Venture Capital for MSMEs

Venture Capital for MSMEs

Venture Capital is emerging as an important source of finance for small and medium-sized firms, especially for starting the business and business expansion. An entrepreneur usually starts the business with his own funds, and those borrowed from banks. It is during expansion that they find it difficult to raise funds. SMEs have traditionally been dependent on Bank finance for expansion and working capital requirements. However, in the recent past, bankers have curtailed lending to SMEs due to the greater risk of non-performing assets (NPAs) in a downturn. Thus, even though many SMEs have profitable projects and expansion plans, they find it difficult to get finance for their projects, as bankers may not be willing to fund high risk projects.

In order to provide financial support to such entrepreneurial talent and business skills, the concept of venture capital emerged. Venture capital is a means of equity financing for rapidly-growing private companies. Finance may be required for the start-up, expansion or purchase of a company. Venture capitalists comprise of professionals in various fields. They provide funds (known as Venture Capital Fund) to these firms after carefully scrutinizing the projects. Their main aim is to earn higher returns on their investments, but their methods are different from the traditional moneylenders. They take active part in the management of the company as well as provide the expertise and qualities of a good bankers, technologists, planners and managers.

 

Venture Capital for MSMEs in India

Traditionally, Venture Capitalists in India have shied from the MSME sector. The non-corporate structure and small size of majority of MSMEs in India makes the Venture Capitalists and Private Equity Players reluctant to investing in them due to higher transaction costs and difficulties in exits out of such investments. However, the VC scenario in India is rapidly changing. Alternative funding like VC is picking up in the India, including in the MSME sector. Moreover, the VCs are expanding their reach into areas besides the traditional VC sectors like Information Technology (IT); nowadays interest in sectors like clean energy, healthcare, pharmaceuticals, retail, media, etc. is also growing.

In recent years, the government controlled financial institutions have initiated positive and progressive measures to provide MSMEs access to funds at a reasonable and affordable costs and without any usual hurdles. Venture capital funding institutions have been floated to induct fund at low cost, share the risk and to provide management and technology upgradation support to these enterprises. Government-funded schemes exist at both the national and the state levels. They tend to be relatively small — they typically do not exceed US$ 5 million.

The Small Industries Development Bank of India (SIDBI) is the main public financial institution involved in VC funding operations. SIDBI operates through wholly owned subsidiary, SIDBI Venture Capital Limited (SVCL). It co-finances state-level funds, and sometimes co-invests with private sector VCs on a case-by-case basis.

Since 2006, some new VCs are also operating at the SME level, such as Helion Venture Partners, Erasmic Venture Fund (Accel India Venture Fund), SeedFund, and Upstream Ventures. While technology remains the most sought after investment fields, interest has been shifting from internet companies to other types of operations—especially ICT enabled services and bio-technology.

A few VCs also operate at the early-stage, including Erasmic Venture Fund, Seed Fund, Infinity Venture, IFI sponsored facilities such as Swiss Tech VCF, and the government schemes such as SIDBI VC and Gujarat VF. Early stage VCs seek smaller deals, typically in the US$ 1 - 3 million range. However, they rarely go below the half million dollar mark, where there is a strong appetite for financing, but very few opportunities. Possible sources of smaller investments are represented by local public-sector facilities, business angels, business incubators funds, and isolated cases of seed VCFs, such as the microventure schemes like Aavishkaar India Micro Venture Capital Fund (AIMVCF).

 

Benefits of VC over other Funding Methods

Venture capital has a number of advantages over other forms of finance:

  • It injects long term equity finance which provides a solid capital base for future growth.
  • The venture capitalist is a business partner, sharing both the risks and rewards. Venture capitalists are rewarded by business success and the capital gain.
  • The venture capitalist is able to provide practical advice and assistance to the company based on past experience with other companies which were in similar situations.
  • The venture capitalist also has a network of contacts in many areas that can add value to the company, such as in recruiting key personnel, providing contacts in international markets, introductions to strategic partners, and if needed co-investments with other venture capital firms when additional rounds of financing are required.

 

Venture Capital Funds in India

In India, venture capital funds (VCFs) can be categorized into the following groups:-
 

 

To find more Government VCFs, click here.
 

To find more VCFs of Indian Banks, click here.

 

 

 

To access the list of all registered VCFs in India, click here

 

How to Obtain Venture Capital?

While seeking VC funding, one needs to know – Who is the right VC and how to approach them?

The best way to get noticed by VCs is to get recommended by someone known to them. If you can afford it, you should get a merchant banker to advise and introduce you. But most entrepreneurs looking for funding may not be that lucky. That is where networking comes in. Organizations like TiE provide networking opportunities that entrepreneurs should make the most out of.

Take help of Angel investment networks, such as:

It is important to select venture capitalists with whom it is possible to have a good working relationship. Often businesses do not meet their cash-flow forecasts and require additional funds, so an investor's ability to invest in additional financing rounds if required is also important. Finally, when choosing a venture capitalist, the entrepreneur should consider not just the amount and terms of investments, but also the additional value that the venture capitalist can bring to the company. These skills may include industry knowledge, fund raising, financial and strategic planning, recruitment of key personnel, mergers and acquisitions, and access to international markets and technology.

Once a short list of appropriate venture capitalists has been selected, the entrepreneur can proceed to identify which investors match their funding requirements. At this point, the entrepreneur should contact the venture capital firm and identify an investment manager as an initial contact point.

 

Looking for funding?

  • You can find information on Indian Investment Network, an online platform connecting local entrepreneurs with angel investors in India and internationally.

Read more on raising VC funding for your business from the book “Smooth Ride to Venture Capital”, by Pankaj Sahai. Click here to read the contents of the book.

 

What do VCs look for?

Venture capitalists are higher risk investors and, in accepting these risks, they desire a higher return on their investment. The venture capitalist manages the risk/reward ratio by only investing in businesses which fit their investment criteria and after having completed extensive due diligence.

Venture capitalists have differing operating approaches. These differences may relate to location of the business, the size of the investment, the stage of the company, industry specialization, structure of the investment and involvement of the venture capitalists in the companies activities.

The venture capital firm will ask prospective investee companies for information concerning the product or service, the market analysis, how the company operates, the investment required and how it is to be used, financial projections, and importantly questions about the management team.

All the above questions should be answered in the Business Plan. Assuming the venture capitalist expresses interest in the investment opportunity, a good business plan is a pre-requisite. To know more on creating business plans, click here.

 

Sources

  • Business Portal of India
  • Financing Technology Entrepreneurs & SMEs in Developing Countries: Challenges and Opportunities – India Country Study, an infoDev publication
  • India Venture Capital AssociationNeytri.com