get the balance in this "Magic Triangle". With knowledge we mean knowledge about the financial markets and the industries to invest in, risk management skills and contacts to investors, possible investees and external expertise. High profits, achievable by larger deals, are not only important for the financial performance of the Venture Capital Company. As a good track record they are also a vital argument to attract funds which are the basis for larger deals. However, larger deals imply higher risks of losses. Many Venture Capital companies try to share and limit their risks. Solutions could be alliances and careful portfolio management. There are Venture Capital firms that refuse to invest in e-start-up because they perceive it as too risky to follow today's type.
INDUSTRIAL ATTRACTIVENESS
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Market growth rate VALUE OF DEALS
CAGROFVC 16000
14234
14000 12000 10000
43%
8000 6000 4000
1160
2000 0
2000
2007
CAGR of venture capital industry From the above graph we can say that Venture capital industry is growing at the CAGR of 43%. And the value of deals in 2000 was 1160 which increased to 14234 in the year of 2007. This shows substantial increase in the number of deals. This attracts the new entrepreneur to enter in the industry. Intensity of competition:
.N F S O M IR C V
NO. OF VC FIRMS IN INDIA 180 160 140 120 100 80 60 40 20 0
146
160
105 81
2000
77
78
81
2001
2002
2003
86
89
2004
2005
2006
2007
2008
YEARS
Number of venture capital firms in India Here the number of venture capital firms is increasing year by year. In 2001 it is only 77 now it has been increased to 160 in the year of 2008. The reason behind Study Of Venture Capital In India
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that is there is over all growth in the GDP and also substantial growth position in sectors like biotechnology, IT-ES, retailing, telecom etc. due to this more players are eager to establish their foothold in the industry. Regulatory policy Minimum contribution and fund size: the minimum investment in a Venture Capital Fund from any investor will not be less than Rs. 5 lacs and the minimum corpus of the fund before the fund can start activities shall be at least Rs. 5 crores. And the foreign players can easily enter in the venture capital industry of India. An offshore venture capital company may contribute 100% of the capital of domestic venture capital fund. There are other hurdles to enter in the industry so there is favorable condition for them to enter in to venture capital industry in India.
DOMESTIC ECONOMIC FACTORS:
GDPV/SVCGROWTHRATE 12 10
300 8.5
8
251.06
9.4
240.91
9.6
250
7.5
200
6
150
4
89.79
2
100 50
33.33
0
0 2004
2005
GDPGROWTHRATE
2006
VC GROWTH RATE(%)
GDP GROWTH RATE(%)
GDP growth rate
2007
VCGROW THRATE
GDP V/S VC Growth rate In above chart there was a positive relationship there was between GDP growth rates. But in 2007 the growth of Venture Capital was decline to 89.79% from Study Of Venture Capital In India
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240.91% in 2006 but here the value of deal was increasing. In 2008 the growth rate is 9% and project the next year GDP 8% to 9%. So here we can conclude that there is good growth prospect for the venture capital players to enter in the horizon of India.
300
7.4
7
251.06
5.8
6
250 240.91 200
4.5
5 4
150
3.2
3 89.79
2 1
100
VC GROWTH RATE
INFLATION RATE
INFLATIONv/sVCGROW THRATE 8
50
33.33
0
0 2004
2005 INFLATIONRATE
2006
2007
VCGROWTHRATE
Inflation V/S Venture capital growth rate In above chart the inflation rate is decreased to 4.5 in 2005 from 7.4 in 2004. At same time the growth of Venture Capital is also declining to 33.33% in 2005 from 251.06% in 2004. From the above chart we can conclude that inflation and Venture Capital has positive relationship. Now in June 2008 the inflation rate was 11.9 and the NO. Of deal in first two quarter in 2008 was 170 and value of deal was 6390 US$mn and in third quarter of 2008 there was only four deals. And in October the inflation touch the 13.01%. Due to increase in inflation rate the people will go to spend more. Thus, their savings will decrease. So more money will come into the market and demand of the products will increase continuously. Now due to growth of any sector will attract new entrepreneur to enter in the industry. For that they must need funds. So there is a great opportunity for venture capital industry to attract this new entrepreneur. SMALL SCALE INDUSTRIES Study Of Venture Capital In India
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SMALL SCALE ENTERPRIZE 130 125
128.44 123.42
120 118.59
115
) h k (la its n .fu o N
110 105
113.95 109.49
100 2002-2003
2003-2004
2004-2005
2005-2006
2006-2007
Growth of small and medium scale industries Venture Capital, to be able to contribute to developing entrepreneurship in India, needs to concentrate its investment in small and medium enterprises. A “Package for Promotion of Micro and Small Enterprises” was announced in February 2007. This includes measures addressing concerns of credit, fiscal support, clusterbased development, infrastructure, technology, and marketing. Capacity building of MSME Associations and support to women entrepreneurs are the other important features of this package. SMEs have been allowed to manage their direct/indirect exposure to foreign exchange risk by booking/canceling/rollover of forward contracts without prior permission of RBI. To boost the micro and small enterprise sector, the bank has decided to refinance an amount of 7000 crore to the Small Industries Development Bank of India, which will be available up to March 31, 2010. The Central Bank said that it is also working on a similar refinance facility for the National Housing Bank (NHB) of an amount of Rs 4, 000 crore.
EXPORT AND IMPORT Study Of Venture Capital In India
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US dollars in billions
VALUE OF EXPORT AND IMPORT 200 180 160 140 120 100 80 60 40 20 0
185.7
185.7 155.5
149.2 126.4 111.5 61.4 52.7
63.8
2002-03
78.1
2003-04
103.1
83.6
2004-05 EXPORT
2005-06
2006-07
2007-08
IMPORT
Value of export import The value of Import and export are increasing year by year. In 2002-03 the value of import and export are 52.7 and 61.4 US $bn respectively and in 2007-08 the value of import and export are 155.7 and 185.7 US $bn. It means industry needs more money for import and export. So it is an opportunity for venture capital. On the other side when company going to export the company must have good contact with other country’s company. So for that venture capital industry is useful because they have good contact and affiliation network with other country’s company. Industry Profitability: The venture capital firms invest their money in most emerging sectors like biotechnology, IT-ES, retailing, infrastructure which gives higher return but also they all involved risk in substantial amount. Possible result of venture capital investments No. of companies out of 10 Study Of Venture Capital In India
Annual rate of Page No: 131
investments 4 3 2 1
Failure Viable Solid Superstars Blended average
return 0% 15% 50% 100% 24.5
Success ratio of venture capital deals From the above table we can see the success ratio of the venture capital investment. 40% of the investments are getting failure and only 10% of them are able to give 100% return. And the average return by the venture capitalists is only 24.5% which is not extra ordinary. This type of returns can be found in many other investment options. So there isn’t any special reason to invest in venture capital. Product innovation: Venture capital firms are coming with new ideas of investment to attract the buyers to their firms. For this purpose they are introducing new types of funds and schemes. For example, IFCI Venture Capital Funds Limited (IVCF) 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) with a target corpus of Euro 60 million equivalent to Rs.396 crores. This Fund will be dedicated for investment mainly in Indian Automotive Component companies and in other related/ emerging sectors. ii) India Enterprise Development Fund (IEDF), a Venture Capital fund set up with target corpus of Rs.250 crores to invest in knowledge based projects in key sectors of Indian economy with outstanding growth prospects. Study Of Venture Capital In India
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iii) Green India Venture Fund (GIVF), a Venture Capital fund setup with a target corpus of Euro 50 million (approx. Rs.330 crores) with the objective to invest in commercially viable Clean Development Mechanism (CDM), energy efficient and other commercially viable projects with an aim to reduce negative ecological impact, efficient usage of resources such as energy, power etc and other related sectors/projects. The summary of the Funds: Launching of new funds by IFCI Funds Objective
IACM –1 To invest in Indian
GIVF The objective of
IEDF To invest in
companies engaged
GIVF would be to
knowledge based
in, amongst others, theinvest in companies projects with automotive parts and setting up Clean
relatively high entry
components
barriers, critical
Development
manufacturing sector Mechanism (CDM) applications, in order to generate
projects and other
prospects for high
high returns for its
commercially viable growth and global
investors.
projects/ business.
scalability in diversified and/ or
Size
Euro 60 million (INR Euro 50 million 396 Cr)
Nature of Fund PE Fund Tenure 8 yrs. With two
emerging sectors. INR 250 Cr
(INR 330 Cr) with green shoe option VC Fund 10 years with two
VC Fund 10 years with two
prolongation option of prolongation options prolongation options 1 year each Expected returns 20% p.a. Size of Rs. 6 to 40 Cr
of 1 year each 20% p.a. Rs. 2 to 30 Cr
of 1 year each. 20% p.a. Rs. 2 to 25 Cr
investment Management fee 2% of the total
2% of the total
2% of the total
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subscription amount subscription amount subscription amount Launching of new funds by IFCI The SICOM venture capital firm introduce SME opportunity fund for small scale industries.
GUIDELINES FOR OVERSEAS VENTURE CAPITAL INVESTMENT IN INDIA
In recognition of growing importance of Venture Capital as one of the sources of finance for Indian industry, particularly for the smaller unlisted companies, the Government has announced a policy governing the establishment of domestic Venture Capital Funds/Companies. An amendment has also been carried out in the SEBI Act empowering the Securities and Exchange Board of India (SEBI) to register and regulate Venture Capital Funds (VCFs) and Venture Capital Companies (VCCs) through specific regulations. With a view to augment the availability of Venture Capital, the Government has decided to allow overseas venture capital investments in India subject to suitable guidelines as outlined below:
Offshore investment may invest in approved domestic Venture Capital Funds/Companies set up under the new policy after obtaining FIPB approval for the investment. There is no limit to the extent of foreign contribution to a domestic venture capital company/ fund. An offshore venture capital company may contribute 100% of the capital of domestic venture capital fund, and may also set up a domestic asset management company to manage the Fund.
Establishment of an asset management company with foreign investment to manage such funds would require FIPB approval and would be subject to the existing norms for foreign investment in non-bank financial services companies.
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Once the initial FIPB approval has been obtained, the subsequent investment b y the domestic venture capital company/fund in Indian companies will not require FIPB approval. Such investments will be limited only by the general restriction applicable to venture capital companies viz.o
A minimum lock-in period of three years will apply to all such investments.
o
VCFs and VCCs shall invest only in unlisted companies and their investment shall be limited to 40% of the paid up capital of the company. The ceiling will be subject to relevant equity investment limits that may be in force from time to time in relation to areas reserved for the Small Scale Sector.
o
Investment in any single company by a VCF/VCC shall not exceed 20% of the paid-up corpus of the domestic VCF/VCC.
The tax exemption available to domestic VCFs and VCCs under Section 10(23F) of the Income Tax Act, 1961, will also be extended to domestic VCFs and VCCs which attract overseas venture capital investments provided these VCFs/VCCs conform to the guidelines applicable for domestic VCFs/VCCs. However, if the VCF/VCC is willing to forego the tax exemptions available under Section 10(23F) of the Income Tax Act, it would be within its rights to invest in any sector. Income paid to offshore investors from Indian VCFs/VCCs will be subject to tax as per the normal rates applicable to foreign investors. Offshore investors may also invest directly in the equity of unlisted Indian companies without going through the route of a domestic VCF/VCC. However, in such cases each investment will be treated as a separate act of foreign investment and will require separate approval as required under the general policy for foreign investment proposals. Study Of Venture Capital In India
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CHALLENGES AHEAD FOR VENTURE CAPITAL FINANCING IN INDIA
Venture Capital is money provided by professionals who invest and manage young rapidly growing companies that have the potential to develop into significant economic contributors. According to SEBI regulations, venture capital fund means a fund established in the form of a company or trust, which raises money through loans, donations, issue of securities or units and makes or proposes, to make investments in accordance with these regulations. The funds so collected are available for investment in potentially highly profitable enterprises at a high risk of loss. A Venture Capitalist is an individual or a company who provides. Investment Capital, Management Expertise, Networking & marketing support while funding and running highly innovative & prospective areas of products as well as services. Thus, the investment made by Venture Capitalists generally involves – o
Financing new and rapidly growing companies.
o
Purchasing equity securities.
o
Taking higher risk in expectation of higher rewards.
o
Having a long frame of time period, generally of more than 5 - 6 years.
o
Actively working with the company's management to devise strategies pertaining to the overall functioning of the project.
o
Networking and marketing of the product /service being offered.
In an attempt to bring together highly influential Indians living across the United States, a networking society named IND US Entrepreneurs or TiE was set up in Study Of Venture Capital In India
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1992. The aim was to get the Indian community together and to foster entrepreneurs for wealth creation. A core group of 10 - 15 individuals worked hard to establish the organization. The group (TiE) has now over 600 members with 20 offices spread across the United States. Some of the famous personalities belonging to this group are Vinod Dham (father of the Pentium Chip), Prabhu Goel, and K.B. Chandrashekhar (Head of $ 200 mn. Exodus Communications, a fibre optic network carrying 30% of all Internet content traffic hosting websites like Yahoo, Hotmail and Amazon.)
PROBLEMS OF VENTURE CAPITAL FINANCING IN INDIA:
VCF is in its nascent stages in India. The emerging scenario of global competitiveness has put an immense pressure on the industrial sector to improve the quality level with minimization of cost of products by making use of latest technological skills. The implication is to obtain adequate financing along with the necessary hi-tech equipments to produce an innovative product which can succeed and grow in the present market condition. Unfortunately, our country lacks on both fronts. The necessary capital can be obtained from the venture capital firms who expect an above average rate of return on the investment. The financing firms expect a sound, experienced, mature and capable management team of the company being financed. Since the innovative project involves a higher risk, there is an expectation of higher returns from the project. The payback period is also generally high (5 - 7 years). The various problems/ queries can be outlined as follows: o
Requirement of an experienced management team.
o
Requirement of an above average rate of return on investment.
o
Longer payback period.
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o
Uncertainty regarding the success of the product in the market.
o
Questions regarding the infrastructure details of production like plant location, accessibility, relationship with the suppliers and creditors, transportation facilities, labor availability etc.
o
The category of potential customers and hence the packaging and pricing details of the product.
o
The size of the market.
o
Major competitors and their market share.
o
Skills and Training required and the cost of training.
o
Financial considerations like return on capital employed (ROCE), cost of the project, the Internal Rate of Return (IRR) of the project, total amount of funds required, ratio of owners investment (personnel funds of the entrepreneur), borrowed capital, mortgage loans etc. in the capital employed.
OPPORTUNITIES AND THREATS OPPORTUNITIES: Initiatives taken by the Government in formulating policies to encourage investors and entrepreneurs The emerging scenario of global competitiveness has put an immense pressure on the industrial sector to improve the quality level with minimization of cost of products by making use of latest technological skills. The implication is to obtain adequate financing along with the necessary hi-tech equipments to produce an innovative product which can succeed and grow in the present market condition. Unfortunately, our country lacks on both fronts. The necessary capital can be Study Of Venture Capital In India
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obtained from the venture capital firms who expect an above average rate of return on the investment. Government of India understands this. Also, The Government of India in an attempt to bring the nation at par and above the developed nations has been promoting venture capital financing to new, innovative concepts & ideas, liberalizing taxation norms providing tax incentives to venture firms, giving an opportunity for the creation of local pools of capital and holding training sessions for the emerging VC investors. In the year 2000, the finance ministry announced the liberalization of tax treatment for venture capital funds to promote them & to increase job creation. This is expected to give a strong boost to the non resident Indians located in the Silicon Valley and elsewhere to invest some of their capital, knowledge and enterprise in these ventures. o SME GROWTH No. deals V/S No. of SMEs 450
128.44
400
123.42
350
125
299
300
120
118.59
250 113.95
200 150 100
130 387
115 146
110
109.49 56
71
105
50 0
100 2003
2004
2005 No. of deals
2006
2007
No. of SMEs
VC, to be able to contribute to developing entrepreneurship in India, needs to concentrate its investment in small and medium enterprises. A “Package for Promotion of Micro and Small Enterprises” was announced in February 2007. Study Of Venture Capital In India
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This includes measures addressing concerns of credit, fiscal support, clusterbased development, infrastructure, technology, and marketing. Capacity building of MSME Associations and support to women entrepreneurs are the other important features of this package. SMEs have been allowed to manage their direct/indirect exposure to foreign exchange risk by booking/canceling/rollover of forward contracts without prior permission of RBI. To boost the micro and small enterprise sector, the bank has decided to refinance an amount of 7000 crore to the Small Industries Development Bank of India, which will be available up to March 31, 2010. The Central Bank said that it is also working on a similar refinance facility for the National Housing Bank (NHB) of an amount of Rs 4, 000 crore. The Indian economy is growing at 8-9% so the there is a development of all sector like manufacturing, services sector. So there is a great opportunities for Venture Capital firms. Because mostly invest their money in this sectors. India amongst leading entrepreneurial Hotbeds globally City competencies emerging o Bangalore All IP-led companies; IT and IT-enabled services o Delhi (NCR) Software services, IT enabled services, Telecom o Mumbai Software services, IT enabled services, Media, Computer Graphics, Animation, Banking Study Of Venture Capital In India
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o Other emerging Centers Chennai, Hyderabad, and Pune Emerging sectors for investments As the venture industry continues to accelerate, a number of trends that cross geographies can be seen. The industry is becoming even more globalized .As a result, innovation in clean tech, IT, and healthcare, pharmaceutical are having a global impact. This changing landscape is driving new approaches in how large corporations are interacting with the venture community. Clean technology Global climate changes, high oil prices, accelerated growth in emerging markets, energy security concerns and the finite nature of resources are some of the key drivers of the growing global demand for clean technologies in energy and water. In addition ,the increased willingness of consumers and governments to pay for and use green technologies ,combined with the positive exit environment of the last years ,has provided venture capitalists with the confidence to invest in emerging companies around the globe. According to the research from Dow Jones Venture One and Ernst &Young .US $1.28 billion was invested in 140financing rounds in 2006 in China , Europe Israel and United States that compares to US $ 664.1 million invested in 103 financing rounds in 2005,showing the capital investment in the field has nearly doubled over the past year. It is expected that investment in clean technologies will continue to increase not only in developed markets but also in the developing markets, mainly in India and China.
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Biotechnology Over last few years ,the story of the US biotech industry has been one of the remarkable success .There are signs that this success story is now repeated in other parts of world ,with maturing pipelines, record breaking financing totals, strong deal activity and impressive financial results. Industry is grew 31% for second year in raw in 2007. Pharmaceutical The industry's growth rate is likely to touch 19 per cent from the current 13 per cent, according to a projection released by the Confederation of Indian Industries (CII), on September 1, 2008. According to a McKinsey study, the Indian pharmaceutical industry is projected to grow to US$ 25 billion by 2010 whereas the domestic market is likely to more than triple to US$ 20 billion by 2015 from the current US$ 6 billion to become one of the leading pharmaceutical markets in the next decade. The Indian pharmaceutical industry has shown robust growth in terms of infrastructure development, technology base creation and a wide range of products with a determination to flourish in the rapidly changing environment, thereby establishing its global presence. The Indian pharmaceutical industry has increased its competitive intensity owing to pricing pressures and striving consistently to innovate. ICICI Venture-controlled Ranbaxy Fine Chemicals (RFCL) has acquired the US-based specialty chemicals major Mallinckrodt Baker in a deal estimated at US$ 340 million.
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So there is great opportunity for venture capital industry to invest their money in this sector. Nowadays, India will become a global pharmacy hub exporting by exporting domestically produced generic products. IT/IT-ES Industry The Department of Information Technology is setting up Nano Electronic Centers at the Indian Institute of Technology, Mumbai and the Indian Institute of Science, Bangalore. With an outlay of about Rs. 100 crore to carry out R&D activities in nano-electronics devices and materials. In 2006-07, the performance of the Information Technology Enabled Services– Business Process Outsourcing (ITES-BPO) industry was marked by double-digit revenue growth, steady expansion into newer service lines and increased geographic penetration and an unprecedented rise in investments by multinational corporations (MNCs). The Special Incentive Package Scheme (SIPS) to encourage investments for setting up semiconductor fabrication and other micro- and nano-technology manufacturing industries was announced in March2007. The incentives admissible would be 20 per cent of the capital expenditure during the first 10 years for units located in Special Economic Zones (SEZs) and 25 per cent for units located outside SEZs. Electronic Industry There is a high growth of software and solutions related to the consumer Internet, software as a service (SAAS), open source, software-cum-services and telecommunications (both wireless and wire-line) products and related services. There is a great opportunity for venture capital industry to invest in this electronic production industry. Study Of Venture Capital In India
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Threats: Venture Capital Market in India Getting Overheated The Venture Capital market in India seems to be getting as hot as the country’s famous summers. However, this potential over-exuberance may lead to some stormy days ahead, based on sobering research compiled by global research and analytics services firm, Evalueserve. Evalueserve research shows an interesting phenomenon is beginning to emerge: Over 44 US-based Venture capital firms are now seeking to invest heavily in start-ups and early-stage companies in India. These firms have raised, or are in the process of raising, an average of US $100 million each. Indeed, if these 40plus firms are successful in raising money, they would garner approximately $4.4 billion to be invested during the next 4 to 5 years. Taking Indian Purchasing Power Parity (PPP) into consideration, this would be equivalent to $22 billion worth of investment in the US. Since about $1.75 billion (or approximately 40% of $4.4 billion) has been already raised, even if only $2.2 billion is raised by December 2006, Evalueserve cautions that there will be a glut of Venture Capital money for early stage investments in India. This will be especially true if the VCs continue to invest only in currently favorite sectors such as IT, BPO, software and hardware products, telecom, and consumer Internet. Given that a typical start-up in India would require $9 million during the first three years (i.e., $3 million per year) and even assuming that the start-up survives for three years, investing $2.2 billion during 2007-2010 would imply investing in 150 to 180
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start-ups every year during this period, which simply does not seem practical if the VCs continue to focus only on their current favorite sectors.
Unproductive workforce: A global survey by McKinsey & Company revealed that Indian business leaders are much more optimistic about the future than their international peers. So Indian employees are tardy in their job so it will effect reversely on the economic condition of the country. Because they are unproductive to the economy of the country. Exit route barriers: Due to crash down of market by 51% from January to November 2008. It creates a problem for venture capital firms. Because nobody is trying to come up with IPO and IPO is the exits route door Venture Capital. Taxes on emerging sector: As per Union Budget 2007 and its broad guidelines, Government proposed to limit pass-through status to venture capital funds (VCFs) making investment in nine areas. These nine areas are biotechnology, information technology, nanotechnology, seed research and development, R&D for pharmacy sectors, dairy industry, poultry industry and production of bio-fuels. Pass-through status means that the incomes earned by funds are taxable now.
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RECOMMENDATIONS:
Multiplicity of regulations – need for harmonization and nodal Regulator:
Presently there are three set of Regulations dealing with venture capital activity i.e. SEBI (Venture Capital Regulations) 1996, Guidelines for Overseas Venture Capital Investments issued by Department of Economic Affairs in the MOF in the year 1995 and CBDT Guidelines for Venture Capital Companies in 1995 which was modified in 1999. The need is to consolidate and substitute all these with one single regulation of SEBI to provide for uniformity, hassle free single window clearance. There is already a pattern available in this regard; the mutual funds have only one set of regulations and once a mutual fund is registered with SEBI, the tax exemption by CBDT and inflow of funds from abroad is available automatically.
Similarly, in the case of FIIs, tax benefits and foreign
inflows/outflows are automatically available once these entities are registered with SEBI. Therefore, SEBI should be the nodal regulator for VCFs to provide uniform, hassle free, single window regulatory framework. On the pattern of FIIs, Foreign Venture Capital Investors (FVCIs) also need to be registered with SEBI.
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Tax passes through for Venture Capital Funds: VCFs are a dedicated pool of capital and therefore operate in fiscal neutrality and are treated as pass through vehicles. In any case, the investors of VCFs are subjected to tax. Similarly, the investee companies pay taxes on their earnings. There is a well established successful precedent in the case of Mutual Funds which once registered with SEBI are automatically entitled to tax exemption at pool level. It is an established principle that taxation should be only at one level and therefore taxation at the level of VCFs as well as investors amount to double taxation. Since like mutual funds VCF is also a pool of capital of investors, it needs to be treated as a tax pass through. Once registered with SEBI, it should be entitled to automatic tax pass through at the pool level while maintaining taxation at the investor level without any other requirement under Income Tax Act.
Mobilization of Global and Domestic resources:
Foreign Venture Capital Investors (FVCIs):
Presently, FIIs registered with SEBI can freely invest and disinvest without taking FIPB/RBI approvals. This has brought positive investments of more than US $10 billion. At present, foreign venture capital investors can make direct investment in venture capital undertakings or through a domestic venture capital fund by taking FIPB / RBI approvals.
This investment being long term and in
the nature of risk finance for start-up enterprises, needs to be encouraged. Therefore, at least on par with FIIs, FVCIs should be registered with SEBI and having once registered, they should have the same facility of hassle free investments and disinvestments without any requirement for approval from FIPB / RBI. This is in line with the present policy of automatic approvals followed by the Government. Further, generally foreign investors invest through the Mauritius-route and do not pay tax in India under a tax treaty. FVCIs Study Of Venture Capital In India
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therefore should be provided tax exemption. This provision will put all FVCIs, whether investing through the Mauritius route or not, on the same footing. This will help the development of a vibrant India-based venture capital industry with the advantage of best international practices, thus enabling a jump-starting of the process of innovation. The hassle free entry of such FVCIs on the pattern of FIIs is even more necessary because of the following factors: o
Venture capital is a high risk area. In out of 10 projects, 8 either fail or yield negligible returns. It is therefore in the interest of the country that FVCIs bear such a risk.
o For venture capital activity, high capitalization of venture capital companies is essential to withstand the losses in 80% of the projects. In India, we do not have such strong companies. o The FVCIs are also more experienced in providing the needed managerial expertise and other supports.
Augmenting the Domestic Pool of Resources:
The present pool of funds available for venture capital is very limited and is predominantly contributed by foreign funds to the extent of 80 percent. The pool of domestic venture capital needs to be augmented by increasing the list of sophisticated institutional investors permitted to invest in venture capital funds. This should include banks, mutual funds and insurance companies’ up to prudential limits.
Later, as expertise grows and the venture capital industry
matures, other institutional investors, such as pension funds, should also be permitted. The venture capital funding is high-risk investment and should be restricted to sophisticated investors. However, investing in venture capital funds can be a valuable return-enhancing tool for such investors while the increase in Study Of Venture Capital In India
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risk at the portfolio level would be minimal.
Internationally, over 50% of
venture capital comes from pension funds, banks, mutual funds, insurance funds and charitable institutions.
Flexibility in Investment and Exit:
Allowing multiple flexible structures:
Eligibility for registration as venture capital funds should be neutral to firm structure. The government should consider creating new structures, such as limited partnerships, limited liability partnerships and limited liability corporations. At present, venture capital funds can be structured as trusts or companies in order to be eligible for registration with SEBI.
Internationally,
limited partnerships, Limited Liability Partnership and limited liability corporations
have
provided
the
necessary
flexibility
in
risk-sharing,
compensation arrangements amongst investors and tax pass through. Therefore, these structures are commonly used and widely accepted globally specially in USA. Hence, it is necessary to provide for alternative eligible structures. Flexibility in the matter of investment ceiling and sectoral restrictions: 70% of a venture capital fund’s investible funds must be invested in unlisted equity or equity-linked instruments, while the rest may be invested in other instruments.
Though sectoral restrictions for investment by VCFs are not
consistent with the very concept of venture funding, certain restrictions could be put by specifying a negative list which could include areas such as finance Study Of Venture Capital In India
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companies, real estate, gold-finance, activities not legally permitted and any other sectors which could be notified by SEBI in consultation with the Government. Investments by VCFs in associated companies should also not be permitted. Further, not more than 25% of a fund’s corpus may be invested in a single firm. The investment ceiling has been recommended in order to increase focus on equity or equity-linked instruments of unlisted startup companies.
As the
venture capital industry matures, investors in venture capital funds will set their own prudential restrictions.
Changes in buy back requirements for unlisted securities:
A venture capital fund incorporated as a company/ venture capital undertaking should be allowed to buy back up to 100% of its paid up capital out of the sale proceeds of investments and assets and not necessarily out of its free reserves and share premium account or proceeds of fresh issue. Such purchases will be exempt from the SEBI takeover code. A venture-financed undertaking will be allowed to make an issue of capital within 6 months of buying back its own shares instead of 24 months as at present. Further, negotiated deals may be permitted in unlisted securities where one of the parties to the transaction is VCF.
Relaxation in IPO norms:
The IPO norms of 3 year track record or the project being funded by the banks or financial institutions should be relaxed to include the companies funded by the registered VCFs also. The issuer company may float IPO without having three years track record if the project cost to the extent of 10% is funded by the registered VCF. Venture capital holding however shall be subject to lock in period of one year. Further, when shares are acquired by VCF in a preferential allotment after listing or as part of firm allotment in an IPO, the same shall be subject to lock in for a period of one year. Those companies which are funded by Study Of Venture Capital In India
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Venture capitalists and their securities are listed on the stock exchanges outside the country; these companies should be permitted to list their shares on the Indian stock exchanges. Relaxation in Takeover Code: The venture capital fund while exercising its call or put option as per the terms of agreement should be exempt from applicability of takeover code and 1969 circular under section 16 of SC(R) A issued by the Government of India. Issue of Shares with Differential Right with regard to voting and dividend: In order to facilitate investment by VCF in new enterprises, the Companies Act may be amended so as to permit issue of shares by unlisted public companies with a differential right in regard to voting and dividend. Such flexibility already exists under the Indian Companies Act in the case of private companies which are not subsidiaries of public limited companies. QIB Market for unlisted securities: A market for trading in unlisted securities by QIBs is developed. NOC Requirement: In the case of transfer of securities by FVCI to any other person, the RBI requirement of obtaining NOC from joint venture partner or other shareholders should be dispensed with. RBI Pricing Norms: At present, investment/disinvestment by FVCI is subject to approval of pricing by RBI which curtails operational flexibility and needs to be dispensed with.
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Global integration and opportunities:
Incentives for Employees:
The limits for overseas investment by Indian Resident Employees under the Employee Stock Option Scheme in a foreign company should be raised from present ceilings of US$10,000 over 5 years, and US$50,000 over 5 years for employees of software companies in their ADRs/GDRs, to a common ceiling of US$100,000 over 5 years.
Foreign employees of an Indian company may invest
in the Indian company to a ceiling of US$100,000 over 5 years.
Incentives for Shareholders:
The shareholders of an Indian company that has venture capital funding and is desirous of swapping its shares with that of a foreign company should be permitted to do so. Similarly, if an Indian company having venture funding and is desirous of issuing an ADR/GDR, venture capital shareholders (holding saleable stock) of the domestic company and desirous of disinvesting their shares through the ADR/GDR should be permitted to do so. Internationally, 70% of successful startups are acquired through a stock-swap transaction rather than being purchased for cash or going public through an IPO.
Such flexibility
should be available for Indian startups as well. Similarly, shareholders can take advantage of the higher valuations in overseas markets while divesting their holdings.
Global investment opportunity for Domestic Venture Capital Funds (DVCF):
DVCFs should be permitted to invest higher of 25% of the fund’s corpus or US $10 million or to the extent of foreign contribution in the fund’s corpus in unlisted equity or equity-linked investments of a foreign company. Study Of Venture Capital In India
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investments will fall within the overall ceiling of 70% of the fund’s corpus. This will allow DVCFs to invest in synergistic startups offshore and also provide them with global management exposure.
Infrastructure and R&D :
Infrastructure development needs to be prioritized using government support and private management of capital through programmers similar to the Small Business Investment Companies in the United States, promoting incubators and increasing university and research laboratory linkages with venture-financed startup firms. This would spur technological innovation and faster conversion of research into commercial products.
Self Regulatory Organization (SRO):
A strong SRO should be encouraged for evolution of standard practices, code of conduct, creating awareness by dissemination of information about the industry. Implementation of these recommendations would lead to creation of an enabling regulatory and institutional environment to facilitate faster growth of venture capital industry in the country. Apart from increasing the domestic pool of venture capital, around US$ 10 billion are expected to be brought in by offshore investors over 3/5 years on conservative estimates. This would in turn lead to increase in the value of products and services adding up to US$100 billion to GDP by 2005. Venture supported enterprises would convert into quality IPOs providing over all benefit and protection to the investors. Additionally, judging from the global experience, this will result into substantial and sustainable employment generation of around 3 million jobs in skilled sector alone over next five years. Spin off effect of such activity would create other support services and further employment. This can put India on a path of rapid economic growth and a position of strength in global economy. Study Of Venture Capital In India
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CONCLUSION The study provides that the maturity if the still nascent Indian Venture Capital market is imminent. Venture Capitalists in Indian have notice of newer avenues and regions to expand. VCs have moved beyond IT service but are cautious in exploring the right business model, for finding opportunities that generate better returns for their investors. In terms of impediments to expansion, few concerning factors to VCs include; unfavorable political and regulatory environment compared to other countries, difficulty in achieving successful exists and administrative delays in documentation and approval. In spite of few non attracting factors, Indian opportunities are no doubt promising which is evident by the large number of new entrants in past years as well in coming days. Nonetheless the market is challenging for successful investment. Therefore Venture capitalists responses are upbeat about the attractiveness of the India as a place to do the business.
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BIBLIOGRAPHY BOOKS: Taneja Satish, “Venture Capital in India”.
Chary T Satyanarayana, “Venture Capital – Concepts & Applications ”
MAGAZINE:
Sharma Kapil, an Analysis of Venture Capital Industry in India.
REPORT: Trends of Venture Capital in India, survey Report by Deloitte, 2009. Study Of Venture Capital In India
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Global Trends of Venture Capital, survey report by Deloitte, 2009. Economic survey 2008-09, WEBSITE: www.ivca.org www.indiavca.org. www.vcindia.com www.ventureintelligence.in
www.nvca.org
www.economictimes.indiatimes.com
www.100ventures.com
www.google.com
www.deloitte.com
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