The Concept Of Venture Capital Finance Essay

Entrepreneurship is a critical component of a turning economic system like India and have seen phenomenal rise in the last five decennaries. Despite the growing the concern induction, it is estimated that merely one out of 10 start-ups survives for over a decennary. A bulk of the start-ups that fail do n’t even last for over two old ages. The spread and failure in financing the start-ups may account for the ascertained high failure rates of new concerns. An of import beginning of financing these new concerns is the venture capital industry.

The venture capital investing enables the growing of advanced entrepreneurships. In order to supply for non-conventional, hazardous finance to new venture that would n’t be normally able to get finance from traditional beginnings lead to the development of the construct of venture capital.

The Concept of Venture Capital

Capital is the lifeblood of any concern. While no sum of money will do a bad concern successful, no concern can last without adequate money to prolong its operations.

Most new concern ventures require a significant capital investing in the different phases of its development. The needed financess may be raised by the boosters from different beginnings like:

Personal Savingss: Use of personal financess

Bootstrapping: Get the concern traveling with a really little investing and utilize the grosss generated to turn the concern.

Bank Finance: Raise financess from a bank in footings of a loan.

Each of these funding options has their ain restrictions. The boosters of these concern ventures may non hold sufficient financess saved to finance the undertakings entirely. Bootstrapping is merely possible for ventures which do n’t necessitate heavy initial investing. High hazard undertakings may non measure up for bank loans or other signifiers of debt funding.

In such instances the boosters of the concern venture may seek external funding. Venture Capital organisations finance such high hazard undertakings if they show significant potencies of growing and profitableness.

‘Venture Capital is defined as independent and professionally managed, dedicated pools of capital that focal point on equity or equity-linked investings in in private held, high growing companies. ‘

Venture Capital comes from the following four chief beginnings:

Private venture capital houses

Individual investors referred to as ‘angel investors ‘

Corporations doing investings

Government beginnings

Venture capital implies risk capital. It refers to equity or debt capital investing that has significant hazard and uncertainnesss every bit good as high growing potencies. This hazard may change from really high to moo. The hazard may besides be so high that they may ensue into a entire loss. The venture capitalist has an equal interest in the house ‘s loss every bit much as in its net income.

Beginning of Venture Capital

Around 1920s, the affluent households and persons began financing start-up companies that subsequently went on to go celebrated. Eastern Airlines and Xerox were some of the celebrated ventures financed in this mode.

The Rockefeller Family were among the early venture capital financess set ups started the VENROCK in 1950 which is a particular fund that aimed at financing new engineering companies. A Harvard Business School professor named General Dariot in the twelvemonth 1946 established the American Research and Development Corporation ( ARD ) . ARD focused on financing the technological development taking topographic point in the US Universities. ARD ‘s attack was to utilize lone equity, put for long term, and to be prepared to populate with also-rans.

In the early old ages venture capital had been associated merely with engineering nevertheless over the old ages the theory has undergone a alteration and today venture capital implies investing of pooled resources ( financess ) investing into unlisted companies.

History of Venture Capital Industry in India

Although the venture capital environment in India is comparatively new, there are four distinguishable stages that mark the constitution of this industry.

Phase 1: Venture capital funding started in India with the constitution of the Technology Development and Information Company of India ( TDICI ) promoted jointly by Investment Credit and Industrial Corporation of India and Unit Trust of India in 1988.

Phase 2: Entry of Foreign Venture Capital Funds ( 1995 – 1998 )

Phase 3: Emergence of Indian Venture Capital houses

Phase 4: The success of India enterprisers in the Silicon Valley became really apparent in the 1990s. This drew attending of the US venture capital houses on India due to a impression that India might hold more enterprisers who posses high potency. This increased the appetency of the US Venture Capital houses to put in the state.

Technology Development & A ; Information Company of India Limited

TDICI was formed in January 1988 with the combined attempts of ICICI and UTI. TDICI managed the state ‘s first venture fund called Venture Capital Units Scheme. The strategy started with an initial capital of Rs.20 crores and was devoted to funding of 37 little and average endeavors. Financing the computing machine package company, Kale Consultants by agencies of a loan and equity was the first undertaking undertaken by TDICI.

Soon, two financess under VECAUS-I and II which are UTI mobilized, are administered by the TDICI. The combined sum fund value peers Rs.120 crores.

Some of the major undertakings funded by TDICI are:

Mastek: TDICI invested a amount of Rs. 42 Lakhs for funding Mastek ; a Mumbai based Software Company in the twelvemonth 1989.

Temptation Foods: TDICI invested Rs. 50 Lakhs for funding Temptation Foods, a Pune based exporter of frozen fruits and veggies.

Porter ‘s Five Forces Model – VC Industry

Porter ‘s five forces theoretical account is a model for industry analysis and concern scheme development. It besides enables a better apprehension of all the parties involved in the industry.

Competitive Rivalry within the Industry:

VCFs puting in different market sections ( a VCF supplying the seed capital and one that finances a amalgamation ) do n’t straight vie with each other. So between the sections competition is moderate. All the venture capital houses compete with one another in order to procure financess from the investors. However, as the venture capital industry is still in its growing stage and due to the handiness of ample financess, the competition among the participants in the industry is moderate. Furthermore, the turning figure of concern start-ups provide ample chance to all the participants in the industry.

Menace of New Entrants:

The phenomenal growing in the industry and high profitableness continues to pull a big figure of new entrants. Furthermore, the barriers to entry are really low. Even though immense capital is required to be raised from investors to be able to finance start-ups, in today ‘s liquid fiscal market it ‘s non a really hard undertaking.

Several Bankss and fiscal establishments are besides diversifying their portfolios by puting up venture capital financess that would finance high hazard undertakings which Bankss themselves are unable to finance.

Power of Supplier:

In this industry, the providers of money are the investors who invest their financess in venture capital houses. The overall power of these providers is non really high due to the presence of high liquidness in the market. A VCF has to describe high public presentation and returns in order to pull investors.

Power of Buyers:

In this industry, the purchasers are the investee houses. The VCFs identify and measure these houses really carefully. Depending upon the supply and demand of venture capital in the Indian market, experts classify the power of purchasers from moderate to high.

Menace of Substitutes:

There are no known replacements to venture capital that combines equity with direction expertness and support.

The forces that act in this industry are altering quickly as the industry continues to turn and maturate.

Regulation on VCF in India

Venture Capital Funds in India are regulated by the SEBI Venture Capital Fund Regulation of 1996. The ordinance clearly states that any Indian VCF has to be registered with SEBI and obtain a certification before transporting out any activity associated with venture capital investing. Therefore, every Indian VCF exists under the control of the SEBI ordinances. Foreign Venture Capital Investors ( FVCI ) does non necessitate to obtain the certification from SEBI to transport on venture capital investing activities.

Investing Conditions and Restrictions:

A Venture Capital Fund can non accept less than Rs. 5 Lakhs as minimal investing from each investor by manner of issue of units ( good involvement of the investors in the strategy or financess floated by a trust or issued by a company including a organic structure corporate ) and in bend the Venture Capital Firm can put the financess obtained by pooling the money collected from investors in assorted strategies. The minimal part made by the VCF in each strategy should non be less than Rs. 5 crores.

For the intent of revenue enhancement, the income of the VCF acquired in the signifier of dividends or long term capital addition from any of the venture capital project will non measure up for revenue enhancement. These additions will be taxed merely when they reach the custodies of the investors. Therefore, the venture capital financess are non apt to pay a revenue enhancement on these financess. Furthermore, they receive a direction fee for the allotment of financess raised from the investors.

Methods of VC Financing

In India, VC is typically available in the undermentioned signifiers:


Conditional Loans

Income Note

Other Financing Methods

Equity: All venture capital houses in India buy portions of the start-up endeavor with an purpose of finally selling their interest and gaining a net income. The entire part of the VCFs typically does n’t transcend 49 per centum of the entire equity of the company. Thus the enterpriser continues to bask bulk ownership and control over the company.

Conditional Loan: It is a loan repayable to the VCF in the signifier of royalty once the endeavor begins to bring forth grosss. The royalty charged in India typically ranges from 2 to 15 per centum depending upon a figure of factors like the gestation period, hazard involved in the concern etc.

Income Note: The features of both conventional and conditional loan are combined in a intercrossed signifier of security called Income Note. The booster of the concern venture is required to pay both involvement and royalty on gross revenues. However, the rate of involvement is well low.

Other Financing Methods: Particularly in the private sector, a few venture capitalists resort to innovative signifiers of fiscal securities like take parting unsecured bonds.

Involved Parties

Investors provide financess to venture capital houses for puting in start-up companies. These investors may be institutional investors, private investors, parent company of the VC house etc. The money collected from multiple investors is consolidated into a fund that is managed by the VC house.

Venture Capital houses identify start-up companies with high growing potency and put this money into the company. In add-on to supplying financess, the VC houses besides provide direction support. This is the cardinal characteristic that differentiates a VC company from other beginnings of finance. They may besides place external directors. The VC houses are active spouses of the start-up venture.

The VC houses obtain returns chiefly when they sell out their bets in the start-up companies. Often this is done in the class of an Initial Public Offering ( IPO ) .


Market Access

Management Support


Start-up Venture

VC Firm

External Manager

Tax return

Tax return

Forms of Venture Capital

Venture capital investings are required at several phases of the concern development life rhythm. The life rhythm of a merchandise or an endeavor may be divided into the undermentioned phases: debut, growing, adulthood and diminution.

Depending upon the venture capital investing made during each of these stages, the VC investings can be classified as:

Seed Capital

Start-up Capital

Expansion Capital

MBO/MBI and M & A ; A Capital

Bridge Financing Capital

Rescue Capital

Seed Capital: Seed capital is the investing required to measure if a concern thought is worth farther consideration by the VCFs and the transition of the concern thought into a formal concern venture.

Start-up Capital: Start-up capital is associated with financess required to put the foundation of the start-up house and prolong the day-to-day operations in the debut stage.

Expansion Capital: Expansion capital refers to financess invested in the concern venture during its growing stage.

MBO/MBI/M & A ; A Capital: Such financess are normally given to companies in their adulthood stage.

Bridge Financing: Bridge finance refers to the financess invested to back up the operations of the house merely before the IPO.

Rescue Financing: Rescue finance is normally availed by companies that have been affected by economic jobs. Such financess are typically directed to reconstructing profitableness.

Types of Venture Capital Fundss

In India, based on the types of boosters, Venture Capital Funds can be classified into the undermentioned types:

VCFs promoted by development fiscal institutional that are controlled by the Cardinal Government

VCFs promoted by development fiscal institutional that are controlled by the State Government

VCFs promoted by public sector Bankss

VCFs promoted by foreign Bankss and private sector companies and fiscal establishments

Player in the VC Industry

Venture Capitalists may be classified into the undermentioned classs:

Angels and Angel Clubs

Small VCFs

Medium VCFs

Large VCFs

Corporate Venture Capital Fundss

Financial Service Venture Groups

Angels and Angel Clubs: Individual venture capital investors are called angel investors. These are affluent persons who invest straight in a start-up concern venture. A figure of angel investors may besides join forces and organize an angel group. Other so supplying financess to start-up ventures, these investors besides portion their personal experiences and expertness so as to steer the boosters of the start-up.

Small Venture Capital Fundss: These are venture capital houses of smaller nature. They normally provide the support for the seed and start-up capital.

Medium Venture Capital Fundss: Most medium sized VCFs supply financess during all stages of the concern lifecycle. The normally does n’t supply the seed capital.

Large Venture Capital Fundss: Large VCFs operate in all concern spheres and supply all signifiers of venture capital in all the stages of the lifecycle after the seed phase.

Corporate Venture Capital Fundss: Corporate venture capital is an inaugural taken by immense corporations ‘ of the universe to put in entrepreneurial start-ups. It involves immense corporate houses puting in start-up ventures. Such investings normally aim at widening the investor company ‘s base and making a win-win state of affairs for both the investor and the investee. Thus, corporate venture capital is an effort made by corporations to profit from inventions taking topographic point outside of their organisation and accomplishing profitable growing, instead than trusting on one ‘s ain invention. Corporate Venture Capital can be classified as: hedge, capableness upgrading and capacity leverage. Hedging investings are 1s which are made to maintain options available. Capability upgrading investings are those were the parent company enjoys capableness betterment by puting in start-up houses. Capacity leverage, on the other manus implies that the parent company has bing capacity that could be harnessed by the start-up house.

Financial Service Venture Funds: These refer to the venture capital houses that have been set up by different fiscal establishments.

The Venture Investing Process

The venture capital puting procedure is a sequence of activities that includes the followers:

Deal Identification

Screening of Proposals

Due Diligence of Business Proposals

Structuring of the Deal

Post-Investment Activity


VC Investment Procedure







Expected Tax return

Expected Hazard



Venture Capital Investment Procedure

Deal Designation:

VCF gather information about a figure of prospective trades or investing chances that would be considered for investing. Deal may arise in assorted ways such as referral system, active hunt system, and mediators. Establishing companies, trade spouses, industry associations etc. may be refer trades to the VCFs. Deals may be found by agencies of active hunt webs, conferences, seminars etc. Venture capitalists use mediators in developed states like USA. Intermediaries act as a nexus between VCFs and the possible enterprisers.

Screening of Proposals:

An initial showing is carried out by the VCFs for all the undertakings based on assorted standards before traveling for an in-depth analysis. The size of investing, acquaintance of the venture capitalist with the field of operations, geographical location and phase of funding could be used as the standard for the showing procedure.

Due Diligence of Business Proposals:

Due diligence is concerned with the rating of the investing proposals. The VCFs first measure the potency of the booster before measuring the merchandise features, market kineticss or engineering use. Most VCs require possible enterprisers to subject a concern program in order to measure all the possible hazard and return associated with the venture. Business program provides complete inside informations about the proposed venture. In India, the rating of proposed concern ventures by VCFs includes ;

Preliminary rating: This is the first stage of due diligence. The applier is required to supply a brief overview of the proposed venture to set up preliminary eligibility.

Detailed rating: On completion of the preliminary rating, the concern proposal under appraisal is subjected to greater item of in depth rating.

Venture Capital Firms in India besides perform the hazard appraisal of the proposed undertakings. The analysis may include an rating of Entrepreneurial, Product, Technological and Market hazard. The concluding determination is made based on the trade off between the expected hazard and return of the undertaking.

Structuring of the Deal:

As a portion of the trade structuring procedure, the VCFs and the laminitis ( s ) of the start-up venture negociate the footings of the trade. This includes the entire capital to be invested and its signifier. The understanding besides instates the right of the VCF to command the start-up company and originate a alteration of direction if required. The equity portion of the booster and the aims to be achieved are besides specified in the trade construction.

Post Investment Activities:

On finalisation of the trade construction and the understanding, the function of a spouse and confederate is by and large assumed by the venture capitalist in the freshly promoted venture. The VCF besides gets involved in defining of the venture. The grade of the VCF ‘s engagement depends on the house ‘s policy.


VCs by and large want to their issue with their portion of the additions from the concern in five to ten old ages after doing the initial investing. They play a critical function in steering the company towards the appropriate issue paths. A venture capitalist may go out utilizing one of the undermentioned agencies:

Initial Public Offerings ( IPOs )

Acquisition by another company

Purchase of the VC ‘s portions by the booster

Purchase of the VC ‘s portion by an foreigner.

Future of Venture Capital in India

Development of information and communicating engineering will drive the venture capital industry at a really high gait. These developments besides increase uncertainness as it ‘s hard to find which engineering would be accepted universally and go an industry criterion. Thus rating of new concern proposals would necessitate extra expertness in concerned field. The hazard factor related to failure of a venture besides continues to lift. Furthermore, the shriveling lifecycle of engineering merchandises raises the demand for high capital inputs. Knowledge would go the driver of competitory advantage as against money.

Development of fiscal markets will ensue into higher liquidness. Therefore more money will be available for investing. Several new or alternate signifiers of venture capital investings would come into being.

State of Economy which implies the economic upturns and downswings would go on to act upon the venture capital industry. In instance of an upturn more financess are needed for growing and enlargement. On the other manus, in instance of a downswing money is needed to retrieve from the impact of the lag and reconstitute the concern to fit the economic scenario.

Development of the Political Climate and Globalization would besides greatly act upon the venture capital industry in India. Globalization is the driving force for the graduated table of operations of a house. In order to travel planetary, houses require immense capital to finance acquisitions and market developments. Furthermore, these companies require funding for their international activities. Stable political conditions and positive clime for instruction, fuels the growing of new concern chances and start-ups.


Venture Capital acts as a go-between between the investor community and bright enterprisers. In the procedure, they create a win – win state of affairs for the investors and the enterprisers by guaranting a good return on investing for the investors and enabling the enterpriser to interpret their thoughts into world.

They have been responsible for steering ideal financess to advance bright and advanced thoughts. The Venture Capitalists promote the development of the ventures of the enterprisers by doing available equal financess at a sensible cost and sharing of hazard.

In developing economic systems like India, the venture capitalist act as a nexus between the competent and invention enterprisers who normally do non hold the needed capital and the investors who have ideal financess.

In the visible radiation of the important function played by VCFs in promoting entrepreneurship and advancing economic growing and development, the authorities, SEBI, Reserve Bank of India and other fiscal establishments have been taking continual big leagues to progress the venture capital industry in India.