Spotlight on regulations as Indian startups ‘flip’ base

Info Edge co-founder Sanjeev Bikhchandani recently tweeted that Indian startups are ‘flipping’ their structure while raising early-stage capital from foreign investors.

It immediately triggered a debate. Flipping refers to domestic startups housing their shareholding, intellectual property (IP) and at times even other assets in a firm overseas, and relegating the local entity to a subsidiary.

Bikhchandani, who has backed large internet startups like Zomato and PolicyBazaar through Info Edge, said this leads to loss of tax for the government, and loss of IP and overall wealth creation for India. Bikhchandani went on to say that the situation had shades of the East India Company.

TOI spoke to a number of entrepreneurs and investors, and the consensus was that the issue needs to be resolved with an easier and simpler regulatory environment in India, as founders will choose the best and the fastest avenue to raise capital, whether in India or abroad.

Entrepreneurs TOI spoke to said setting up a US entity to raise money from investors like Y Combinator (YC) is easier than getting stuck in lengthy processes in India to raise funds from a US-based investor. Bikhchandani’s tweet was in reaction to a tweet by an angel investor, Rajesh Sawhney, who questioned why YC was forcing Indian entrepreneurs to set up US arms. Y Combinator typically invests in US-based entities of Indian startups, but it has made exceptions, at least for two Indian startups, people aware of the matter said.

“It’s a choice. No one is forcing you to take money from overseas investors,” the founder and CEO of a large Indian startup that has raised capital from Y Combinator said. The startup has set up a firm in the US. “One takes investments from an investor based on their terms. Even in India, many small angel investors ask for board seats and a large stake for a relatively small investment. The simple reason foreign investors ask for a US entity is that most of the investments in Indian entities happen from US-based funds. It’s easier to raise funding if you have the right structure, and founders make that choice,” he said. Several large Indian internet firms, including Flipkart, Grofers and Udaan, are domiciled in Singapore for similar reasons.

While Bikhchandani’s tweets were initially seen as critical of foreign capital, he told TOI that his intention was different. “The only way to reduce instances of flipping is to improve the ease of doing business for early-stage overseas investors in India. Investors are basically looking for ease of entry, ease of exit and a predictable, fair, stable, simple, quick and hassle-free tax and regulatory environment. We have some distance to travel in these areas in India. What needs to be done is to do a deep dive into the reasons why companies flip and why investors nudge startups to flip. And then fix those problems,” he said.

Anand Lunia, founding partner of early-stage venture fund India Quotient, echoed Bikhchandani. “This has nothing to do with YC or any particular fund. The government should simplify the rules for investors. Having said that, flipping has long-term repercussions,” Lunia said, adding that some of his portfolio startups have also got YC’s backing and YC encourages flipping.

“Any digital business in India should be based in India and controlled by Indian regulators. We should be solving for wealth capture, technology wealth capture, so the know-how remains in India,” he said.

However, venture capital funds that have raised money from US investors say the focus should not be on where the company is registered, rather it should be on the jobs being created by the startups and the taxes they pay in whichever markets they operate in. “Today, you can be based out of the US, have customers in Europe and have a team sitting in India. It’s very difficult to define which country that startup belongs to,” a partner at a venture capital fund said.