UNIVERSITY OF MUMBAI

(SIXTH SEMESTER)

T.Y.B.F.M

A PROJECT ON:

VENTURE CAPITAL

ACADEMIC YEAR:

2018-2019

SUBMITTED BY:

SHAH AKASH HARISH

PROJECT GUIDE:

PROF. NEHA MEHTA

DATE OF SUBMISSION:

25TH MARCH, 2019

MALINI KISHOR SANGHAVI COLLEGE OF COMMERCE

AND ECONOMICS

J.V.P.D SCHEME

VILLE PARLE (WEST)

MUMBAI – 400 049

 DECLARATION

I, SHAH AKASH HARISH of MALINI KISHOR SANGHAVI

COLLEGE OF COMMERCE AND ECONOMICS, of T.Y.B.F.M
(Semester VI) declare that I have completed this project on the “VENTURE
CAPITAL”, in the academic year 2018-2019. The information submitted is
true and original to the best of my knowledge.

DATE OF SUBMISSION ____________________________

25TH MARCH 2019 SIGNATURE OF STUDENT

(SHAH AKASH HARISH)

 CERTIFICATE

This is to certify that SHAH AKASH HARISH of MALINI KISHOR

SANGHAVI COLLEGE OF COMMERCE AND ECONOMICS, of
T.Y.B.F.M (Semester VI) has completed this project on the “VENTURE
CAPITAL”, in the academic year 2018-2019. The information submitted is
true and original to the best of my knowledge.

_________________________ __________________________

SIGNATURE OF PRINCIPLE SIGNATURE OF PROJECT GUIDE

(DR. MRS. KRUSHNA GANDHI) (PROF. NEHA MEHTA)

__________________________ ____________________________
COLLEGE SEAL SIGNATURE OF BFM CO-ORDINATOR

(PROF. JASLEEN KAUR)

_________________________
SIGNATURE OF EXTERNAL EXAMINAR
 ACKNOWLEDGEMENT

It has always been my sincere desire as a commerce student to get an

opportunity to express my views, skills, attitude and talent in which I am
proficient. A project is one such avenue through which a student who aspires
to be a future manager does something creative. This project has given me the
chance to get in touch with practical aspects of commerce.

I am extremely grateful to the University of Mumbai for having prescribed this

project work to me as a part of the academic requirement in the Bachelor in
Commerce (Financial Markets) (B.F.M.) course.

I wish to appreciate the management and staff of Malini Kishor Sanghavi

College, BFM for providing the entire state of the art infrastructure and
resources to enable the completion and enrichment of my project.

I wish to extend a special thanks to my project Guide Prof. Neha Mehta

without whose guidance, the project may not have taken shape.
 EXECUTIVE SUMMARY

Venture capital is financing that investors provide to start-up 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 just a monetary
form; it can be provided in the form of technical or managerial expertise.

Though it can be risky for the investors who put up the 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.

In a venture capital deal, large ownership chunks of a company are created and
sold to a few investors through independent limited partnerships that are
established by venture capital firms. Sometimes these partnerships consist of a
pool of several similar enterprises. One important difference between venture
capital and other private equity deals, however, is that venture capital tends to
focus on emerging companies seeking substantial funds for the first time ,
while private equity tends to fund larger, more established companies that are
seeking an equity infusion or a chance for company founders to transfer some
of their ownership stake.

The project mainly includes a thorough study of the venture capital.

 Primary data will be sourced through personal interviews with experts in the
subject
 Secondary data will be obtained from the internet, reference books and
relevant reports.
 INDEX

Sr. Page
Topic
No No.
1 Introduction 1-3
2 Origin and Development of Venture Capital 4-6
3 Taxonomy on Venture Capital 7-14
4 Importance of Venture Capital financing 15-16
5 Fund Raising 17-21
6 Venture Capital Valuation Methods 22-26
7 Advantages vs Disadvantages 27-28

8 Trends in India 29-32

Regulatory Framework for Venture Capital
9 in India 33-36
Venture Capital Helps Drive Start – up
10 Economy 37-39
11 Principles of Venture Capital 40-43

12 Firms of Venture capital in India 44-45

13 Case Study: Ola Cabs 46-48
14 Case Study: Swiggy 49-51
Growth and Decline of Venture Capital over
15 the Years 52-60
16 Conclusion 61
17 Bibliography 62
 Introduction

The venture capital sector is the most vibrant industry in the financial market
today. Venture capital is money provided by professionals who invest
alongside management in young, rapidly growing companies that have the
potential to develop into significant economic contributors. Venture capital is
an important source of equity for start – up companies.

Venture capital can be visualized as “your ideas and our money” concept of
developing business. Venture capitalists are people who pool financial
resources from high net worth individuals, corporate, pension funds, insurance
companies, etc. to invest in high – risk return ventures that are able to source
funds from regular channels like banks and capital markets. The venture
capital industry in India has really taken off in. Venture capitalists not only
provide monetary resources but also help the entrepreneur with guidance in
formalizing his ideas into a viable business venture.

Five critical success factors have been identified for growth of Venture capital
in India, namely:

 The regulatory, tax and legal environment should play an enabling role as
internationally venture funds have involved in an atmosphere of structural
flexibility, fiscal neutrality and operational adaptability.

 Resources rising, investment, management and exit should be as simple

and flexible as needed and driven by global trends.

 Venture capital should become as institutionalized industry that protects

investors and investor firms, operating in an environment suitable for
raising the large amount of risk capital needed and for spurring innovation
through start – up firms in a wide range of high growth areas.

1
 In a view of increasing global integration and mobility of capital it is
important that Indian venture capital funds as well as venture finance
enterprises are able to have global exposure and investment opportunities.

 Infrastructure in the form of incubators and R & D need to be promoted

using government support and private management as has successfully
been done by countries such as the US, Israel and Taiwan. This is
necessary for faster conversation of R & D and technological innovation
into commercial products.

With technology and knowledge based ideas set to drive the global economy
in the coming millennium, and given the inherent strength by way of its human
capital , technical skills, cost competitive workforce, research and
entrepreneurship, India can unleash a revolution of wealth creation and rapid
economic growth in a suitable manner. However, for this to happen, there is a
need for risk finance and venture capital environment, which can leverage
innovation, promote technology and harness knowledge based ideas.

The concept of Venture capital is very recent as compared to U.S.A., Europe,

etc. Venture capital functions were run by development financial institutions
such as IDBI (Industrial Development Bank of India), ICICI Bank, and state
financial operations. Publicly raised funds were the main source of Venture
Capital. This source of financing was however threatened by market fits/
vagaries and following raising of minimum paid up capital requirements for
being listed at stock exchanges, problems were in store for small firms with
feasible projects.

The 7th five-year plan as well as the fiscal policy of the Government of India
acknowledged the necessity for Venture Capital. Year 1973 also fostered
venture capital as a source of funding new entrepreneurs and technology which
was given by the report of the committee on development of small and

2
medium entrepreneurs. The government of India, relying on the World Bank’s
study of the inspection of the potential of development of Venture Capital in
the private sector took a 1 policy initiative and communicated guidelines for
Venture Capital Funds in 1988 but these were restrictive; allowing the setting
up of Venture Capital Funds by banks or financial institutions only.

Year 1988 marked the establishment of the Technology Development and

Information Company of India Ltd. (TDICI) promoted by ICICI and UTI (Unit
Trust of India) and was immediately followed by the Gujarat Venture Finance
Ltd. However, there was no significant Venture Capital activity till mid 1990s;
unfriendly policy and regulatory framework being major reasons.

3
 Origin and Development of Venture Capital

Venture capital that originated in India very late is still in its infancy. It was
the Bhatt Committee (Committee on Development of Small and Medium
Entrepreneurs) in the year 1972, which recommended the creation of venture
capital. The committee urged the need for providing such capital to help new
entrepreneurs and technologists in settings up industries. A brief description of
some of the venture capital funds of India is as follows:

Risk capital foundation: The Industrial Finance Corporation of India (IFCI)

launched the first venture capital fund in the year 1975. The fund, ‘Risk
Capital Foundation’ (RCF) aimed at supplementing promoters’ equity with a
view to encouraging technologies and professionals to promote new industries.

Seed capital scheme: This venture capital fund was launched by IDBI in 1976,
with the same objective in mind.

Venture capital schemes: Venture capital funding obtained official patronage

with the announcement by the Central Government of the “Technology Policy
Statement” in 1983. It prescribed guidelines for achieving technological self-
reliance through commercialization and exploitation of technologies. The
ICICI, an all-India financial institution in the private sector set up a Venture
Capital Scheme in 1986, to encourage new technocrats in the private sector to
enter new fields of high technology with inherent high risk. The scheme aimed
at allocating funds for providing assistance in the form of venture capital to
economic activities having risk, but also high profit potential.

 PACT: The ICICI undertook the administration of Program for

Application of Commercial Technology (PACT) aided by USAID with an
initial grant of US$ 10 million. The program aims at financing specific
needs of the corporate sector industrial units along the lines of venture
capital funding.

4
 Government fund: IDBI, as nodal agency, administers the venture capital
fund created by the Central Government with effect from April1, 1986.
The government started imposing a Research and Development (R & D)
levy on all payments made for the purchase of technology from abroad,
including royalty payments, lump sum payments for foreign collaboration
and payment for designs and drawings under the R & D Cess Act, 1986.
The levy was used as a source of funding the venture capital fund.

 TDICI: In 1988, an ICICI sponsored company, viz, Technology

Development and Information Company of India Ltd. (TDICI) was
founded, and venture capital operations of ICICI were taken over by it with
effect from July 1, 1988.

 RCTFC: The Risk Capital Foundation (RCF) sponsored by IFCI was

converted into Risk Capital and Technology Finance Corporation Ltd.
(RCTFC) in the year 1988. It took over the activities of RCF in addition to
the management of other financing technology development schemes and
venture capital fund.

 VECAUS: VECAUS–I, the UTI sponsored “Venture Capital Unit

Scheme” was launched in the year 1989. Technology Development and
Information Company of India Ltd. (TDICI) was appointed as its
managers. In the year 1990, the corporation was also entrusted with the
responsibility of managing another UTI sponsored venture fund entitled
“VECAUS-II”. In 1991, UTI launched VECAUS –III and RCTC was
appointed as fund managers.

 Other funds: The liberalized guidelines introduced by the government, in

1988 gave rise to the setting up of a number of venture capital funds,
especially in the private sector.

UK: Venture capital funding originated in Great Britain in the nineteenth

century when European bankers and investors were helping the growth of
industry in USA, and then in their dominions like South Africa, India and

5
 elsewhere. Building of railways in parts of America and India, construction
of high-risk projects like Suez Canal etc are examples where pooled
resources were put at stake and turned into gold with enormous capital
gains.

The venture capital funding process typically involves four phases in the
company’s development:

 Idea generation
 Start-up
 Ramp up
 Exit

In the 1980s, several new independent funds like Equity Capital for industry
(ECI), Public Utility Pension Funds, National Enterprise Board, and several
semi-State venture capital bodies like Scottish and Welsh Development
Agencies were incorporated.

6
 TAXONOMY ON VENTURE CAPITAL

1) Seed Financing:

The Seed Financing is the most complex and riskiest activity among the
venture investment.

It is the investment of an idea or of an research and development (R&D)

project, it is in fact very industry-oriented: it usually deals with the biomedical,
IT, and the pharmaceutical industries / sectors. Under seed financing, the
uncertainty of the project is high because the investor has to trust the idea of
the entrepreneur. This is why the managerial role of the investor is very
limited.

There are two levels of risk:

 1.  The capability for the idea to generate on output

 2.  if there is an output: does this output have marketability?

7
Because this phase is very risky, there are three golden rules an investor needs
to know:

1.  100/10/1 Rule:

 The investor has to screen one hundred projects, finance ten of them and
be lucky (and able) enough to find the one successful one.
 The activity is risky that you must invest on much more that one project.
The investor needs to invest a huge amount of money. The “psychological
threshold” is one billion €.
 By the time the investors find the winning project they will have lost much
of their beginning investment.

2.  Death Sudden Risk:

   Because this investment occurs before the company is founded, the

investors have to protect themselves in case the person owning the
project’s idea suddenly can no longer perform his or her job.

 The solution to this risk is in the Incubator Strategy, an ad hoc

infrastructure in which the inventor can work without worrying about his
or her ideas being stolen.

3.  Size of the Market:

 The investors usually invest in the markets they know the best.
 Despite this, in some cases, the idea may be a good one without a market
willing to buy it.
 Such is the case in which the investors look for venture philanthropy, set
up by non-profit institutions with the investors themselves.

8
 Stage at Causation of
Risk
which major risk
of
investment by stage of
loss
made development

Seed-stage 66.2% 72.0%

Start-up
53.0% 75.8%
stage

Second
33.7% 53.0%
stage

Third stage 20.1% 37.0%

Bridge/pre-
20.9% 33.0%
IPO stage

1) Start-up Financing:

The Start-up Financing is the financing of a new company starting its own
initial operations.

The entrepreneurs and the founders’ need of cash derives from the necessity to
buy the necessary equipment to start (e.g. equipment, inventory, building, etc.)
the business. In this kind of financing the risk is still very high, leading to a
high level of protection for the investor.

The level of risk depends on the fact that the PEI is betting on a business plan.
Because the investor is neither a non-profit organization nor a High Net worth
Individual (HNWI), there are several ways in which this can occur.

9
1. Put Option:

 This tool is used to sell back to the entrepreneur the shares the investor
bought. This tool is quite dangerous: it assumes that if the business plan
does not work, the founder will still have money to pay off the PE. For this
reason, the put option may be used together with a second too.

2.  Collateral:

 This is a pledge for the investor over some valuable assets of the newly
founded company and this is usually used together with the put option.

3.  Stock Options for the Investor:

 Another way to reduce the risk the business plan is not accurate and
reliable is to grant the inventor some stock options. In this way the
entrepreneur will also enjoy the profitability of the company.

4. Balance between Money and Shares:

 The PEI needs to find the right combination between not losing all its
investment (such is the case when the PE owns 95% of the equity) and not
having any say in the management of the business (such is the case when
the PEI owns 2% of the equity) • For instance, for the investor the right
balance would be owning 48% of the company

2) Early Growth Financing

Early growth Financing is the financing of the first phase of growth of a new
company that has started generating sales.

The entrepreneurs and the founders’ need of cash derive from the necessity to
buy inventory and to sustain the gap existing between cash flow and money
needed. In this phase, the cash flow is still negative, but not as much as in the
previous stages of life of the company.

10
The risk is still high for the PEI since it is investing in a very young company
and when they make the injection, they do not exactly know how the company
will turn out. In this phase, there is a very hands-on approach. If the PEI thinks
that the company is based on a good idea, but the business plan is not
adequate, it helps rewrite the business plan. For this reason the PEI usually
has a high amount of shares in the equity of the company.

On average this financing occurs up to the end of the first three year after the
start-up stage.

In this kind of investment, the PEI may also not have any protections, due to
the high stake in the equity of the company and to the adoption of hands on
approach.

3) Expansion Financing

The expansion financing takes place in the fastest phase of growth of a firm to
consolidate its position in the market.

The investment is only used to sustain the (reducing) gap existing between the
cash flow and money needed. In this phase, the level of risk is moderate (and
it mostly depends on the business) because the trend of development of the
business is well known. In this cluster the stake held by the PE is not usually
very high. The expansion financing deals are about the growth of a company.

In an adult company, growth can be:

1.  Internal (or organic)

2.  External

11
a) Internal Growth

We say that a company grows via internal growth when it plans to grow “by
itself.” This means that investments in fixed assets and in working capital will
be made.

The role of the PEI: the investor needs to provide money to the venture backed
company in order to buy and/or sustain the procurement of working capital
and to purchase new assets. Because this kind of deal is not difficult for a PEI,
the offer is very wide and there is a very high number of investors providing
this financing.

This kind of financing can be an alternative to a loan.

b) External Growth
We say that a company grows via external growth when it plans to grow by
acquiring another company (i.e. carry on an M&A) in order to enhance the
level of sales and exploit the synergies coming from this operation. This path
is much more complicated than the internal growth and it may be undertaken
by an adult company in order to enter a new market.

 This can be done in two ways:

1. The PEI invests in the venture-backed company, from which it gets shares
and the company has to get enough money to carry on the M&A. If the
process is successful the venture-backed company and the target will
merge.

12
2. The second way in which this M&A can be done is as follows:
 The PEI builds a Special Purpose Vehicle (SPV). The SPV is an “empty
box” built only for the purpose of a specific extraordinary operation. This
company does not have any assets nor liabilities and equity before the
operation takes place. • The PEI and the venture-backed company collect
money from the banking system and put the cash collected in the SPV. In
this way, they will have enough capital to buy another company.

This option can be used in two cases:

a. When the venture-backed company has got a huge financial need and it
does not want to further increase the amount of debt.

b. The company wants to keep the SPV as a separate entity, this happens when
the company does not want the PEI to share the gain deriving from the M&A
process.

13
4) Replacement Financing
Replacement financing takes place in the mature age of a company and the
role of the PEI is that of replacing an existing shareholder.

These deals do not derive from the arise of need of money of a company.

A company needs replacement financing when it wants to face strategic

decisions linked either to governance, status, or corporate finance decisions.
The level of risk is moderate and linked to the quality of the strategic process
that has to be put in place.

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 Importance of Venture Capital Financing

The following are the importance of venture capital financing:

Promotes Entrepreneurs: Just as a scientist brings out his laboratory

findings to reality and makes it commercially successful, similarly, an
entrepreneur converts his technical know to a commercially viable project with
the assistance of Venture capital institutions .

 Promotes products: New products with modern technology become

commercially feasible mainly due to the financial assistance of venture
capital institutions.

 Encourages customers: The financial institutions provide venture capital

to their customers not as a mere financial assistance but more as a package
deal which includes assistance in management, marketing, technical and
others.

Example: Hot mail dot com. It was a project invented by a young Indian
graduate from Bangalore, by name Sabir Bhatia. This project was developed
by him due to the financial assistance provided by the venture capital firms in
Silicon Valley, U.S.A. His project was later on purchased by Microsoft
Company, U.S.A. The Chairman of the company, Mr. Bill Gates offered 400
Million US Dollars in hot cash.

 Brings out latent talent: While funding entrepreneurs, the venture capital
institutions give more thrust to potential talent of the borrower which helps
in the growth of the borrowing concern.

 Promotes exports: The Venture capital institution encourages export

oriented units because of which there is more foreign exchange earnings of
the country.

15
 As Catalyst: A venture capital institution acts as more as a catalyst in
improving the financial and managerial talents of the borrowing concern.
The borrowing concerns will be keener to become self dependent and will
take necessary measures to repay the loan.

 Creates more employment opportunities: By promoting

entrepreneurship, venture capital institutions are encouraging self-
employment and this will motivate more educated unemployed to take up
new ventures which have not been attempted so far.
 Brings financial viability: Through their assistance, the venture capital
institutions not only improve the borrowing concern but create a situation
whereby they can raise their own capital through the capital market. In the
process they strengthen the capital market also.

 Helps technological growth: Modern technology will be put to use in the

country when financial institutions encourage business ventures with new
technology.

 Helps sick companies: Many sick companies are able to turn around after
getting proper nursing from the venture capital institutions.

 Helps development of backward areas: By promoting industries in

backward areas, venture capital institutions are responsible for the
development of the backward regions and human resources.

 Helps growth of economy: By promoting new entrepreneurs and by

reviving sick units, a fillip is given to the economic growth. There will be
increase in the production of consumer goods which improves the standard
of living of the people.

16
 Fund Raising

First and foremost, identify the VC that might be investing within your
vertical. There are plenty of tools you can use to identify who might be a fit.
(You can use Crunch base, Matter mark, CB Insights, or Venture Deal.)

Once you have your list of targets, you will need to see who you have in
common and close to you who would be in a position to make an introduction.
The best introductions come from entrepreneurs that have given good returns
to the VC. VCs use these introductions as social proof and the stamp of
approval on the relationship. The better the introduction is, the more chances
you have of getting funded.

As a next step to receiving the introduction, and in the event there is a genuine
show of interest from the VC, you will have a call. Ideally you would want to
go straight to the partner to save time, or the goal would be to get an
introduction to the partner ASAP. If you are already in communication with
the partner after the first call, he or she will ask you to send a presentation
(also known as pitch deck) if the call goes well and there is interest.

In this regard, I recently covered the pitch deck template that was created by
Silicon Valley legend, Peter Thiel. I also provide a commentary on a pitch
deck from an Uber competitor that has risen over $400M.

After the partner has reviewed the presentation, she will get back to you (or
perhaps her assistant) in order to coordinate a time for you to go to the office
and to meet face to face. During this meeting, you’ll want to connect on a
personal level and to see if you have things in common. The partner will ask
questions. If you are able to address every concern well and the partner is
satisfied then you will be invited to present to the other partners.

The partner’s meeting is the last step to getting to the term sheet. All the
decision-making partners will be in the same room with you. Ideally the
partner you have been in communication with has spoken highly of you, unless
there have been issues (which you’ve hopefully covered by this time).

17
You’ll receive a term sheet if you were able to satisfy the concerns put forward
at the partners meeting. Remember that term sheet is just a promise to give you
financing. It does not mean that you will get the capital. It is a non-binding
agreement. If you want to dig deeper into term sheets I recommend reviewing
the Term Sheet Template piece that I recently published on Forbes.

Following the term sheet, the due diligence process begins. It will typically
take a VC one to three months to complete the due diligence. Unless there are
no major red flags you should be good to go, and receive the funds in the bank
once all the offering documents have been signed and executed.

Private equity and venture capital general partners are typically paid carried
interest on their funds’ gains in one of two ways: upon exiting each deal —
even if the fund hasn’t earned enough for investors to break even — or only
after invested capital and fees are returned to investors, generally once the
fund’s performance has met a hurdle rate. Researchers Niklas Heuther from
Indiana University, David Robinson of Duke University, Soenke Sievers from
the University of Paderborn, and Thomas Hartmann-Wendels of the University
of Cologne refer to the latter approach as “whole-fund carry provisions” —
and they find that, contrary to popular belief, delayed fees, which are generally
seen as an incentive for managers to beat a target return, may lead to worse
returns than if managers hadn’t been subject to a hurdle rate.

18
In a paper posted last month on research database SSRN, the group showed
that general partners who are paid carried interest on a deal-by-deal basis —
receiving their share of the return as they exit investments, instead of after they
meet a benchmark return for the fund — bested hurdle rate-using peers on a
gross and net-of-fee basis.

The findings were based on a study of 85 U.S.-based venture capital funds

raised between 1992 and 2005.

“Whole-fund provisions induce general partners to exit early,” the authors

explained. “They wish to return invested capital as quickly as possible so that
they can begin earning carried interest.”

These early exits, the researchers found, undermined overall fund

performance. On average, managers that were paid after they beat their
benchmark earned a PME, or return compared to the public market equivalent,
of 0.638 after fees. Managers without hurdle rates earned produced an average
PME of 0.967.

The authors noted that this difference in performance could be skewed by the
fact that the best-performing general partners have the most power in
negotiating fee contracts, and are therefore less likely to agree to “LP-friendly”
terms like hurdle rates. Still, the researchers concluded that fee terms that
“seems superficially to be desirable for limited partners are not obviously
better.”

“Venture investors get what they pay for, at least on average,” they wrote.

If you accept funds from an external investor, you must share information
about your company with them and delegate some decision-making. You can
draw up a shareholders' agreement to establish how joint decisions will be
made, and to balance the interests of different shareholders.

19
The shareholders' agreement will also cover the rights and duties of your
investment fund managers, e.g.:

 receiving regular company performance reports

 consultation on important decisions, e.g. business acquisitions and
disposals
 control of the exit process
Day-to-day operations
You should keep in contact with your fund managers, as they can help you
with strategic decisions and issues such as:

 organising further investment

 negotiating with banks
 negotiating the sale of the company to partners in the sector
Investing fund managers generally leave day-to-day operations and growth
strategies to the company's senior management. They may, however, take a
more hands-on role if there is a crisis, if the company is a start-up, or if the
investment is a complex one, e.g. a debt-financed operation.

Company committees and boards

Most fund managers will expect to be present or be represented on a
company's board, subject to normal corporate governance standards.

Financial board members are subject to their own professional codes of

conduct, including those which cover conflicts of interest between different
investments. Fund managers can also play an active role in important
committees, e.g. for audit or remuneration.

Liability
A fund manager sitting on a company board has a duty of care to its
shareholders and creditors. They will generally avoid involvement in day-to-
day operations, as this will increase their liability should the company
collapse.

Experienced fund managers should be able to identify signs of crisis in a

company, such as a sharp rise in fixed costs or high staff turnover.

20
Exit strategies
Venture capital (VC) investors may decide to sell their investment and exit a
company. Alternatively, the company's management can buy the investor out
(known as a 'repurchase').

Other exit strategies for investors include:

 sale of equity to another investor - secondary purchase

 stock market floatation
 liquidation - involuntary exit
Private equity firms may decide to not sell all the shares they hold. In the case
of a flotation, they are likely to hold the newly-quoted shares for at least a
year.

The exit value of a company must be mutually agreed between all parties, and
will depend on:

 the type of operation

 the number of shares sold
 the original valuation of the company
Private equity funds have either a limited lifespan - usually ten years - or they
can continue to operate as long as they have capital to invest.

21
 Venture Capital Valuation Methods

In order to evaluate a company, one must have an initial understanding of it.

Therefore, at Venture Valuation, we pursue a holistic evaluation approach. All
valuations are based on a careful consideration of both hard facts and soft
factors. We apply a thorough risk assessment of factors which include:

 Management
 Market
 Science and technology
 Financials / funding phase

To determine the value of a company as accurately and as objectively as

possible, we use a mixture of different assessment methods. All methods are
specifically suited for the evaluation of technology companies, with high
growth potential and start-up companies of all types. Although not every kind
of valuation method is appropriate, Venture Valuation assesses each company
according to their industry and financing phase.

The simplest method of estimating the value of a private company is to

use comparable company analysis (CCA). To use this approach, look to the
public markets for firms which most closely resemble the private (or target)
firm and base valuation estimates on the values at which its publicly-traded
peers are traded. To do this, you will need at least some pertinent financial
information of the privately-held company.

For instance, if you were trying to place a value on an equity stake in a mid-
sized apparel retailer, you would look to the public sphere for companies of
similar size and stature who compete (preferably directly) with your target
firm. Once the "peer group" has been established, calculate the industry
averages. This would include firm-specific metrics such as operating
margins, free-cash-flow and sales per square foot (an important metric in retail
sales). Equity valuation metrics must also be collected, including price-to-
earnings, price-to-sales, price-to-book, price-to-free cash
flow and EV/EBIDTA among others. Multiples based on enterprise
value should give the best interpretation of firm value. By consolidating this

22
data you should be able to determine where the target firm falls in relation to
the publicly-traded peer group, which should allow you to make an educated
estimate of the value of an equity position in the private firm.

Additionally, if the target firm operates in an industry that has seen recent
acquisitions, corporate mergers or IPOs, you will be able to use the financial
information from these transactions to give an even more reliable estimate to
the firm's worth, as investment bankers and corporate finance teams have
determined the value of the target's closest competitors. While no two firms
are the same, similarly sized competitors with comparable market share will be
valued closely on most occasions

Discounted Cash Flow (DCF)

Method: The discounted cash flow method takes free cash flows generated in
the future by a specific project / company and discounts them to derive a
present value (i.e. today’s value).

The discounting value usually used is the weighted average cost of capital
(WACC) and is symbolized as the ‘r’ in the following formula:

DCF = Calculated DCF value

CF = Cash Flow
r = Discount rate (WACC: Weighted average cost of capital)

Uses: DCF calculations are used to estimate the value of potential investments.
When DCF calculations produce values that are higher than the initial
investment, this usually indicates that the investment may be worthwhile and
should be considered.

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Risk adjusted NPV

Method: The risk adjusted net present value (NPV) method employs the same
principle as the DCF method, except that each future cash flow is risk adjusted
to the probability of it actually occurring.

The probability of the cash flow occurring is also known as the ‘success rate’.

Uses: Risk adjusted NPV is a common method of valuing compounds or

products in the pharmaceutical and biotech industry, for example. The success
rates of a particular compound/drug can be estimated, by comparing the
probability that the compound/drug will pass the various development phases
(i.e. phases I, II or III) often undertaken in the drug development process.

Also known as: rNPV, eNPV (e=estimated/expected)

Venture Capital method

Method: The venture capital method reflects the process of investors, where
they are looking for an exit within 3 to 7 years. First an expected exit price for
the investment is estimated. From there, one calculates back to the post-money
valuation today taking into account the time and the risk the investors takes.

24
The return on investment can be estimated by determining what return an
investor could expect from that investment with the specific level of risk
attached.

Uses: The Venture Capital method is an often used in valuations of pre

revenue companies where it is easier to estimate a potential exit value once
certain milestones are reached.

Market comparable method

Method: The market comparable method attempts to estimate a valuation

based on the market capitalization of comparable listed companies.

Uses: The market comparable method is a simple calculation using different

key ratios like earning, sales, R&D investments, to estimate the value of a
company.

Also known as: Multiples

Comparable Transaction method

Method: The comparable transaction method attempts to value an entire

company by comparing a similar sized private company in a similar field, and
using different key ratios. The price for a similar company can either come
from an M&A transaction or a financing round.

Uses: The comparable transaction method is a simple calculation estimating

the value of a target company based on comparable investments or M&A
deals.

Decision Tree analysis

Method: Decision trees are used to forecast future outcomes by assigning a

certain probability to a particular decision.

25
The name decision tree analysis comes from the ‘tree’ like shape the analysis
creates where each ‘branch’ is a particular decision that can be undertaken.

Uses: Decision trees are used to give a graphical representation of options,

strategies or decisions that can be undertaken to reach a particular goal or
“decision”.

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 Advantages vs Disadvantages

 Advantages for Businesses

For start-ups and new businesses with significant potential for growth, venture
capital can provide a vital source of money to grow quickly. For example, let’s
say you have a new business idea with a ready-made and eager market to buy
it. What you don’t have is the money necessary to develop that idea into a
product you can sell to that market, at least not before competitors can. In this
situation, venture capital might allow you to quickly create and expand the
business, gaining market share and brand recognition before competitors can
beat you to the sale. Because venture capital is not a loan, it’s categorized as
equity in the company instead of debt carried by the company. Thus, the
company doesn’t have to repay the funds. Additionally, as the business grows,
its value tends to increase, so venture capital can end up making the original
owner's stake in the company even more valuable.

 Disadvantages for Businesses

Venture capital investments mean exchanging a slice of ownership in the

company for money. That means the owner of the company is no longer the
only person in charge or able to make decisions about the company’s direction.
For some entrepreneurs, this can be a difficult trade to make and live with,
especially if a disagreement arises with the venture capital investor. And it’s
not unusual for venture funding agreements to lead eventually to such
disagreements. Often, venture capitalists have a greater tolerance for risk and
wind up pushing for rapid expansion into new markets or areas, whereas the
original owner may prefer a slower approach to growth. Venture capital
investors may also push for a quicker exit from the market than the original
owner is willing to consider, either through acquisition by a larger company or
through an initial public offering.

27
 Advantages for Investors

For savvy, experienced investors, venture capital is often an attractive strategy.

It offers the potential for impressive returns on the original amount invested,
and if the investment pays off, the status and rewards that come from having
“picked a winner.” Venture capital investors often seek out innovative start-up
companies, particularly in the high-tech industry. These companies can realize
dramatic business expansions, sometimes in just a short amount of time. A
successful venture capital investment could result in returns that far exceed
industry averages. Even smart traditional investments, such as purchasing
stock in large, successful companies, or buying real estate in healthy markets,
can pale in comparison to a significant venture capital investment in a
successful tech start-up.

 Disadvantages for Investors

The primary drawback of venture capital for investors is the significant risk
that accompanies that potential for significant reward. Potential is no guarantee
of success, and a huge payoff is not the favoured outcome, statistically
speaking. Even experienced venture capital investors can make a mistake, and
even the strongest business ideas can fall victim to unfortunate developments.
Poor business decisions, fundamental flaws in a business model, changes in
economic conditions and competition may impede growth even with ample
funding. If a company fails despite attracting venture capital, investors could
lose most if not all of their investment.

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 Trends in India

Leveraging technology in the services economy

India is seeing increasing use of technology in various sectors of the economy.

The services sector in India has begun leveraging technology to change the
way it operates. This presents a great investment opportunity for venture
capital funds to invest in India's services sector, which is striving for
innovation through mobile, social, and cloud technologies to meet consumer
needs by reducing costs and expanding business reach. Some of the major
service-oriented industries in India include financial services,
advertising/marketing, publishing, insurance, travel, logistics, healthcare,
education, and government.

Indian companies expanding global reach presents an opportunity

Given increasing Internet penetration in India, B2C companies is aiming

increasingly to reach out to a larger global consumer base t make their
businesses more scalable. Thus, companies are no longer looking to confine
their businesses to local boundaries. They are in fact willing to broaden their
business horizons. Therefore, companies are taking to social media and the
Internet to reach out to a global consumer base. With middle-class category
growing rapidly in many developing and emerging countries, demand for
products is constantly increasing. This presents a great investment opportunity
for VC funds. They can park funds in companies that aspire to go global,
which increases their overall profitability.

India is slowly moving towards digital currencies

Digital currencies such as a Bit coin are beginning to find their way in the
Indian markets. They are promising to revolutionize the payments system over
the coming decade. The technology behind bit coins is the block chain
technology. This technology presents a great investment opportunity for VC
funds to park their money. This technology is all set to revolutionize the whole

29
digital payments industry. Given the demonetization initiative in India,
demand for digital payments solutions has begun increasing rapidly.

Innovative hardware presents great opportunities

Consumers are increasingly game to use gadgets such as selfie sticks and
smart heating vents. The new generation consumers in India, which is tech-
savvy and social media friendly, connect instantly with these electronic
gadgets. Thus, this presents a great investment opportunity for VC funds,
especially because these products connect instantly with consumers on a larger
scale, forcing investors to take note. India has seen growing demand for
innovative hardware solutions in the past few years. Most Indian consumers
prefer consuming brands such as Beats, JawBone, FitBit, and the GoPro
camera, which are popular global electronic hardware products. The best part
is that these products are a good combination of low-cost manufacturing and
higher financial returns.

Real estate sector presents good opportunities

Real estate sector has been historically one of the most popular investment
avenues in India. Moreover, with the option of investing in real estate
funds through the SIP route, the demand for the sector is seeing more increase.
Government's Make in India and Housing for All initiatives coupled with the
thrust of the infrastructure sector promises to boost real estate demand. Thus,
the Indian real estate industry provides a great investment option for VC
funds.

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Deep Tech start-ups—businesses driven by artificial intelligence (AI),
machine learning (ML) and the Internet of Things—saw record funding. The
biggest was robotics start-up Grey Orange’s $140 million led by Peter Thiel’s
Mithril Capital. Investors believe the rising interest in niche technology
segments is driven by a growing talent pool.

“A surge in deep-tech talent in data science, AI and ML, is driving higher

interest in deep tech start-ups," said Sanjay Nath, managing partner, Blume
Ventures—which is invested in GreyOrange. Sectors like healthcare have a
huge potential for deep-tech disruption, with models of predictability and a
broad reach that can make up for India’s poor doctor-patient ratio. Deep-tech
start-ups are scaling up faster and facing fewer challenges in monetizing
business models. However, deal volumes fell for the third straight year from
63 in 2016 and 58 in 2017 to 39 in 2018, indicating larger ticket sizes for a
smaller number of successful start-ups.

Start-ups go global
Oyo and Ola were among the big Indian start-ups that strode abroad in pursuit
of new growth avenues. Will this be the new norm for VCs and start-ups that
are chasing high expectations at mammoth valuations? “The valuation of these
firms is with the assumption that they will expand abroad," said Anirudh
Damani, managing partner, Artha Venture Fund, an early stage investor. Start-
ups have competition in their DNA because they are brought up being
compared with their global peers. So for these start-ups to go global is only

31
natural, he added. Investors expect this trend will continue, given start-ups are
raising large capital with the intention of going global.

“Indian start-ups are coming of age and some of them have not only perfected
their product-market fit within India but also see that their business models can
easily transition to a larger market outside India," said Niren Shah, managing
director at Norwest Venture Partners India. In many cases, when a start-up has
been successful in India, it has in effect cracked important elements such as
scale, cost, innovation and driving revenue in a low GDP per capita market.
“We are increasingly seeing Indian start-ups using these factors to their
advantage to go international," he added.

Unicorn creator Softbank

Softbank Group Corp. has continued being the behemoth of late-stage capital,
backing Policy Bazaar and Oyo Rooms this year, besides going deeper in
earlier investments like Paytm. With billions of dollars to spend, Softbank will
continue to drive late-stage activity in the Indian start-up ecosystem.
“Softbank is a positive force for the Indian start-up ecosystem. Softbank has
large pools of capital that are helping fund late-stage venture companies in
India. This is helpful and welcome for our ecosystem, since it allows a focus
on growth and scale and provides a cushion on the timing of the IPO," said
Shah of Norwest Venture Partners India.

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 Regulatory Framework for Venture Capital in India

Venture Capital in India governs by the SEBI [8] Act, 1992 and SEBI
(Venture Capital Fund) Regulations, 1996. According to which, any company
or trust proposing to carry on activity of a Venture Capital Fund [9] shall get a
grant of certificate from SEBI [10]. However, registration of Foreign Venture
Capital Investors (FVCI) is not obligatory under the FVCI regulations [11].
Venture Capital funds and Foreign Venture Capital Investors are also covered
by Securities Contract (Regulation) Act, 1956, SEBI (Substantial Acquisition
of Shares & Takeover) Regulations, 1997, SEBI (Disclosure of Investor
Protection) Guidelines, 2000.

Constitution of Venture Capital Funds

There are three layers of structured or institutional venture capital funds i.e.
venture capital funds set up by high net worth individual investors, venture
capital subsidiaries of corporations and private venture capital firms/ funds.
Venture funds in India can be divided on the basis of the type of promoters.

 Venture Capital Funds promoted by the Central government controlled

development financial institutions such as TDICI, by ICICI, Risk capital
and Technology Finance Corporation Limited (RCTFC) by the Industrial
Finance Corporation of India (IFCI) and Risk Capital Fund by IDBI.

 It is promoted by the state government-controlled development finance

institutions such as Andhra Pradesh Venture Capital Limited (APVCL) by
Andhra Pradesh State Finance Corporation (APSFC) and Gujarat Venture
Finance Company Limited (GVCFL) by Gujarat Industrial Investment
Corporation (GIIC)

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  Also, promoted by Public Sector banks such as Canfina and SBI-Cap.

 Venture Capital Funds promoted by the foreign banks or private sector

companies and financial institutions such as Indus Venture Fund and
Grindlay's India Development Fund [12].

Eligibility and Investment Criteria for Venture Capital Funds

For Venture Capital Funds it is required that Memorandum of Association or

Trust Deed must have main objective to carry on action of Venture Capital
Fund including prohibition by Memorandum of Association & Article of
Association for making an invitation to the public to subscribe to its securities.
Further, it is required that Director or Principal Officer or Employee or Trustee
is not caught up in any litigation connected with the securities market and has
not at any time been convicted of any offence involving moral turpitude or any
economic offence. Also, in case of, body corporate, it must have been set up
under Central or State legislations and applicant has not been refused
certificate by SEBI [13].

A Venture Capital Funds may generate investment from any investor (Indian,
Foreign or Non-resident Indian) by means of issue of units and no Venture
Capital Fund shall admit any investment from any investor which is less than
five Lakhs. Employees or principal officer or directors or trustee of the VCF or
the employees of the fund manager or Asset Management Company (AMC)
are only exempted. It is also mandatory that VCF shall have firm commitment
of at least five Crores from the Investors before the start of functions by the
VCF. Disclosure of investment strategy to SEBI before registration, no
investment in associated companies and duration of the life cycle of the fund is
compulsorily being done. It shall not invest more than twenty five percent of
the funds in one Venture Capital Undertaking. Also, minimum 66.67% of the

34
investible funds shall be utilized in unlisted equity shares or equity linked
instruments of Venture Capital Undertaking.

It is also mandatory that not more than 33.33% of the investible funds may be
invested by way of following as stated below: -

 Subscription to IPO [14] of a Venture Capital Undertaking (VCU)

 Debt or debt instrument of a VCU in which VCF has already made an

investment by way of equity

 Preferential allotment of equity shares of a listed company subject to lock

in period of one year

 The equity shares or equity linked instruments of a monetarily weak

company or a sick industrial company whose shares are listed.

 SPV (special purpose vehicles) which are created by VCF for the purpose
of making possible investment.

RBI and Investment Criteria

A foreign venture capital investor proposing to carry on venture capital

activity in India may register with the Securities and Exchange Board of India
(“SEBI”), subject to fulfilling the eligibility criteria and other requirements
contained in the SEBI Foreign Venture Capital Investor Regulations. The
SEBI Foreign Venture Capital Investor Regulations prescribe the following
investment guidelines, which can impact overall financing plans of foreign
venture capital funds.

 The foreign venture capital investor must disclose its investment strategy
and life cycle to SEBI, and it must achieve the investment conditions by
the end of its life cycle.

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 At least 66.67 per cent of the investible funds must be invested in unlisted
equity shares or equity linked instruments.

 Not more than 33.33 per cent 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.

· Debt or debt instrument of a venture capital undertaking in which the foreign

venture capital investor has already made an investment, by way of equity.

· Preferential allotment of equity shares of a listed company, subject to a lock-

in period of one year.

· The equity shares or equity linked instruments of a financially weak or a sick

industrial company (as explained in the SEBI FVCI Regulations) whose shares
are listed.

A foreign venture capital investor may invest its total corpus into one venture
capital fund [15].

Tax Matters related to Venture Capital Funds

Indian Venture Capital Funds are allowed to tax payback under Section
10(23FB) of the Income Tax Act, 1961. Any income earned by an SEBI
registered Venture Capital Fund (established either in the form of a trust or a
company) set up to raise funds for investment in a Venture Capital
Undertaking is exempt from tax [16]. It will also be extensive to domestic
VCFs and VCCs which draw overseas venture capital investments provided
these VCFs/VCCs be conventional to the guidelines pertinent for domestic
VCFs/VCCs. On the other hand, if the Venture Capital Fund is prepared to
forego the tax exemptions available under Section 10(23F) of the Income Tax
Act, it would be within its rights to invest in any sector [17].

36
 Venture Capital Helps Drive Start – up Economy

Companies usually begin with little more than a dream: a concept, an idea, or
an invention. But while hope, inspiration, and some personal savings can be
the promising seed for a start-up, it often takes much more to grow a concept
into a thriving company.

Long before a start-up company can borrow large amounts of money from a
bank or raise large amounts of money by going public, alternative sources of
funding are needed. And that’s where angel investors and venture
capital investments come into play. One hundred years ago, most venture
capital came from just a few wealthy families like the Rockefellers. Today,
investors who wish to participate in VC investments often do so through
managed venture capital funds. Professional angel investors typically
participate in angel groups or angel investor networks.

Below is an overview of how important venture capital is to start-ups in the

U.S., based on data from the National Venture Capital Association (NVCA) —
and what you need to know if you’re hoping to raise it for your business
someday.

Helping Little Companies Become Big

Venture capitalists have a large impact upon the world of commerce. Venture
capitalists invest more than $22 billion into approximately 2,700 United States
companies every year, according to the NVCA.

Approximately 2.7 percent of that money is invested in seed stage companies.

But the bulk of venture capitalist funds are invested in companies that have
progressed beyond the seed stage, but haven’t yet matured to the point of
being able to go public.

On average, the capital invested varies based upon the stage of growth of the
company, as follows:

37
 Seed stage companies (7 percent of VC deals): Average VC funding of
$2,645,379.20

 Early stage companies (44 percent of VC deals): $4,781,354.58

 Expansion stage companies (26 percent of VC deals): $9,805,542.89

 Later stage companies (22 percent of VC deals): $10,354,341.33

Where and How Venture Capitalists Invest Most

Venture capitalists can be found in just about every state in the nation. But the
top five states in terms of average VC funding are:

 California
 Massachusetts
 New York
 Washington
 Texas

California is at the front of the pack, generating more than $14 billion in VC
funding each year – more than four times that of the next closest state in VC
funding, Massachusetts.

And venture capitalists help to fund companies across a broad spectrum of

industries. But more than half of all venture capitalist funding is invested
across just four industries:

 Software – 31.2 percent of venture capitalist funding

 Biotechnology – 15.6 percent

 Industrial/Energy – 10.4 percent

38
 Medical Devices and Equipment – 9.2 percent

Though the flat economy has had an impact on the amount of venture capitalist
funding available in recent years, the industries of retailing and software have
experienced increases in VC funding in both 2011 and 2012.

What This Means for Start-ups Today

While venture capital makes up a fraction of the $565 billion per year invested
into start-ups, it is a potent funding source. In fact, recent studies
(see: 8 National Venture Capital Association (NVCA), Venture Impact: The
Economic Importance of Venture Capital-Backed Companies to the U.S.
Economy, 5th ed., 2.) estimate more than a fifth of the United States gross
domestic product is provided by companies that were helped to maturity by
VC funding. That accounts for more than $3 trillion in revenue, and nearly 12
million jobs in the United States.

However, according to our own start-up funding data, only .05 percent of start-
ups raise start-up funding from VCs. Other sources of funding like personal
savings, credit cards, friends and family, angel investors, banks and crowd
funding are critical funding sources before most companies ever get to the
point of raising venture capital.

Generate Traction to Capture Attention

Traction is one of the most important differentiators for start-ups, for two
reasons. First, the people competing for capital likely won’t have any, and
secondly, no one can argue with traction.

Take Facebook as an example. No one cared that Zuckerberg was a Harvard

dropout with no business experience because no one could argue with their
rapid user acquisition and execution. So start generating traction and proving
out your model, and you’ll put yourself in a better position to raise both angel
investments and venture capital. You can gain traction by building out an
MVP, acquiring customers and proving larger market demand.

39
 Principles of Venture Capital

Three Core Principles of Venture Capital Strategy

Because it's unlike other financial asset classes, venture capital portfolio
strategy is often misunderstood by newcomers.

The VC industry has rapidly grown in both popularity and activity, in

2017, $82.9 billion of venture deals were executed in the USA, compared
to $27 billion in 2009.

Why is VC popular? Recent advances in technology make it more

accessible and cheaper to start new businesses, which in turn have
increased funding opportunities. In addition, VCs invest in start-ups that
everyday people interact with (e.g., apps) as opposed to, say, a PE fund
that invests in power plants.

Yet, venture capital investment returns have consistently underperformed

relative to public markets and other alternative assets. Since 1997, less
capital has been returned to venture investors than has been invested into
its funds.

The idiosyncratic, subjective, and almost artistic nature of venture

investing is unlike the traditional realms of finance, where many new VC
professionals enter from.

Venture deal and venture capital fund returns mirror that of a power law
distribution. The characteristics of this fat tail curve mean that a tiny
number of returns are huge, but the overwhelming majority are
unspectacular (the tail)

40
Lesson 1: Home Runs Matter – Invest in each deal in isolation as if it's your
last.
65% of venture deals return less than the capital invested in them.

The majority of entire fund returns tend to come from single, incredibly
successful, "home run" investments. For the best performing funds, 90% of
their returns come from less than 20% of their investments.

Fortune favours the bold in venture capital. Returns have binary

outcomes—either you "lose" your investment or win with a home run.
Every investment must be made with the separate mentality of whether it
can be a home run deal.

Swinging for the fences means that you will make misses. But strike-out
(poor return) investments don't matter if a home run is hit. The best
performing funds actually have more loss-making deals than the average
funds.

Lesson 2: Finding Home Runs – Is there a science to this, or is it an art?

The chances of hitting a home run: A 50x returning investment in a
"unicorn" company is hard. The probabilities range from 0.07% to 2% and
there is no "playbook" for finding them.

1) Science

Play the probabilities and invest in MANY start-ups. With this philosophy,
you would need to invest in 50 businesses to stumble upon a 2% chance of
finding a unicorn.

41
This approach has been tried by accelerators, yet accelerator graduated
businesses have less successful follow-on outcomes (18%, compared to a
50% average), hinting that there is a quality <> quantity trade-off in
venture investing.

2) Art
Follow the philosophy of classic venture investing by making contrarian
bets into start-ups that display strong characteristics of team, addressable
market, scalability, unfair advantage, and timing coincidence.

Lesson 3: Following-on is critical – As with Blackjack double-downs, you

must press your winners.

66% of the money in a VC fund should be reserved for following-on. This

is the process of investing in the future rounds of existing portfolio
investments.

By following-on, an investor can maintain its ownership percentage in the

start-up, without being diluted. This provides governance and absolute
dollar return advantages at exit.

Follow-ons are a true test of a venture manager, facing the sunk-cost

fallacy of deciding to pour more money after a bad investment, or to back a
winner.

A mistake that many a VC fund can make is to quickly invest all of its
capital and leave no dry powder for follow-on investments.

42
Andreessen Horowitz made a 312x return within two years from its
investment in Instagram. From an IRR perspective, this was a home run,
but because it only invested once, for $250,000, the $78 million of exit
proceeds were not significant within the context of its entire $1.5 billion
portfolio size.

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 Firms of Venture Capital in India

 Helion Venture Partners

Investing in technology-powered and consumer service businesses, Helion

Ventures Partners is a $605 Mn Indian-focused, an early to mid-stage venture
fund participating in future rounds of financing in syndication with other
venture partners.

People You Should Know: Sandeep Fakun, Kanwaljit Singh.

Investment Structure: Invests between $2 Mn to $10 Mn in each company

with less than $10 Mn in revenues.

Industries: Outsourcing, Mobile, Internet, Retail Services, Healthcare,

Education and Financial Services.

Start-ups Funded: Yepme, MakemyTrip, NetAmbit, Komli, TAXI For

Sure, PubMatic.

 Sequoia Capital India

Sequoia Capital India specializes in investments in start-up seed, early, mid,

late, expansion, public and growth stage companies.

People You Should Know: Shailesh Lakhani and Shailendra Singh.

Investment Structure: SCI invests between $100,000 and $1 Mn in seed

stage, between $1 Mn and $10 Mn in early stage and between $10 Mn and
$100 Mn in growth stage companies.

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Industries: Consumer, Energy, Financial, Healthcare, Outsourcing,
Technology.

Start-ups Funded: Just Dial, Knowlarity, Practo, iYogi, bankbazaar.com

 Nexus Venture Partners

Nexus Venture Partners is a venture capital firm investing in early stage and
growth stage start-ups across sectors in India and US.

People You Should Know: Suvir Sujan and Anup Gupta

Investment Structure: Invests between $0.5 Mn and $10 Mn in early growth

stage companies. Also, makes investments up to $0.5 Mn in their seed
program.

Industries: Mobile, Data Security, Big Data analytics, Infrastructure, Cloud,

Storage, Internet, Rural Sector, Outsourced Services, Agribusiness, Energy,
Media, Consumer and Business services, Technology.

Start-ups
Funded: Snapdeal, Housing, Komli, ScaleArc, PubMatic, Delhivery.

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 Case Study - OLA CABS

Ola cabs have emerged as the fastest growing start-ups in the Indian market. It
is the result of brainstorming idea of 2 IITians Bhavish Aggarwal and Ankit
Bhati. They set up the firm in January 2011with its operation limited to
Mumbai only. Now it is the largest cab-booking service provider in India and
provides service in around 100 cities. They offer the service with almost
4,000,000 cabs across the country with a variety of car options like Mini,
Prime and Luxury. Different payment modes are provided to the customers for
their ride. The ultra-growth, enthusiasm and tremendous plan of expanding the
service to 100 cities till 2015 may be the reason which attracted Japan’s richest
man, Masayoshi Son, the chairman of telecom and media group Softbank
Corp, to invest in the company with an investment of $210 million. With its
super fine services and use of technology, the company’s revenue has reached
at $1billion. More than 400 employees are working under the roof of Ola cabs.

Vision

Ola cabs works with the vision to provide:

 Hassle-free
 Reliable and
 Technology efficient car rental service to Indians

Investment

Ola Cabs acquired its minor competitor TaxiForSure, in a $200million deal in

early march this year. The firm raised earlier rounds of funding from Tiger
Global, Matrix Partners India, Stead view Capital and Sequoia Capital. In its
initial round of funding, it raised an amount of $330K in 2011. It then received
$5million in series A funding, $20million in series B funding, $41.5million in
series C funding and then recently $210million in series D funding in October
2014. After then, on April 9, 2015 Ola cabs raised $400 million funding from
DST Global and others.

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Ola is in mood to expand in more and more cities. That’s the reason for
investing much on technology, security, and new offerings.

Increasing Popularity

Ola cabs acquired TaxiForSure on 1st March, 2015 for about $200 million.
Ola Cabs is on the top of the social media share of voice among all the radio
taxi service providers in India. Ola Cabs has 46% share of voice which is
highest in all followed by Meru Cabs with 19% share. It has over 2lacs fans on
Facebook and over 18.2K followers on Twitter.

Success Story

Started in January 2011 by two IITians, the firm is touching a milestone by

providing cab booking service to their customers. The journey of Ola cabs
started from the time when at a time, the founder Bhavish Agarwal was thrown
away from a taxi while travelling to his destination after refusing to pay a
renegotiation demanded by the driver. This incident hammered in the mind of
Agarwal and he decided to develop a platform for booking a taxi/cab so that

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other people may not face the same problem. He started implementing his
ideas and created the base and then after his classmate Ankit Bhati joined him
in the venture. They both implemented their ideas to make Ola better and
better. Soon after they received series A funding of $5million from Tiger
Global. After that they raised funds from many other investors. A series of
investment in Ola cabs has raised their total funding to $677millions.

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 Case Study – Swiggy

Swiggy was founded by Nandan Reddy, Sriharsha Majety, and Rahul

Jaimini in August 2014. Nandan Reddy aged 29 and Sriharsha Majety aged 31
both are both alumni of Birla Institute of Technology and Science (BITS)
Pilani while Rahul Jaimini aged 31 is an alumnus of IIT Kharagpur.

Swiggy Journey:

Swiggy began its Journey from Bengaluru with six delivery executives and 25
restaurants on its platform. In the time of 3 years, it has scaled up with over
6,000 delivery executives across India in more than 8 cities like Delhi-NCR,
Mumbai, Bengaluru, Hyderabad, Chennai, Kolkata, and Pune.

Swiggy Business Model:

Swiggy has two major revenue streams.

 The major part of Swiggy’s revenue from commission it collects from

restaurants for lead generation and for serving as a delivery partner.
 Swiggy also charges a nominal delivery fee from customers on orders
below a threshold value which 200 rupees for most cities.

Swiggy Funding:

Swiggy is backed by one of best investors available in the market. Swiggy has
raised a total of 75.5 million dollars in funding from various investors,
including Bessemer Venture Partners, Norwest Venture, Accel Partners, SAIF
Partners, Harmony Venture Partners, RB Investments and Apoletto.

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Swiggy Competitors:

Indian food delivery market is valued at 15 billion dollars and set for an
exponential growth. Food delivery has become a very competitive market in
India. Swiggy is in direct competition with major on-demand food aggregators
like Zomato. Whereas there are other
small start-ups like Foodpanda and Faasos also in the competition.

Swiggy Marketing Strategies:

Swiggy’s marketing strategy consists of both online and offline marketing

campaigns. It promotes its campaigns via Facebook, Twitter, Youtube,
Pinterest, and Instagram. Some of its campaigns include Second
#DiwaliGhayAayi, #SingwithSwiggy and know your food series of pictures
and food walks in a local area. The company has successfully built its brand
awareness and connects with its audience through these channels. Their
facebook page is quite active with regular updates, averaging to one post a
day. Swiggy uses its Social media not only for campaigning but to engage with
its customers from solving the grievances to taking the feedback.

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Success story:

From the time of its inception, this online platform has raised large sums of
money which more than proves Swiggy’s worth as a food ordering
platform. Starting from discovery through visual menus, massive reduction in
delivery time and no minimum order, Swiggy has become the highest used
online platform. With over 12,000 restaurants in their roster, industry best
average delivery time of 37 minutes and reduced overhead costs, Swiggy has
positioned itself at the top of this field.

To make sure they are here for the long run, Swiggy has launched a host of
exciting features like Swiggy Pop, Swiggy Access and Swiggy Schedule. With
constant developments in their technology, Swiggy has made sure it has
secured the number one position in the country in relation to the online food
ordering food.

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 Growth and Decline of Venture Capital over the Years

In the early years of this century, VC firms and their investors were enthusiastic
about India’s potential. Fifty percent of the country’s 1.1 billion people were
younger than 30. From 2003 to 2007, GDP grew by 7.5 percent annually, 88
million middle-class households were formed (more than twice the number in
Brazil), urban dwellers grew by 35 million to 330 million, and 60 percent of the
population was in the labour force. Banks’ nonperforming-asset ratios fell from 9.5
percent to 2.6 percent. Further, the VC-to-GDP ratio stood at 1.8 percent,
reassuring investors that India had plenty of headroom when compared with
developed markets such as the United Kingdom (4.2 percent) and the United States
(4.4 percent).

VC investors poured about $93 billion into India between 2001 and 2013 (Exhibit
1). At first, returns were strong: 25 percent gross returns at exit for investments
made from 1998 to 2005, considerably better than the 18 percent average return of
public equity. But returns fell sharply in following vintages; funds that invested
between 2006 and 2009 yielded 7 percent returns at exit, below public markets’
average returns of 12 percent. In fact, India’s VC funds in recent years have come
up well short of benchmarks: with a 9 percent risk-free rate and a 9.5 percent
equity risk premium (accounting for currency risk, country risk, and volatility), the
climb for Indian VC investors is undisputedly steep. To be sure, returns are based
on a small number of exits, but that in itself is a problem. Only $16 billion of the
$51 billion of principal capital deployed between 2000 and 2008 has been exited
and returned to investors.

Understanding what went wrong

Where did VC firms go wrong? Many in the industry suggest that the management
approach favoured by North American buyout firms was ill suited to the Indian

52
opportunity and was made worse by the inexperience of VC firms operating on the
home turf of experienced promoters (a unique form of business owner and
investment syndicator). However, there are better explanations, in two categories,
which provide lessons for investors to explore.

Estimates overshot the mark

Firms overestimated the market in several ways. Some misjudged the investable
universe of private companies. The pull of public markets set the stage for some
adverse selection of private companies and created unexpected competition from
intermediaries. Overly optimistic GDP forecasts and a convenient interpretation of
VC-to-GDP ratios also worked against some VC firms.

Indian general partners are fishing in a small pond (Exhibit 2). In 2013, India had
10,440 companies with between $25 million and $500 million in revenue,
excluding state-owned entities and publicly listed companies; China had 41,150
and Russia had 16,700. And general partners can’t step up in size and pursue larger
companies; there are about 270 private companies with revenues over $125 million
in India, compared with 1,295 in Brazil, 7,680 in China, and 3,430 in Russia. India
has about 30 private companies with more than $500 million in revenues.

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India offers fewer private companies than other emerging markets.

Indian general partners are in constant competition with stubbornly high capital-
market valuations. India has around 2,600 publicly listed companies with less than
$125 million in revenue, compared with 1,000 in China. As a result, many private
companies went public before VC managers could access them.1This had two
effects. First, it created pricing pressure on private buyers; indeed, India is one of
the few markets where private valuations meet and often exceed public-market
comparables. Second, some argue it created an adverse selection of private
companies, as companies that could access public markets did.

With fewer investable private companies, competition from capital markets, and
growing levels of “dry powder” among VC firms, the environment became fertile
for sell-side intermediaries, facilitating greater competition. Intermediaries push
prices up via auctions, and, of course, public comps underpin the market. As a
result, Indian general partners saw a highly intermediated, fully priced market with
few proprietary deals.

Rewards for optimism persisted longer than they should have. In every year but
one between 2002 and 2010, India’s GDP exceeded all major analysts’ predictions.
However, from 2011 on, that trend reversed sharply as India’s GDP came in either
below or at the lower end of analysts’ expectations. With so many models pegged
to GDP growth estimates, volatility played havoc with returns.

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India’s general partners also had more capital on hand than could be reasonably
invested. Many investors were bewitched by industry observers’ claims that India’s
VC-to-GDP ratio was low relative to developed markets. However, a closer look
reveals those numbers weren’t so low. If cumulative VC investments from 2002 to
2005 relative to 2005 GDP are considered, India stood at 0.72 percent, similar to
China (0.85 percent) and below Indonesia (1.08 percent) and Korea (1.15 percent).
But as capital flowed in, India quickly hit and passed these benchmarks. The
figures for 2006–09 stood at 3.5 percent for India, higher than China (1.2 percent),
Korea (2.4 percent), and Indonesia (0.8 percent). True, between 2006 and 2009
private investors sunk nearly $60 billion into China, more than the $47 billion they
invested in India. But then again, the Chinese opportunity is much larger—bears in
mind the more than 40,000 companies that private investors might access in China,
relative to India’s 10,000, as shown in Exhibit 2. By the end of 2006, investors in
India sat on more than four years of dry powder.

Excess capital pressured discipline

With excess capital on hand, general partners increased transaction sizes and
invested in a range of sectors, many of them capital intensive, relatively illiquid,
and requiring longer times to exit. As a result, returns have been hurt, exits have
been scarce, and secondary sales are becoming much more frequent.

Between 2005 and 2008, firms deployed capital in several industries (Exhibit 3). In
the next wave of investment, between 2009 and 2013, the investment mix shifted
considerably, and not for the better. For one thing, more investments were directed
to sectors that have longer gestation times and are more capital-expenditure
intensive, such as engineering and construction, hospitals, power generation, and
real estate—in other words, infrastructure plays. In India, such investments are
often Greenfield and take longer to bear fruit. By 2013, all of the 25 largest firms
had at least one such investment in their portfolios, representing 43 percent of the
$77 billion invested between 2007 and 2013. In several cases, as bank lending got
tighter, inflation rose, and policies wavered, the returns in these sectors dropped,
just as firms were committing more capital to them.

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Second, many infrastructure investments were made by generalist firms whose
capabilities to manage risk and projects with longer exit horizons varied
significantly. By contrast, consumer goods accounted for a mere 6 percent of
investments in 2005–08 and 5 percent in 2009–13. The expansion of investors’
appetite for larger deals came at the same time that several capital-hungry sectors
sought capital. But this increased risk, as these sectors were disproportionately
affected by escalating input costs and policy-driven delays.

The average investment holding period for exited deals rose from 3.5 years in 2004
to 5.2 years in 2013. Those entering these relatively illiquid long-gestation
businesses found it even harder to exit: of the $51 billion in investments made
between 2000 and 2008, only 14 percent (by value) of those in real estate exited,
along with 29 percent in logistics plays, 21 percent in engineering and construction
companies, and 9 percent in energy and utilities (Exhibit 4). Shareholders and
promoters found themselves in a tough position as input costs soared, working-
capital needs increased, and the IPO market lost its appetite for midmarket listings.
In aggregate, only $16 billion (31 percent) of the $51 billion invested has exited, at
a value of $27 billion (Exhibit 5). While several general partners have successfully
renegotiated extensions with limited partners, these forces can be expected to have
a material impact on returns.

Most sectors saw few exits, long holding periods, and low gross returns.

Of $51 billion invested from 2000 to 2008, $16 billion exited at 1.7 xs, or a
value of $27 billion.

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Like many emerging markets, India is prone to momentum investing, with few
contrarians to be found. More than 70 percent of private investments in the past ten
years were made when the index traded above its ten-year median price-to-
earnings multiple of 17.4 (Exhibit 6). By contrast, firms in China deployed less
than 50 percent of their capital at times of high valuation. In India’s volatile
lending environment, promoters learned to raise capital when capital is plentiful.
Discussions with general partners reveal a perception of unrealistic price
expectations and overpriced investments in others’ portfolios. In a market that
should prize liquidity, capturing liquidity premiums remains difficult.

Seventy percent of investments (~$65 billion) were made during capital-

market peaks.
With pressure to find an exit mounting, sales to other PE buyers are now the
second-largest way out. Nearly 30 percent of all exits by value in 2012–13 were
sponsor-to-sponsor sales, up from 10 percent in 2010–11 and 5 percent in 2006–
07. The good news: VC-backed companies appear to be better governed and
managed. However, they do not come with a buyback guarantee. One prominent
recent sponsor-to-sponsor deal wound up a total loss, with lawsuits filed against the
promoter and auditor.

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What might go right?

For all these flaws, VC has grown to become a critical source of capital in the
Indian economy. VC firms are responsible for 36 percent of the equity raised by
companies in the past ten years and contribute even more when times are tough—
47 percent in 2008 and 46 percent, on average, from 2011 to 2013. Further, our
ongoing research suggests that VC-backed companies in India increased revenue
and earnings faster than public companies across nearly all sectors and vintages,
and these companies are, on balance, better governed, more compliant with respect
to regulatory and fiduciary obligations, more likely to pursue M&A, and better at
seizing export opportunities.

VC investors are clearly doing something right, and they can build on this. Once
investors set their sights appropriately and govern behavioural excesses, they can
begin to invest in an India that is paradoxically underserved. There are five
supports that might emerge for a new wave of growth and returns: an increasing
bias toward control deals, a recognition of the complex needs of family-owned
businesses, new supply to meet a large and unaddressed need for mezzanine
financing and capital restructuring, greater limited-partner scrutiny of general-
partner strategies with track records, and support from regulators to boost the
confidence of foreign and domestic investors.

As they look for new targets, VC firms can seek more opportunities to exercise
control. In 2006–07, 13 percent of Indian VC investments by value were control
investments. By 2013, this had increased to 29 percent—a favourable trend.
Control investments allow firms to support an aging generation of entrepreneurs,
ensure better capital discipline in portfolio companies across volatile cycles, and
facilitate easier exits so that firms can renew maturing portfolios. A recent
McKinsey survey of Indian general partners revealed capital discipline was the
second most important focus after management capabilities.

Many of India’s aging owners have succession problems, underscoring the need to
address the issues of family-owned businesses. An estimated 70 percent by volume
of VC investment from 2007 to 2013 (46 percent by value) went into family-
owned businesses. Firms that build a deeper appreciation of the complex needs of

58
these businesses, including the dynamics that affect succession, talent attraction,
family trusts, liquidity, and governance, can bring significant value to their
investments and align the interests of promoters more easily. Investors confronted
with issues in their family-owned-business investments need to act on early-
warning signs and work through them in an orderly fashion to minimize impact on
companies’ health and performance. In the diligence phase, placing an equal
emphasis on the business and on the promoter and management can help firms
anticipate governance issues. In a recent McKinsey survey of portfolio-company
promoters, general partners and portfolio companies identified the inability to
recognize and navigate family issues as a weakness of general partners.

Private equity can also benefit from greater specialization—in particular, in

mezzanine capital and distressed debt. The need for mezzanine and bridge
financing can be estimated at between $18 billion and $24 billion by 2020; demand
for distressed-debt services will likely be even higher. Given the rapid pace of
expansion, including more cross-border acquisitions and the on-again, off-again
nature of bank lending to companies, more mezzanine and bridge capital would
serve promoters as well.

With nonperforming corporate loans rising fast at India’s banks and more
corporate-debt-restructuring cases landing on the books of state banks (which do
not always have strong workout capabilities), there is a strong case for more
distressed-debt funds. Many companies have problems in their capital structure,
and VC players have the skills for efficient restructuring.

However, both mezzanine and distressed-debt funds need regulatory support. For
this to take off, regulators would have to develop an appreciation of mezzanine
debt, as they do equity risk capital. In doing so, they would need to expedite court
receivership and delisting processes.

Some regulatory reform is needed to enable greater foreign and domestic VC

participation. At the top of the list are providing clarity and parity on tax treatment
for foreign and domestic funds (including issues such as pass-through status and
capital gains), addressing restrictions on investment in certain sectors and on
issuing convertible bonds, increasing the investable pool by simplifying the

59
delisting process, encouraging distressed debt and mezzanine financing,
simplifying fund-registration requirements, and recognizing the difference between
traditional promoters and active investors. While these reforms have been on the
table for a few years, many hold out hope that the new government will see some
of them through.

Limited partners also have a role to play in seeing PE expand; they can do better at
general-partner selection. Experience matters and is on the rise. Of the 113 funds
that invested between 2000 and 2013, 33 are now inactive. The vast majority of
these were first timers. The sector is slowly maturing; the number of funds
investing from a third (or successive) fund increased from 5 in 2003 to 22 in 2013.
As limited partners increase selectivity, further consolidation and increased
discipline are anticipated.

CURRENT STATISTICS ABOUT VC INVESTMENTS IN INDIA

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 Conclusion
Venture Capital Industry in India has a lost a bit of its shine in the past few
years. VC funds are struggling to exit portfolio companies or secure
investments at good valuations.VC funds are finding it difficult to raise funds
from foreign investors given the current global economic scenario and the
lackluster performance of the Indian economy. Perhaps the Venture Capital
industry in India which is currently overcrowded with several hundreds of
funds needs consolidation However, there is no doubt about the fact that for
India to grow at 9% private equity investments are indispensable especially in
sectors such as infrastructure, education , healthcare, IT/ITeS. Private equity
has a big role to play in helping companies grow, increasing employment,
raise productivity, improve corporate governance in small and midsized firms;
foster growth and encourage innovation and entrepreneurship. However, for
VC to realize its full potential, important regulatory hurdles like uncertainties
in India’s tax regime and limited investment opportunities for foreign investors
in several regulated sectors such as multi brand retail need to be addressed.
Going forward the Indian private equity investor still has faith in the long term
growth potential of the Indian economy and is cautiously optimistic.

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 Bibliography

Websites:

 www.investopedia.com

 www.scribd.com

 www.citeman.com

 www.charteredclub.com

 accountlearning.com

 www.forbes.com

 www.nibusinessinfo.co.uk

 www.venturevaluation.com

 www.thebusinessprofessor.com

 www.altsmart.in

 www.livemint.com

 www.legalservicesindia.com

 www.toptal.com

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