Private equity and VC funds could get leeway for bets on foreign startups

Mumbai: Indian private equity and venture capital funds may get a chance to bet more freely on foreign startups. Capital market regulator Sebi is examining a proposal to relax some of the rules that govern outbound investment by these pooled vehicles.

A working group constituted by the regulator has recommended that investment in overseas unlisted companies should be allowed under an automatic route with fund managers having the flexibility to choose any unlisted stock, a person familiar with the development told ET.

At present, any overseas investment by an alternative investment fund (AIF) - the regulatory term for PE and VC funds - requires prior Sebi approval. Besides, investments can be made only in those offshore companies which have back-office operations or subsidiaries in India.

An AIF can invest up to 25% of its corpus in overseas unlisted securities. Also, the combined overseas investment by the AIF industry cannot exceed $1.5 billion (raised from $750 million a year ago. Total outbound investment cap for mutual funds is $7 billion). Sebi is the sole deciding authority on any AIF outbound investment proposal and no separate permission is needed from the RBI. The committee, it's learnt, has not recommended any revision in either the 25% cap per AIF or the overall investment ceiling of $1.5 billion.

The panel submitted its report to Sebi a few days ago, sources said.

Industry experts and fund advisors say that the proposed latitude to fund managers, within the overall investment caps, would help the AIF industry which raised ₹3 lakh crore till December 2021.

"AIFs setup in India, especially those which invest in new-age sectors, face challenges in making investments in portfolio companies that are setup in markets like the US and Singapore on account of regulations for overseas investments. Also, the need for prior approval of Sebi conflicts with deal timelines. This makes them relatively uncompetitive in comparison with funds set up overseas or in GIFT, especially in a deal environment where there is significant competition amongst funds for certain transactions. Calibrated reforms in overseas investment rules to remove or relax approval requirements and/or conditions for making overseas investments, would make AIFs setup in India competitive and enhance ease of investing," said Subramaniam Krishnan, Partner, Private Equity (Tax) at EY.

According to Richie Sancheti, founder of law firm Richie Sancheti Associates, "Allowing overseas investments under automatic route will add certainty and increase the pace in which AIFs can participate in overseas transactions. If the need to demonstrate 'India connection' is also relaxed, it will help diversify the portfolio beyond embedded India risk." It's felt that the regional allocation funds with high India weightage would find the proposed AIF framework more amenable. "This is especially true for tech funds that invest on a multi-jurisdictional basis.. this will reduce the need to set up separate pooling vehicles. An AIF's inherent ability to pool domestic capital without LRS ceilings and easier rules on overseas investments, will accelerate growth of the Indian AIF industry overall," said Sancheti.

LRS or, the liberalised remittance scheme, allows resident individuals to invest up to $250,000 a year in overseas securities and properties. Under the automatic route, a monitoring mechanism with investment data obtained from banks handling remittance, would have to be put in place.

Currently, the allocation of investment limits are done on a 'first come - first serve' basis, depending on the availability in the overall limit of $ 1.5 billion. An AIF has to invest the allotted amount in foreign unlisted stocks within six months from the date of Sebi approval. In case the limit allocated isn't utilised within the stipulated period, Sebi is free to allocate the unutilised limit to another applicant.