It was in the first week of September just ahead of the Prime Minister, Mr. Atal Bihari Vajpayee’s historic visit to the United States, the government announced significant relaxations in the foreign direct investment norms and allowed offshore VCFs and companies to invest in domestic ventures through automatic route in a bid to make India an attractive destination for foreign investment. Guidelines regarding this venture investment under the head ‘Foreign Venture Capital Investors Regulations’ was later released and approved by the SEBI board.

The guidelines announced was no doubt would ease considerably, the regulatory framework governing these institutions but certain of their aspects could stunt the growth in this key source of financing – the very objective was in question.

The issue was one such regulation which stipulate that a venture capital fund seeking to avail benefits under the relevant provisions of the IT Act, will be required to divest from the investment, within a period of one year from the listing of the venture capital undertaking. The restrictive clause had been included at the injunction of a finance ministry anxious to cap the likely revenue loss arising from exempting venture capital funds from capital gains tax.

A cap on the holding period, post-listing, may be justified, for without this, there would be no distinction between a venture capital and a financial institution. But since venture capital funds either individually or jointly generally tend to hold a sizeable stake in these companies, and any insistence that they exit within a specified time frame is bound to have an adverse effect on company’s shares in the initial public offering as also post listing. That is it could lead to the company's stock commanding a value lower than its intrinsic worth. Nothing could be more discouraging for the entrepreneur.

From a venture capitalist point of view also, this could prove to be a disadvantage. Given the very nature of their activity, only a small proportion of investments is expected to yield returns compensating for losses elsewhere in the portfolio. The time-frame for exit could affect the level of returns.

This is exactly the reason why the government decision to relax the existed restrictions is greeted, not surprisingly. The announcement now should open up the Indian market and venture funds should be flooding the Indian entrepreneurs. Things are fast changing. Foreign funds will be on the prowl and hoping to make money from technology-based businesses. No longer do the budding entrepreneurs need to depend on the Financial Institutions or private placements or IPOs for the funding of their dream projects. The new generation entrepreneurs now have something else to depend on.