Venture Capital

Venture Capital Venture CapitalUnit objectives: Highlight the true notion of venture capital Focus on the development of VC in India Main features of V C Discuss the steps of Venture Capital financing Explain the methods of V C financing

Venture CapitalAn Introduction:

. Venture capital funding is an increasingly important source for entrepreneurial ventures in both industrialized and developing countries.

Venture capital is a form of equity financing in which the investor actively participates in the venture being financed. IntroductionNotion of Venture Capital:V C is a significant innovation of the 20th century. It is often thought as the early stage financing of new and young enterprises seeking to grow rapidly. Meaning of V C Venture capital is a finance provided to small and medium sized business promoted by Individuals/firms with sound project ideas, which involve new technology.

It is risk capital supplied to high technology growing companies particularly in the form of equity participation. It is a commitment of capital, shareholdings for the formation & setting up small scale enterprises specializing in new ideas or technologies. Venture capital The term venture capital represents financial investment in a highly risky project with the objective of earning a high rate of return. In broad terms, venture capital is the investment of long-term equity finance where the venture capitalist earns his return primarily in the form of capital gain. The underlying assumption is that the entrepreneur and the Venture Capitalist would act as partners. Process Involving Venture Capital investment 1. Deal origination: How does a venture capitalist learn about potential ventures? Deals may originate in various ways: referral system, active search system and intermediaries. 2. Screening: Venture capital is a service industry and generally operate with a small staff.Initial screening of all projects on the basis 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. 3. Evaluation of due digilience:Once the proposal has passed through initial screening, it is subjected to a detailed evaluation.VCFs evaluate the quality of entrepreneur before appraising the characteristics of the product, market or technology. V C process (coned)Risk analysis : VCFs in India make a analysis of the risk of the proposed venture.Product risk : In the case of new or untried ideas, there is a risk whether the product can be produced and commercialized. Market risk : risk may result from several factors such as unexpected competition, on-acceptance by customers, quality price etc.Technology risk: arises when technology is too complex to implement. Entrepreneurial risk: could arise due to lack of experience & may fail to implement their ideas successfully. 4. Deal structuring: Once the venture has been evaluated as viable, the venture capitalist and the investee company negotiate the terms of the deal, viz. the amount, form and price of the investment. 5. Post-Investment activities: Once the deal has been structured and finalised,the venture capitalist generally assumes the role of a partner and collaborator. He gets involved in shaping of the direction of the venture. Features of venture capital Some of the features of venture capital financing are as under:Venture capital is usually in the form of an equity participation through direct purchase of shares, options or convertible securities. The objective is to make capital gains by selling-off the investment once the enterprise becomes profitable.

Long-term investment: Venture financing is a long-term illiquid investment; it is not repayable on demand. It requires long-term investment attitude say 5-10 years to make large profits.

3. Participation in management: More than financde,vemture capitalist gives his marketing,technology,planning & management skills to the new firm. Features of venture capital (Contd.) 4. Once the venture has reached the full potential the venture capitalist disinvests his holdings either to the promoters or in the market. The basic objective of investment is not profit but capital appreciation at the time of disinvestment. 5. Venture capital is not just injection of money but also an input needed to setup the firm, design its marketing strategy and organize and manage it. 6. Investment is usually made in small and medium scale enterprises. 7. Like Mutual Funds, the Venture Capital Funds to be registered with the SEBI and regulated by the SEBI. Modes of finance by Venture capitalists 1. Equity :The venture capital undertaking is a high risk unit involving long gestation period and hence requires funds for a longer period but may not be able to provide return to the investors during the initial stages. VCF in India provide equity but generally their contribution does not exceed 49% of the total equity capital. Therefore the venture capital finance is generally provided by way of equity share capital. The returns may not be in the form of dividends but once the venture capital undertaking becomes successful and profitable, the returns can be realized in terms of capital gains by selling these shares.(contd) 2. Conditional loan: This loan is repayable in the form of royalty after the venture capital undertaking is able to generate sales.

No interest may be payable on the loan.(contd) 3. convertible Loans: A few venture capitalists in the private sector have started introducing innovative financial securities like participating debentures, partially convertible debentures and cumulative convertible preference shares. Importance of venture capital Advantages to investing public: The investing public will be able to reduce risk significantly against unscrupulous management, if the public invest in venture fund who in turn will invest in equity of new business. With their expertise in the field and continuous involvement in the business they would be bale to stop malpractices by management. 2. Advantage of promoters:The entrepreneur for the success of public issues is required to convince tens of underwriters, brokers and thousands of investors but to obtain venture capital assistance; he will be required to sell his ideas to justify the officials of the venture funds. 3. General: A developed venture capital institutional set up reduces the time lag between a technological innovation and its commercial exploitation. Advantages to Promoters 1. The entrepreneur for the success of public issue is required to convince underwriters, brokers and thousands of investors but to obtain venture capital assistance,he will be required to sell his idea to justify the officials of the venture fund.Advantages of promoters (contd) 2. Public issue of equity shares has to be preceded by a lot of efforts viz.necessary statutory sanctions. underwriting and brokers arrangement etc. 3. Costs of public issues of equity share often range between 10 to 15 percent of nominal value of issue of moderate size. The company is required to incur recurring costs for maintenance of share registery cell,stock exchange,listing fee etc. These items of expenditure can be ill afforded by the business when it is new. Assistance from venture fund does not require such expenditure. Constitution All-India public sector financial institutions, SBI and other scheduled banks including foreign banks operating in India eligible to start Venture capital Fund/Companies subject to approval from RBI. Management It is managed by professional such as bankers,managers and administrators .

No person would be permitted to be a full time Chairman/President or a wholetime director of VC Fund if he holds any of the above positions in any other company.Classification of V C players 1. Companies promoted by all India Fis.: Venture capital division of IDBI Risk Capital & Technology Finance Corpn.Ltd. 2. Companies promoted by State FI: Gujarat Venture Finance Ltd. 3. Companies promoted by Banks:Can Bank Venture Capital Fund (canara bank)SBI Venture Capital Fund (promoted by SBI)Tax aspects of VCF VCF have been provided complete income-tax exemption on any income by way of dividends or long-term capital gains of a VCF or a company from investment made in venture proposal.

CBDT issued specific guidelines under IT Act as follows: It is registered with the SEBI. It invests 80% of its total monies by acquiring share of venture capital undertaking The securities or units issued by a VCF shall not be listed on any recognized stock exchange till the expiry of 4 years from the date of issuance of such securities. Tax implications (contd)A scheme of VCF set up as a trust shall be wound up when the period of the scheme is over, if the trustees opine that the winding up shall be made in the interest of the Investors and SEBI so directs in the interest of the investors. conclusion In a nutshell, venture capital firms finance both early and stage investment to maintain a balance between risk and profitability.

Venture capitalists evaluate technology and study potential markets besides considering the capability of the promoter to implement the project while undertaking early stage investment. Conclusion contd Venture capital activity has just begun in India. State & Central & commercial banks have started V C organisations. A few private sector venture capital funds have also been established. There is a need to separate tax concessions for developing V C in India.

questions .. Pl wait .?Questions:

State whether true or false: 1. Share capital issued by a company for the first time is known as venture capital.

2. A venture capital firm deals with a new,risky and untested product. 3. All venture capital funds in India have been promoted by Government. Answers: 1. False.

2. True

3. FalseShort questionsWhat are the SEBI guidelines relating to Venture Capital Funds?Give details of the tax aspect of Venture Capital.What are the exit routes available to venture capitalist.

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