Venture Capital

Venture Capital
Unit 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 Capital
An 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.

Introduction
Notion 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:
1. 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.
2. 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

1. 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. False

Short questions
What 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.

THANKS