Venture capital has developed as a result of the need to provide non-conventional and non-risky finance to new ventures based on innovative entrepreneurship. It is a form of investment in the equity, quasi-equity and debt – straight or conditional, made in new and innovative concepts, promoted by a technically or professionally qualified entrepreneur.
Venture Capital is defined as sowing a seed for start-up and first stage financing and also funding the expansion of companies that have already demonstrated their business potential but still don’t have access to the public securities market or to credit oriented institutional funding sources.
Who are the venture capital funders?
These people are entrepreneurs, financial wizards and others who set up venture capital funds which are recognized by SEBI. There are 2 categories of the people in a venture capital fund –
- Limited Partners (LP)
- General Partners(GP)
General Partners – They serve to manage the fund and execute investments in order to return that capital to the LPs.
Limited Partners – Based on GPs proposal various different domains expertise investor will come and invest their money to the venture capital fund in India.
Venture Capital Fund in India
In India, Venture Capital plays a significant role in the growth and development of innovative entrepreneurships. Venture Capital activity in the past was possibly done by the developmental financial institutions like IDBI, ICICI and State Financial Corporations.
In India, the need for Venture Capital was recognised in the 7th five year plan and long term fiscal policy of GOI. In 1973, a Committee on Development of Small and Medium enterprises highlighted the need to fasten Venture Capital as a source of funding new entrepreneurs and technology. Venture Capital financing really started in India in 1988 with the formation of Technology Development and Information Company of India Ltd. (TDICI) – promoted by ICICI and UTI. At the same time Gujarat Venture Finance Ltd. and APIDC Venture Capital Ltd. were started by state level financial institutions. Sources of these funds were the financial institutions, foreign institutional investors or pension funds and high net-worth individuals.
A Venture Capital Undertaking means a domestic company
- Whose shares are not listed on a recognised stock exchange in India and
- This is engaged in the business of providing services/production/manufacture of articles/things but does not include such activities/sectors as are specified in the negative list by SEBI with government approval.
Types of Venture Capital Funds
Generally there are three types of institutional or organised venture capital funds: venture capital funds set up by high net-worth individual investors; venture capital subsidiaries of corporations and private venture capital funds.
Methods of Venture Financing
Venture capital is typically available in three forms in India, they are:
Equity financing: All Venture Capital Funds in India provide equity. Their contribution generally does not exceed 49 percent of the total equity capital. Thus, the control and ownership of the firm remains with the entrepreneur. Capitalists buy shares of an enterprise with an intention to ultimately sell them off to make profits and capital gains.
Conditional Loan: Conditional loan is a form of loan which is repayable in the form of a royalty after the venture is able to generate sales or earn profit. No interest is paid on such loans. In India, Venture Capital Funds charge royalty ranging between 2 to 15 percent; actual rate depends on various other factors such as gestation period, cost-flow patterns etc.
Income Note: It is a type of hybrid security which combines the features of both conventional method of loan and conditional method of loan. The entrepreneur has to pay both royalty and interest on sales, but at substantially low rates.
Participating Debentures: The interest on participating debentures is payable at three various rates, as per the phase of operation:
- Start-up phase — Nil
- Initial operations phase — Low rate of interest
- After a particular level of operations – High rate of interest
Convertible loans: The loans which are convertible into equity when interest on the loan is not paid within the stipulated period.
Other Financing Methods: A few venture capitalists have started introducing innovative financial securities like participating debentures.
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