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On 28th August, 2017, the Commerce Ministry released its Foreign Direct Investment (FDI) policy which for the first time includes start-ups. The FDI policy that was released by the Department of Industrial Policy and Promotion (DIPP) stated that the Rules became effective immediately. The latest FDI policy has a dedicated exclusive section for start-ups.

So, what is a start-up after all?

A start-up company is a private company incorporated under the Companies Act, 1956 / 2013 and recognised as such in accordance with notification G.S.R. 180(E) dated February 17 2016 issued by the Department of Industrial Policy & Promotion.

As per DIPP, an entity is considered as a start-up:

  1. For a period of 5 years from its incorporation;
  2. If its turnover for any financial year has not exceeded Rs. 25 Crores;
  3. It’s working towards innovation, development, deployment or commercialization of new products, processes or services driven by technology or intellectual property

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Key highlights of the start-up section in the FDI policy

  1. Start-ups shall be allowed to raise up to 100 percent funding from Foreign Venture Capital Investor (FVCI). Such FVCI should be registered with SEBI.
  2. Such SEBI registered FVCI can invest up to 100% capital of an Indian company (including start-ups) engaged in any activity mentioned in Schedule 6 of Notification No. FEMA 20/2000, irrespective of the sector in which it is engaged, under the automatic route.
  3. A SEBI registered FVCI can invest in a domestic venture capital fund registered under the SEBI (Venture Capital Fund) Regulations, 1996 or a Category- I Alternative Investment Fund registered under the SEBI (Alternative Investment Fund) Regulations, 2012.
  4. Such investments shall also be subject to the extant FEMA regulations and FDI policy including sectoral caps.
  5. The investment can be made in equities or equity linked instruments or debt instruments issued by the company (including start-up Private companies, start-up LLPs and start-up partnership firm(s), the investment can be made in the capital or through any profit-sharing arrangement) or units issued by a VCF or by a Category-I Alternative investment fund(AIF) either through purchase by private arrangement either from the issuer of the security or from any other person holding the security or on a recognised stock exchange.
  6. It may also set up a domestic asset management company to manage its investments. SEBI registered FVCIs are also allowed to invest under the FDI Scheme, as non-resident entities, in other companies, subject to FDI Policy and FEMA regulations.

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How it will work for the start-ups

Start-ups can issue equity or equity linked instruments; debt instruments, convertible notes to FVCI against receipt of foreign remittance, as per the FEMA Regulation.

Convertible notes can be issued subject to the following conditions:

  1. A person resident outside India (other than Pakistani or Bangladeshi citizens and entities), may purchase convertible notes issued by an Indian start-up for an amount of Rs. 25 lakhs or more in a single tranche.
  2. A start-up company engaged in a sector where foreign investment requires Government approval may issue convertible notes to a non-resident only wit the approval of the Government.
  3. A start-up company issuing convertible notes to a person resident outside India shall receive the amount of consideration by inward remittance through banking channels or by debit to the NRE / FCNR (B) / Escrow account maintained by the person concerned in accordance with the Foreign Exchange Management (Deposit) Regulations, 2016, as amended from time to time. Such an escrow account shall be maintained only for a period of 6 months at a time.
  4. NRIs may acquire convertible notes on non-repatriation basis in accordance with Schedule 4 of the Notification No.FEMA.20/2000-RB dated 3rd May 2000 (FEMA Regulations). A person resident outside India may acquire or transfer, by way of sale, convertible notes, from or to, a person resident in or outside India, provided the transfer takes place in accordance with the pricing guidelines as prescribed by RBI. Prior approval from the Government shall be obtained for such transfers in case the start-up company is engaged in a sector which requires Government approval.
  5. The start-up company issuing convertible notes shall be required to furnish reports as prescribed by Reserve Bank of India.

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FDI policy – Big boost for start-ups

The latest policy seems to be a well thought out and much needed shot in the arm for the Indian start-up scenario. Though there has been a substantial increase in foreign investments/funding for start-ups, the pace seems to have decreased in the last year. This is true, especially from the Venture capital perspective.

With the present government sharply focusing on continually bettering the start-up ecosystem by taking initiatives such as “Make in India” and “New India by 2022” the latest changes in the FDI policy is yet another positive step in favour of the start–up brigade to bring in more funds from the foreign investors by minimal procedural compliances.



After a game, the King and the Pawn go into the same box

Italian proverb