Move on VC investment cap draws little reaction

The finance ministry’s move to eliminate the regulation, that a venture capital (VC) fund cannot invest more than 40% of a startup company’s equity base, has failed to enthuse the VC industry in a big way. The reason–it is neither seen as one that eases the stifling regulatory regime nor perceived as of any great help in furthering the flow of capital.

“With countless unimaginative regulatory norms still in place, scrapping the exposure limit alone would not result in larger flow of funds. Nevertheless, it is a step in the right direction, small though,” says Sankaran P Raghunathan, Chairman, Blueshift Internet Ventures, a subsidiary of Blueshift

While the government has chosen not to fix a ceiling on the extent of investment a VC fund could make vis-à-vis the paid-up capital of a start-up, another norm which restricts the VC funds to invest only 25% of their fund base in a company, still exists. However, according to finance ministry sources, doing away with the 40% limit would be of much help to the VC industry, as such a move paves the way for VCs to take 100% equity in a new company.

This optimism on the part of the regulators is not shared by the VC industry players. The average size of a VC deal today is in the region of Rs2.5 crore and many VC funds are operating with a corpus of around Rs50 crore. In this scenario, few fund operators would have the inclination or the resources to take the entire equity of a start-up, VC industry sources say.

Raghunathan says, “A VC, like any other investor, looks for returns. Though VC funding carries a higher risk, it is minimized by taking the co-funding route. Co-funding reduces the individual exposure and, in turn, the risk is shared by more than one VC player.” 

Recently, a committee appointed by the Securities and Exchange Board of India (SEBI) and headed by V Chandrashekar of US-based Exodus Communications came out with a set of recommendations. The committee, with Hotmail founder Sabeer Bhatia and Stanford professor Rafique Dossani, among others, as its members, called for far-reaching changes in the current regulatory framework for VC funds. While making a strong case for a single window clearance under SEBI, the committee has also suggested that VC funds be treated on par with investments made by foreign institutional investors

It also felt that the requirement of a three-year track record for accessing the capital market through an IPO may place the VC funded companies at a disadvantage. The committee expressed itself in favor of allowing 30% of a VC fund’s total corpus to be invested in IPOs or preferential allotments or even debt instruments.

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