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Venture capital is financing that investors provide to startup companies and small
businesses that are believed to have long-term growth potential. Venture capital
generally comes from well-off investors, investment banks and any other financial
institutions. However, it does not always take a monetary form; it can also be
provided in the form of technical or managerial expertise.
Though it can be risky for investors who put up funds, the potential for above-
average returns is an attractive payoff. For new companies or ventures that have
a limited operating history (under two years), venture capital funding is
increasingly becoming a popular – even essential – source for raising capital,
especially if they lack access to capital markets, bank loans or other debt
instruments. The main downside is that the investors usually get equity in the
company, and, thus, a say in company decisions.
Although it was mainly funded by banks located in the Northeast, venture capital
became concentrated on the West Coast after growth of the tech ecosystem.
Fairchild Semiconductor, which was started by the traitorous eight from William
Shockley's lab, is generally considered the first technology company to receive
VC funding. It was funded by east coast industrialist Sherman Fairchild of
Fairchild Camera & Instrument Corp.
Arthur Rock, investment banker at Hayden, Stone & Co. in New York City,
helped facilitate that deal and subsequently started one of the first VC firms in
Silicon Valley. Davis & Rock funded some of the most influential technology
companies, including Intel and Apple. By 1992, 48% of all investment dollars
were on the West Coast and the Northeast coast accounted for just 20%.
According to the latest data from Pitchbook and National Venture Capital
Association (NVCA), the situation has not changed much. During the third
quarter of 2018, west coast companies accounted for 38.3% of all deals (and a
massive 54.7% of deal value) while the Mid-Atlantic region had 20.4% of all deals
(or approximately 20.1% of all deal value).
According to some estimates, funding levels during that period peaked at $119.6
billion. But the promised returns did not materialize as several publicly-listed
Internet companies with high valuations crashed and burned their way to
bankruptcy.
Angel Investors
For small businesses, or for up-and-coming businesses in emerging industries,
venture capital is generally provided by high net worth individuals (HNWIs) – also
often known as ‘angel investors’ – and venture capital firms. The National
Venture Capital Association (NVCA) is an organization composed of hundreds of
venture capital firms that offer funding to innovative enterprises.
Angel investors are typically a diverse group of individuals who have amassed
their wealth through a variety of sources. However, they tend to
be entrepreneursthemselves, or executives recently retired from the business
empires they've built.
Self-made investors providing venture capital typically share several key
characteristics. The majority look to invest in companies that are well-managed,
have a fully-developed business plan and are poised for substantial growth.
These investors are also likely to offer funding to ventures that are involved in the
same or similar industries or business sectors with which they are familiar. If they
haven't actually worked in that field, they might have had academic training in it.
Another common occurrence among angel investors is co-investing, where one
angel investor funds a venture alongside a trusted friend or associate, often
another angel investor.
Since venture capital tends to invest larger dollar amounts in fewer companies,
this background research is very important. Many venture capital professionals
have had prior investment experience, often as equity research analysts; others
have a Master in Business Administration (MBA) degrees. Venture capital
professionals also tend to concentrate in a particular industry. A venture capitalist
that specializes in healthcare, for example, may have had prior experience as a
healthcare industry analyst.
Once due diligence has been completed, the firm or the investor will pledge an
investment of capital in exchange for equity in the company. These funds may be
provided all at once, but more typically the capital is provided in rounds. The firm
or investor then takes an active role in the funded company, advising and
monitoring its progress before releasing additional funds.
The investor exits the company after a period of time, typically four to six years
after the initial investment, by initiating a merger, acquisition or initial public
offering (IPO).
Idea generation
Start-up
Ramp up
Exit
Exit route
There are various exit options for Venture Capital to cash out their
investment:
IPO
Promoter buyback
Mergers and Acquisitions
Sale to other strategic investor
Talk to our expert career counselors who can guide you about right course,
career benefits, and preparation.
Exits:
Under the Companies Act, buy back of securities needs amendment to
the Act. There is a prohibition of fresh issue of capital for a period of 2
years which can be reduced to 6 months for unregistered companies.
The venture capital institutions should also be exempted from SEBI
takeover code.
SEBI Regulations:
The present SEBI guidelines on Initial Public Offer (IPO), applicable
to companies earning profits for 3 years should be reduced.
Other issues:
Other related issues consist of employees stock option plans,
investment in foreign companies and tax issues.
The SEBI circular also mandated the disclosure of the below stated details, by AIF/ VCF, in
order to monitor the utilization of overseas investment limits-
1. Reporting the utilization of the overseas limits within 5 working days of such utilization on
SEBI intermediary portal at https://siportal.sebi.gov.in.
2. Reporting of the following information through SEBI intermediary portal:
a. In case an AIF / VCF has not utilized the overseas limit granted to them within a
period of 6 months from the date of SEBI approval (hereinafter referred to as
'validity period'), the same shall be reported within 2 working days after expiry of
the validity period;
b. In case an AIF / VCF has not utilized as a part of the overseas limit within the
validity period, the same shall be reported within 2 working days after expiry of
the validity period;
c. In case an AIF/ VCF wishes to surrender the overseas limit at any point of time
within the validity period, the same shall be reported within 2 working days from
the date of decision to surrender the limit.
RECENT CHANGES IN VENTURE CAPITAL REGULATION
By Vinod Kumar Raina, Company Secretary, New Delhi
Preliminary:
The object of the venture capital financing is to invest in high-risk projects with the anticipation
of high returns. The funds are invested in such growing enterprises, where the ideas are there but
the conventional funding from banks, financial institutions are not available. This is because that
these enterprises do not have collateral to offer. These type of enterprises are usually first
generation enterprises.
Given hereunder is the list of sectors where the investment is usually made by the venture capital
companies.
India:
Venture capital fund is a fund formed as a trust or a company under the regulations which
UK
With the introduction of the SEBI circular SEBI not only aims to protect the interests of investors
in securities market but also to promote the development and regulation of the securities market
in India.
In India earlier the venture capital funding was not allowed in the Real Estate and the
Gold Financing.
To redress these issues and the other operational issues Securities and Exchange Board of India (SEBI)
set up an Advisory Committee on Venture Capital under the Chairmanship of Dr. Ashok Lahiri, Chief
Economic Advisor, Ministry of Finance, Government of India for advising SEBI in matters relating to the
development and regulation of venture capital funds industry in the country.
OPERATIONAL ISSUES
The minimum limit of investment in unlisted companies may be reduced from 75 per cent, as
present, to 66.67 per cent. The remaining portion of 33.33 per cent or less may be permitted to be
invested in listed securities. The aforesaid limit of investment shall be achieved by the end of the
life cycle of a fund. A life cycle of more than 10 years will
have to be justified by the fund and subject to careful examination by SEBI. Wherever such investments
trigger the takeover code, all requirements of the code will have to be fulfilled by the VCF/FVCI and no
exemption from the clauses may be provided. However, where as a result of investments made under
mandatory requirement of takeover code, investment restrictions are breached, the same may not be
considered as a violation of SEBI (VCF/FVCI) Regulations.
Some kind of hybrid instruments which are optionally convertible into equity may be permitted as a
class of investment instruments under the 66.67 per cent (now recommended) portion of the investible
funds.
4. Special Purpose Vehicles (SPV):
SPVs which are mandated for promotion/investment of a Venture Capital Undertaking (VCU) may be
permitted up to a maximum of 33.33 per cent portion of investible funds.
VCFs/FVCIs may be permitted to invest in NBFC in equipment leasing and hire purchase.
Gold financing may be removed from negative list for VCF/FVCI. However, such financing should be
restricted to gold financing for jewelry alone and not pure trade and speculation in gold.
VCF may be permitted to invest in offshore VCUs. RBI may be requested to periodically announce the
overall limit for investment by the VCFs and inform SEBI accordingly.
The in-specie distribution of assets may be permitted at any time, as per the preference of investor(s).
1. Appointment of custodians:
The appointment of custodian by FVCI may be continued to facilitate the maintenance of records and a
smooth transition when the VCU’s shares get listed.
2. Investment Limits:
The restriction of not investing more than 25 per cent of the investible funds of a FVCI in a single VCU
may be removed.
If clause (c) of Explanation I of Section 10(23FB) is deleted, no further amendments to this Section will
be required whenever SEBI changes the definition of ‘Venture Capital Undertaking’. After deletion of
this clause, all VCFs which are formed as trust/company duly registered with SEBI would be eligible for
exemption under Section 10(23FB).
Alternatively, the definition of ‘Venture Capital Undertaking’ under clause (c) of Explanation I of Section
10(23FB) may be aligned with definition of ‘Venture Capital Undertaking’ as defined under SEBI
Regulations.
2. Exits:
For the sake of clarity and for the removal of ambiguity, a suitable clarification may be issued through a
Central Board of Direct Taxes (CBDT) circular. Alternatively, in line with Explanation 2 under section
10(23FB), Explanation 3 may be added providing that VCFs would continue to enjoy tax exemption even
after they receive foreign securities in lieu of domestic securities held by them in a ‘Venture Capital
Undertaking’.
3. Section 115U:
For the sake of clarity and uniformity, a suitable illustration may be issued through a CBDT circular.
Majority of these recommendations have been accepted by SEBI and others have been send to Reserve
Bank of India for their recommendations.
Conclusion:
The changes in the venture capital regulation will have a positive impact on investment by venture
capitalists. In 2003 India was ranked fifth in the Asia pacific region with investment of $774.01 million in
42 companies. Japan topped the list with investment of $7297.71 millions in 77 companies.
Venture capital investments in India has been increasing over the period.
Private equity and venture capital firms invested about $1.5 bln in 125 Indian companies during 2005.
The 2005 Indian VC activity represented a slight decrease from 2004 when 129 companies raised $1.6
bln. A total of 63 out of the 125 companies closed rounds of over $10 mln. The Venture capital
investment will definitely get the boost as the investment has now been allowed in Real Estate and Gold
Financing and certain other restrictions have been eased with.
The changes in the venture capital regulation will have a positive impact on investment by venture
capitalists. In 2003 India was ranked fifth in the Asia pacific region with investment of $774.01 million in
42 companies. Japan topped the list with investment of $7297.71 millions in 77 companies.
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thehindubusinessline.com Published on March 28, 2018