VENTURE CAPITAL FUND REGULATIONS IN INDIA O. P. GAHROTRA SENIOR EXECUTIVE DIRECTOR SECURITIES AND EXCHANGE BOARD OF INDIA

PRESENTATION OUTLINE Need for Venture CapitalNeed for Venture Capital Potential of the Indian Venture Capital IndustryPotential of the Indian Venture Capital Industry Growth of Indian Venture Capital IndustryGrowth of Indian Venture Capital Industry Features of the SEBI (Venture Capital Fund) Regulations, 1996Features of the SEBI (Venture Capital Fund) Regulations, 1996 Problems faced by Venture Capital IndustryProblems faced by Venture Capital Industry K. B. Chandrasekhar CommitteeK. B. Chandrasekhar Committee Amendment to the SEBI (Venture Capital Fund) Regulations, 1996Amendment to the SEBI (Venture Capital Fund) Regulations, 1996 Formulation of SEBI (Foreign Venture Capital Investors) Regulations, 2000Formulation of SEBI (Foreign Venture Capital Investors) Regulations, 2000 Securities and Exchange Board of India

WHY VENTURE CAPITAL? Venture capitalist plays an important role in the emerging economies to: –Commercialise research and scientific knowledge in the fastest mode –Provide Risk Finance –Management Expertise to first generation entrepreneurs –Tap potential intellectual properties –Promotion of Innovation and Entrepeneurship –Quality IPOs Securities and Exchange Board of India

THE POTENTIAL OF INDIAN VENTURE CAPITAL INDUSTRY Second Largest English speaking scientific and technical Manpower in the WorldSecond Largest English speaking scientific and technical Manpower in the World India has some of the best, globally recognised institutions of Management (IIMs) and Technical (IITs).India has some of the best, globally recognised institutions of Management (IIMs) and Technical (IITs). India graduates 200,000 engineers and over 40,000 managers every year as quality human capitalIndia graduates 200,000 engineers and over 40,000 managers every year as quality human capital Securities and Exchange Board of India

GROWTH OF VENTURE CAPITAL FUNDS IN INDIA Inspite of large potential, size of VC Industry in India is still very small –A growth of over 300% in number of the Venture Capital Fund registered with SEBI - from 8 in December 1998 to 26 in Sept Lot of inquiries and interest. –Total funds committed by SEBI registered Venture Capital Funds have grown from Rs. 207 crores (US $ 45 million approx.) in 1998 to Rs. 1,665 crores (US $ 362 million approx.), an increase of nearly 600% Securities and Exchange Board of India

SEBI (VENTURE CAPITAL FUND) REGULATIONS, 1996 Investment Routes for Venture Capital:Investment Routes for Venture Capital: –VCFs could invest in Indian companies –Foreign and offshore investors could invest in domestic VCFs –Foreign and offshore investors could also make direct investments into Indian companies through the FDI route. However, such investments would be subject to specific case by case approval of the Government of India. Securities and Exchange Board of India

SEBI (VENTURE CAPITAL FUND) REGULATIONS, 1996 (CONT’D) Form of Organisation for VCFs Only Trusts and Companies could be registered as VCFs.Form of Organisation for VCFs Only Trusts and Companies could be registered as VCFs. Minimum Contribution by each investor has to be Rs. 5 lacs. (US $ 10,500 approx..) Filing of Placement Memorandum - Placement Memorandum to be filed with SEBI prior to funds raised by Venture Capital Fund.Filing of Placement Memorandum - Placement Memorandum to be filed with SEBI prior to funds raised by Venture Capital Fund. Investment Criteria VCF had to invest atleast 80% of corpus in the equity shares of unlisted companies or listed undertakings which were “financially sick”.Investment Criteria VCF had to invest atleast 80% of corpus in the equity shares of unlisted companies or listed undertakings which were “financially sick”. Securities and Exchange Board of India

PROBLEMS FACED BY VENTURE CAPITAL FUNDS Entry BarriersEntry Barriers –Restrictive Definitions of Venture Capital Fund, Venture Capital Undertakings resulting in limited scope of venture capital activity –Multiplicity of regulations - Govt Guidelines, Income Tax Rules and SEBI Regulations. –Offshore investors to seek Government approval for each investment –No Registration provisions for Foreign Venture Capital Investors (FVCIs) –Mutual Funds not allowed to participate in VCFs. Securities and Exchange Board of India

PROBLEMS FACED BY VENTURE CAPITAL FUNDS Investment BarriersInvestment Barriers –Investment in unlisted securities and securities of listed sick companies only - investment not permitted in structured instruments, debt instruments –VCFs not allowed to participate in book- building for Initial Public Offerings Taxation IssuesTaxation Issues –Investors as well as the venture capital fund taxed for the income generated by the VCFs Securities and Exchange Board of India

PROBLEMS FACED BY VENTURE CAPITAL FUNDS Exit BarriersExit Barriers –Limited exit options for investor as well as for VCF –Lack of facilities for trading in unlisted securities –Offshore investors to seek Government (FIPB/RBI) approvals for each disinvestment –Approval for pricing required from RBI before disinvestment by Foreign investors maximum permissible investment limits to be enhanced –Exit from Investments by VCF to promoter could attract Takeover Code Securities and Exchange Board of India

K. B CHANDRASEKHAR COMMITTEE Nature of RepresentationNature of Representation –Distinguished domestic venture capitalists –International venture capitalists from Silicon Valley –Domestic and International practicing Lawyers –Senior Ministry of Finance / SEBI Officials Securities and Exchange Board of India

K. B CHANDRASEKHAR COMMITTEE Major RecommendationsMajor Recommendations –Single window clearance and minimum regulation for domestic Venture Capital Fund and Foreign Venture Capital Investors - SEBI to be the nodal regulator –Granting of QIB Status to VCFs and FVCIs –Tax pass through status to SEBI registered Venture Capital Funds. –Free entry and exit for overseas investment / disinvestment with minimum regulation –Flexible Investment Criteria –More disclosures to investors and no filing of Placement Memorandum with SEBI. Securities and Exchange Board of India

SEBI (VENTURE CAPITAL FUND) (AMENDMENT) REGULATIONS, 2000 Definition of Venture Capital Fund modified to include a trust, company or a body corporate whichDefinition of Venture Capital Fund modified to include a trust, company or a body corporate which –has a dedicated pool of capital –raised in the manner specified under the Regulations –to invest in Venture Capital Undertakings in accordance with the Regulations. Securities and Exchange Board of India

SEBI (VENTURE CAPITAL FUND) (AMENDMENT) REGULATIONS, 2000 (contd.) Venture Capital Undertaking means a domestic companyVenture Capital Undertaking means a domestic company –Whose shares are not listed on a recognised stock exchange in India –Which is engaged in business including providing services, production or manufacture of articles or things excluding activities mentioned in the Negative List. (The negative list mainly includes real estate, non- banking financial services, gold financing) Securities and Exchange Board of India

SEBI (VENTURE CAPITAL FUND) (AMENDMENT) REGULATIONS, 2000 (contd.) Minimum contribution and fund size :Minimum contribution and fund size : –Minimum Contribution from any investor shall not be less than Rs. 5 lacs (US $ 10,500 approx.) –Minimum corpus of the fund shall be atleast Rs. 5 crores (US $ 1.08 million approx..) Securities and Exchange Board of India

SEBI (VENTURE CAPITAL FUND) (AMENDMENT) REGULATIONS, 2000 (contd.) Investment CriteriaInvestment Criteria –disclosure of investment strategy to SEBI; –maximum investment in single venture capital undertaking not to exceed 25% of the corpus of the fund; –Investment in the associated companies not permitted; –atleast 75% of the investible funds to be invested in unlisted equity shares or equity linked instruments. Securities and Exchange Board of India

SEBI (VENTURE CAPITAL FUND) (AMENDMENT) REGULATIONS, 2000 (contd.) Not more than 25% of the investible funds may be invested by way of:Not more than 25% of the investible funds may be invested by way of: –subscription to initial public offer of a venture capital undertaking whose shares are proposed to be listed subject to lock-in period of one year; –debt or debt instrument of a venture capital undertaking in which the venture capital fund has already made an investment by way of equity. Securities and Exchange Board of India

SEBI (VENTURE CAPITAL FUND) (AMENDMENT) REGULATIONS, 2000 (contd.) No more requirement of filing of placement Memorandum with the Board prior to its issue, however, more disclosure in the Placement Memorandum.No more requirement of filing of placement Memorandum with the Board prior to its issue, however, more disclosure in the Placement Memorandum. QIB Status for Venture Capital Funds to participate in book-buildingQIB Status for Venture Capital Funds to participate in book-building Relaxation in Takeover Code enabling Company/promoter to buy back Venture Capital Fund holdingsRelaxation in Takeover Code enabling Company/promoter to buy back Venture Capital Fund holdings Mutual Funds allowed to invest in Venture Capital FundsMutual Funds allowed to invest in Venture Capital Funds Securities and Exchange Board of India

TAX TREATMENT FOR VCFS  The income earned by a Venture Capital Fund was earlier taxed at the hands of the VCF as well as in the hands of the investors.  The Finance Bill, 2000 modified the tax computation for VCFs by exempting the VCFs from income tax and taxing the investors directly.  This provided a ‘tax pass-through’ status to VCFs However the VCF has to divest its investment within one year of the IPO of the VCU (in which it has invested ) if it seeks to avail the tax benefits. Securities and Exchange Board of India

SEBI (FOREIGN VENTURE CAPITAL INVESTORS) REGULATIONS, 2000 Definition - Foreign Venture Capital Investor is defined as any entity incorporated and established outside India and proposes to make investment in Venture Capital Fund/s or Venture Capital Undertakings, and is registered with SEBI.Definition - Foreign Venture Capital Investor is defined as any entity incorporated and established outside India and proposes to make investment in Venture Capital Fund/s or Venture Capital Undertakings, and is registered with SEBI. Securities and Exchange Board of India

BENEFITS TO THE FVCIS –Hassle Free Entry and Exit : SEBI registered FVCIs permitted to make investment on an automatic route within the overall sectoral ceiling of foreign investment as specified by the Government of India.SEBI registered FVCIs permitted to make investment on an automatic route within the overall sectoral ceiling of foreign investment as specified by the Government of India. SEBI registered FVCIs shall be granted a general permission from the exchange control angle for inflow and outflow of fundsSEBI registered FVCIs shall be granted a general permission from the exchange control angle for inflow and outflow of funds no prior approval of RBI would be required for pricing for investment / disinvestment. There would be only ex-post reporting requirement for the amount transacted.no prior approval of RBI would be required for pricing for investment / disinvestment. There would be only ex-post reporting requirement for the amount transacted. Securities and Exchange Board of India

SEBI (FOREIGN VENTURE CAPITAL INVESTORS) REGULATIONS, 2000 Eligibility Criteria - Any entity incorporated and established outside India in the form ofEligibility Criteria - Any 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 –the applicant is regulated by an appropriate foreign regulatory authority; or –is an income tax payer; or –submits a certificate from its banker of its or its promoters fair track record. Securities and Exchange Board of India

SEBI (FOREIGN VENTURE CAPITAL INVESTORS) REGULATIONS, 2000 Investment Criteria :Investment Criteria : –disclosure of investment strategy to SEBI; –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; Securities and Exchange Board of India

SEBI (FOREIGN VENTURE CAPITAL INVESTORS) REGULATIONS, 2000 Investment Criteria :Investment Criteria : –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:  subscription to initial public offer of a venture capital undertaking whose shares are proposed to be listed subject to lock-in period of one year  debt or debt instrument of a venture capital undertaking in which the venture capital fund has already made an investment by way of equity. Securities and Exchange Board of India

TRADING IN UNLISTED EQUITY SEBI has approved the proposal to permit OTCEI to develop a trading window for unlisted securities where Qualified Institutional Buyers (QIB) would be permitted to participate. Venture Capital Funds and Foreign Venture Capital Investors are amongst the QIBs. Securities and Exchange Board of India

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