getting the deal through - india private equity 2011 fund formation chapter

8/6/2019 Getting the Deal Through - India Private Equity 2011 Fund Formation Chapter

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Pe Ein 33 jurisdictions worldwide

Contributing editor: Casey Cogut 2011Published by

Getting The Deal Through

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Global Overview Casey Cogut, William Curbow, Kathryn King Sudol and Atif Azher Simpson Thacher & Bartlett LLP 3

FUND FORMATION

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India Siddharth Raja and Chitra Raghavan Narasappa, Doraswamy & Raja 93

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Luxembourg Marc Meyers Loyens & Loeff Luxembourg 107

Netherlands Louis Bouchez, Floor Veltman and Maurits Bos Kennedy Van der Laan NV

Jan van den Tooren and Reinier NoortHamelink & Van den Tooren NV 115

Singapore Low Kah KeongWongPartnership LLP 122

Spain Julio Veloso and Javier MoreraBroseta Abogados 127

Sweden Anders Lindstrm, Anders Bjrk and Peter Sjgren Advokatfirman Delphi 134

United States Thomas H Bell, Barrie B Covit, Jason A Herman, Jonathan A Karen, Glenn R Sarno and Michael W Wolitzer

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TRANSACTIONS

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Belgium Peter De Ryck Lydian 157

Brazil Luciano Fialho de Pinho and Flvio Santana Canado Ribeiro Lima Netto, Campos, Fialho, Canabrava Advogados 163

Canada Harold Chataway, Daniel Lacelle, Ian Macdonald and Jason A Saltzman Gowling Lafleur Henderson LLP 168

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Private Equity

2011

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Private Equity 2011

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CONTENTS


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www.gettingthedealthrough.com 93

Narasappa, Doraswamy & Raja INDIA FUNDFORMATION

IndiaSiddharth Raja and Chitra Raghavan

Narasappa, Doraswamy & Raja

Formation and terms operation

1 Forms of vehicle

What legal form of vehicle is typically used for private equity funds

formed in your jurisdiction? Does such a vehicle have a separate legal

personality or existence under the law of your jurisdiction? In either

case, what are the legal consequences for investors and the manager?

Private equity or venture capital funds (PE or VC funds) in India aretypically set up as private, specific and revocable trusts under theIndian Trusts Act, 1882 (Trust Act) or as a company incorporated inaccordance with the Indian Companies Act, 1956 (Companies Act).Trusts are not regulated or administered to the extent that compa-nies are, and, consequently, this affords the fund a fair amount ofoperational flexibility.

India has enacted the Limited Liability Partnership Act, 2008(LLP Act), thereby permitting the establishment of limited liabilitypartnerships (LLPs). In terms of the LLP Act, an LLP is a body cor-porate incorporated under the LLP Act. LLPs are not the preferredform of a private equity vehicle since tax is levied on the LLP at the

entity level and the income of the LLP is not taxed in the hands ofthe individual partners.Companies and LLPs enjoy separate legal status independent

of their shareholders and partners, respectively. Consequently, theliability of the shareholders of companies and the partners of LLPs islimited to the extent of their capital contribution. However, trusts donot enjoy a separate legal status it is the trustees who are entitled tosue and be sued in their names. Further, the liability of the trustees isunlimited for breach of fiduciary obligations, fraud, etc.

Please see questions 5 and 6 regarding the consequences andliabilities of investors and fund managers.

2 Forming a private equity fund vehicle

What is the process for forming a private equity fund vehicle in yourjurisdiction?

Trusts

The process of establishing a trust is fairly simple, inexpensive andquick. A trust is created by a trust deed that names the author or set-tlor, the trustees and the beneficiaries. There is no requirement for aminimum capitalisation or corpus to be settled or contributed as thetrust property in order to establish the trust. Applicable stamp dutyand registration charges (which will depend on the state in which thetrust is formed) would be payable on the trust deed, depending on theinitial corpus with which the trust is settled. The trust deed would haveto be registered with the jurisdictional sub-registrar who is a revenueauthority. It takes approximately three weeks to establish a trust.

Companies

The Companies Act differentiates between (i) a private company, (ii)a public company and (iii) a private company that is a subsidiary of apublic company. Categories (ii) and (iii) are subject to more corporate

governance requirements than category (i). Private companies in Indiaare exempt from the applicability of several provisions of the Compa-nies Act. A minimum capitalisation of 100,000 rupees is required toincorporate a private company, and in the case of a public companythe minimum capitalisation is 500,000 rupees. A private company isrequired to be incorporated with a minimum of two shareholders and

two directors, while a public company is required to be incorporatedwith a minimum of seven shareholders and three directors.

A company is required to make an application for approval ofthe name to the jurisdictional registrar of companies (registrar),pursuant to which an application in Form 1 is required to be madeto the registrar accompanied with, inter alia, the memorandum andarticles of association of the company and a certificate from a com-pany secretary or director certifying that all requirements pertain-ing to the incorporation under the Companies Act have been met.The registrar will, upon being satisfied that all requirements of theCompanies Act have been met, issue a certificate of incorporation.The process of incorporating a company takes approximately threeto four weeks.

LLPs

An LLP can be incorporated with a minimum of two partners, whomay be individuals or body corporates, entering into the limited liabil-ity partnership agreement. There is no limit on the maximum numberof partners that may be admitted to an LLP. An LLP is incorporatedby filing the incorporation document (LLP agreement) with the juris-dictional registrar, along with a statement, in the prescribed form,from a chartered accountant or a company secretary who is engagedin the formation of the company and one partner named in the LLPagreement, stating that all requirements pertaining to the incorpora-tion under the LLP Act have been met. The registrar is required toregister the LLP and issue a certificate of registration within 14 daysof being satisfied that all requirements of the LLP Act pertaining to

incorporation have been met. The certificate so issued by the registraris conclusive evidence of the existence of the LLP. The process of incor-porating an LLP takes approximately three to four weeks.

A company secretary is typically appointed for the incorpora-tion of a company or an LLP. Company secretaries typically chargebetween 20,000 rupees to 30,000 rupees to incorporate a companyor an LLP. Please see question 20 regarding the organisational taxesthat are payable.

3 Requirements

Is a private equity fund vehicle formed in your jurisdiction required to

maintain locally a custodian or administrator, a registered office, books

and records or a corporate secretary, and how is that requirement

typically satisfied?

It is not mandatory for a PE or VC fund to appoint a custodian or anadministrator. It is mandatory for a company to appoint a company


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INDIA Narasappa, Doraswamy & Raja

94 Getting the Deal Through Private Equity 2011

FUND

FORMATION

secretary if it has an authorised share capital exceeding 50 millionrupees.

Companies and LLPs are required by law to have a registeredoffice to which all communications and notices may be addressedand received. In respect of a trust, the trustees are under an obliga-tion to keep clear and accurate accounts of the assets and financialcondition of the trust property and allow the beneficiaries to inspectand examine such accounts.

Under the Companies Act, companies are required to: maintain and regularly update statutory registers such as the

registers of members, directors, share transfers and charges such records and registers are required to be maintained at theregistered office; and

make regular filings with the registrar, including with regard toissuances of securities, change in directors, creation of chargesand annual reports, all in the prescribed form and within theprescribed period.

Similarly, LLPs are also required to maintain proper books of accountand file a statement of accounts and an annual return with the regis-trar in the prescribed form and within a specified time period.

Further, in accordance with the SEBI (Venture Capital) Regula-tions, 1996 (VCF Regulations), every PE or VC fund is required tomaintain, for a period of eight years, books of accounts, records anddocuments that shall give a true and fair picture of the state of affairsof the PE or VC fund, and inform the Securities and Exchange Boardof India (SEBI), in writing, about the place where the same are beingmaintained.

4 Access to information

What access to information about a private equity fund formed in

your jurisdiction is the public granted by law? How is it accessed?

If applicable, what are the consequences of failing to make such

information available?

TrustsInformation pertaining to trusts established under the Trusts Act isnot directly accessible by the public. Under the Trusts Act, a trus-tee is only obligated to make available information to persons whohave interest in such trust property, ie the settlor, author and thebeneficiaries.

Companies and LLPS

As regards public listed companies, all information pertaining to suchcompanies is freely available to the public from the stock exchangesand under the SEBI Corporate Filing and Dissemination System,which serves as a single interface to the public to access all informa-tion and filings pertaining to public listed companies. However, the

public does not have direct access to information of a private com-pany or an LLP. Any member of the public may, by making paymentof the applicable fees, access records of private companies and pub-lic unlisted companies, which would include information about theshareholders, directors, share capital of the company and corporatefilings made by such companies with the registrar.

Under the LLP Act, the names of the partners, statement ofaccounts and solvency and annual returns may be accessed by thepublic from the registrar upon payment of the applicable fees.

Under the VCF Regulations, the disclosure of the identity of theinvestors by the PE or VC fund is not mandatory, unless specificallyrequired by the SEBI. However, in their quarterly reports filed withthe SEBI, PE or VC funds are required to disclose, inter alia, fundscommitted by the investors, capital contributed by the investors, cat-

egorisation of the investors (whether they are foreign venture capitalinvestors (FVCIs), residents, non-residents, etc) and the sectors inwhich investments have been made by the PE or VC fund. Suchinformation is not directly available to the public, unless the PE orVC fund is a listed entity.

The consequences of trusts, companies and LLPs not making therequisite corporate filings and furnishing all requisite information tothe registrar and the SEBI are set out below:

Trusts

There are no consequences under the Trusts Act, as there are nostatutory filings to be made by private trusts.

CompaniesUnder the Companies Act, the company is punishable with fine of upto 500 rupees for every day during which the default continues.

LLPs

Under the LLP Act: the LLP shall be punishable with a minimum fine of 25,000

rupees, which may increase to 500,000 rupees; and every designated partner (managers) of the LLP shall be punish-

able with a minimum fine of 10,000 rupees, which may increaseto 100,000 rupees.

PE or VC funds

Depending on the nature of the non-compliance the SEBI may, interalia: suspend or cancel the certificate of registration; prohibit the PE or VC fund from entering into any new assign-

ments, contractors or launching a new scheme; debar a principal officer of the PE or VC fund; issue a warning to the PE or VC fund.

5 Limited liability for third-party investors

In what circumstances would the limited liability of third-party investors

in a private equity fund formed in your jurisdiction not be respected as

a matter of local law?

Trusts

Investors that are beneficiaries of the trust will not be liable for theactions of the trust or trustees.

Companies

Shareholders (investors) may be held personally liable in exceptionalcases where the corporate personality of the company is being usedby the shareholders to shield fraud or illegal conduct.

LLPs

Investors, as partners, will not be liable to any person as a result ofany wrongful act or omission by the partners in the course of thebusiness of the LLP or acting with the authority duly conferred uponsuch partners, and all such liabilities shall be incurred by the LLP.

However, a partner is personally liable for any liability arising onaccount of fraudulent acts committed by such partner.

6 Fund managers fiduciary duties

What are the fiduciary duties owed to a private equity fund formed in

your jurisdiction and its third-party investors by that funds manager

(or other similar control party or fiduciary) under the laws of your

jurisdiction, and to what extent can those fiduciary duties be modified

by agreement of the parties?

Trusts

The Trusts Act imposes on the trustees (the fund manager) the duty ofadministering the trust on the initial instructions of the author or set-tlor and in the best interests of the beneficiaries. Trustees, in additionto having a fiduciary duty towards the beneficiaries (the investors),are required to treat the trust property as if it were their own and dealwith such trust property as a reasonable person would. The trusteesare severally liable under the Trusts Act for breach of such duties.


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Companies

In the case of companies and LLPs, the directors and the partners(persons managing the PE or VC fund, respectively) have, inter alia,a fiduciary duty to act in the best interests of the company and LLP,respectively. Directors must act honestly, without negligence and ingood faith in the bona fide interest of the company. They must showmore than ordinary care towards the shareholders, and act as a per-son of similar skills and expertise would do.

SEBI Regulations

In accordance with the SEBI (Intermediaries) Regulations, 2008(Intermediaries Regulations) and the SEBI (Portfolio Managers)Regulations, 1993 (Portfolio Managers Regulations), intermediar-ies, including portfolio managers, are required to follow the code ofconduct prescribed, which, inter alia, requires them to: act in a fiduciary capacity with regard to the clients funds; make all efforts to protect the interests of investors and render the

best possible advice to their clients, having regard to the clientsneeds and his or her own professional skills; and

ensure that they and their key management personnel, employees,contractors and agents shall, in the conduct of their business,observe high standards of integrity, dignity, fairness, ethics andprofessionalism.

Any breach of this code of conduct renders the intermediary liableunder the applicable provisions of the Intermediaries Regulations,Portfolio Managers Regulations and the SEBI Act, under which everyofficer in default shall be liable to a fine, imprisonment, or both.

Modification of the duties of trustees, directors, partners andportfolio managers is permissible to the extent that such modifica-tions are not contrary to law.

Please see question 10 regarding definitions of intermediariesand portfolio managers.

7 Gross negligence

Does your jurisdiction recognise a gross negligence (as opposed

to ordinary negligence) standard of liability applicable to the

management of a private equity fund?

While Indian tort law does not specifically recognise gross negli-gence as opposed to ordinary negligence, it does recognise varieddegrees of negligence. The degree of duty of care attributable is thatof an ordinary and reasonable prudent person, except in cases wherea person holds himself or herself out as being specifically competentto do things requiring professional skill; in such event, he or she willbe held liable for negligence if he or she fails to exhibit the care andskill of one ordinarily an expert in that business.

Indian contract law would apply in cases where the relationshipbetween a PE or VC fund and its (independent) fund manager is con-tractual. The agreement with the fund manager will typically providefor liquidated damages payable to the PE or VC fund in the event ofbreach by the fund manager of its duties, including negligent acts ofthe fund manager. Indian contract law recognises liquidated damagesstipulated in contracts to be a reasonable and genuine estimate of thecompensation payable for a breach of a contract, and such liquidateddamages will be payable irrespective of the degree of negligence.

8 Other special issues or requirements

Are there any other special issues or requirements particular to

private equity fund vehicles formed in your jurisdiction? Is conversion

or redomiciling to vehicles in your jurisdiction permitted? If so, in

converting or redomiciling limited partnerships formed in other

jurisdictions into limited partnerships in your jurisdiction, what are the

most material terms that typically must be modified?

Restrictions on transfers and withdrawals, restrictions on opera-tions generally, modifications to ensure fiscal transparency, special

investor governance rights on matters such as removal of the manageror early termination of the vehicle, and limitations on the numberof investors, are usually governed by the contribution agreementbetween the PE or VC fund and the investors. Investments and prof-its earned in India may be freely repatriated by foreign investors,except where such repatriation is specifically locked in, such as for-eign investments in construction and development projects and thedefence sector. Further, shares of an Indian company may be trans-

ferred by a resident to a non-resident, or vice versa, subject to theprovisions of the Foreign Exchange Management Act, 1999 (FEMA)and the regulations framed thereunder.

As regards regulatory restrictions: under the Companies Act, there is no restriction on the number

of shareholders of a public company and the shares of a publiccompany are freely transferable. In contrast, the number of share-holders of a private company is limited to 50 and the shares of aprivate company are not freely transferrable;

there is no limit on the number of beneficiaries of a trust; and there is no limit on the number of partners in an LLP.

There are no specific provisions for conversion of either a trust intoa company or LLP or vice versa, or the conversion of an LLP to acompany. Further, there are no provisions that permit redomicilingof trusts and companies in India.

The LLP Act permits the conversion of companies into LLPs.Further, the LLP Act also permits the redomiciling of foreign LLPsby filing certain documents with the jurisdictional registrar, includ-ing the LLP agreement. Modifications to the LLP agreement of suchforeign LLP would be required only to the extent that such agreementis inconsistent with Indian laws.

9 Fund sponsor bankruptcy or change of control

With respect to institutional sponsors of private equity funds organised

in your jurisdiction, what are some of the primary legal and regulatory

consequences and other key issues for the private equity fund and its

general partner and investment adviser arising out of a bankruptcy,

insolvency, change of control, restructuring or similar transaction of the

private equity funds sponsor?

Bankruptcy or insolvency, change of control, restructuring or similartransactions will not result in the automatic dissolution of the PEor VC fund, or its fund manager or investment adviser. The VCFRegulations provide that a fund may be wound up, inter alia, if thetrustees and directors (which may or may not be in consultation withthe fund manager) are of the view that it is in the best interests of theinvestors to wind up the fund; or if 75 per cent of the investors passa resolution at a meeting of the unit holders to wind up the scheme.In the event of such winding-up, the VCF Regulations provide thatthe assets of the scheme or fund shall be liquidated, and the proceedsaccruing to investors shall be distributed to them subject to satisfyingthe liabilities of the PE or VC fund. Contribution agreements mayalso structure such events as events of default attracting consequencesunder such contribution agreements.

Regulation, licensing and registration

10 Principal regulatory bodies

What are the principal regulatory bodies that would have authority over

a private equity fund and its manager in your jurisdiction, and what are

the audit and inspection rights available to those regulators?

The SEBI is the principal regulatory body regulating PE or VC funds.Further, the SEBI also regulates fund managers who fall within the

definition of portfolio managers under the Portfolio Managers Reg-ulations, ie, any person who advises its client or manages or admin-isters the funds of client with respect to investment of such funds inlisted securities. Intermediaries are all intermediaries regulated by


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the SEBI, including portfolio managers, but excluding venture capitalfunds and FVCIs.

Under the VCF Regulations, the SEBI (Foreign Venture CapitalInvestor) Regulations, 2000 (FVCI Regulations) and the Intermediar-ies Regulations, the SEBI has the power to call for any information, atany time, from PE or VC funds, FVCIs or intermediaries, as the casemay be, with respect to any matter relating to any of their respectiveactivities. Further, under the aforesaid regulations, the SEBI has been

conferred the right to, suo moto or on the receipt of information orcomplaint, inspect or investigate the conduct of affairs of PE or VCfunds, FVCIs and intermediaries for the following reasons: to ensure that the books of account and all records are being

maintained in accordance with the applicable regulations; to inspect complaints received from investors, clients or any

other person having a bearing on the activities of the PE or VCfund, FVCI, intermediaries and portfolio managers, as the casemay be;

to ascertain compliance with the SEBI Act and the applicableregulations; and

to inspect or investigate suo moto into the affairs of a PE or VCfund, FVCI and intermediaries, as the case may be, in the interestof the securities market or the investors.

11 Governmental requirements

What are the governmental approval, licensing or registration

requirements applicable to a private equity fund in your jurisdiction?

Does it make a difference whether there are significant investment

activities in your jurisdiction?

There are no legal or regulatory differences between private equityfunds and venture capital funds, and the VCF Regulations andFVCI Regulations seek to regulate all PE or VC funds irrespectiveof such difference in their nomenclature. Consequently, trusts, com-panies and LLPs desirous of establishing a private equity fund arerequired to register themselves with the SEBI as venture capital funds

to undertake private equity and venture capital activities, irrespectiveof whether the investment is a significant investment or not.

The minimum contribution required to be made by investors toa registered fund is 500,000 rupees. Further, each scheme or fund setup by a registered PE or VC fund shall have a firm commitment fromthe investors for a contribution of at least 50 million rupees before thestart of operations. The application process includes making an appli-cation in the prescribed form along with the submission by the pro-posed fund of its incorporation documents, the duly registered trustdeed in the case of trusts or the appropriate government approval inthe case of bodies corporate such as LLPs, as the case may be, whichcontain a clear indication of the main objects, purposes for which thefunds may not be put to use and information pertaining to the direc-tors, trustees and partners, as applicable, and such other informationas may be required by the SEBI. Currently, the application fee pay-able to the SEBI is 100,000 rupees and the registration fee payable is1 million rupees.

12 Registration of investment adviser

Is a private equity funds manager, or any of its officers, directors or

control persons, required to register as an investment adviser in your

jurisdiction?

Investment advisers and fund managers of PE or VC funds are notrequired to be registered with the SEBI, except where the fund man-ager qualifies as a portfolio manager. Where the fund manager fallswithin the definition of portfolio manager, such fund manager would

have to be registered with the SEBI in accordance with the Intermedi-aries Regulations. The Intermediaries Regulations seek to consolidatethe common requirements (including registration, fees, general obliga-tions, inspection rights and code of conduct) under the various SEBIregulations and is a comprehensive set of regulations that apply to all

intermediaries and prescribe the obligations, procedure and limita-tions insofar as the common requirements are concerned.

The term intermediaries includes trustees of trust deeds, invest-ment advisers and portfolio managers associated with the securitiesmarket (ie, listed securities) in any way but excludes, inter alia, PEor VC funds and FVCIs.

The SEBI had introduced a draft of the SEBI (Investment Advis-ers) Regulations, 2007 with a view to regulate investment advisers.

However, these have not yet come into force.

13 Fund manager requirements

Are there any specific qualifications or other requirements imposed

on a private equity funds manager, or any of its officers, directors or

control persons, in your jurisdiction?

There are no specific qualifications or other requirements offund managers of PE or VC funds that are not investing in listedcompanies.

However, a portfolio manager, under the Portfolio ManagersRegulations, is required to have a net worth of at least 20 millionrupees. Further, the SEBI, while considering applications for regis-tration under the Intermediaries Regulations read with the Portfo-lio Managers Regulations, will consider certain factors, includingwhether: the applicant has the necessary infrastructure such as office space,

equipment and manpower to effectively discharge its activities; the principal officer (an individual who has been designated in

the application as such) of the applicant has either a professionalqualification in finance, law, accountancy or business manage-ment from a university or institution recognised by the Central/State Government or a foreign university, or experience of at least10 years in related activities in the securities market, including asa portfolio manager, stock broker or fund manager;

the applicant has in its employment a minimum of two personswho, between them, have at least five years of experience in

related activities in portfolio management or stock-broking orinvestment management, or in the areas related to fund manage-ment; and

the applicant is a fit and proper person, which includes, inter alia,integrity, reputation and character, absence of convictions andrestraint orders and competence, including financial solvencyand net worth.

14 Political contributions

Describe any rules or policies of public pension plans or other

governmental entities in your jurisdiction that restrict, or require

disclosure of, political contributions by a private equity funds manager

or investment adviser or their employees.

Under the Companies Act, companies, other than government com-panies and companies that have been in existence for less than threefinancial years, may make political contributions in one financialyear of any amount not exceeding 5 per cent of the average of its netprofits in three preceding financial years to be calculated in accord-ance with the provisions of the Companies Act. Such contributionsmay be made to a political party registered under the Representationof the People Act, 1951 or for political reasons to any person. Com-panies are required to comply with accompanying disclosure obliga-tions pertaining to such contributions, including a disclosure of allsuch political contributions in the companys profit and loss account,giving particulars of the total amount contributed and the name ofthe political party to which such amount was contributed.

Further, in terms of the Foreign Contribution (Regulation) Act,1976 (FCRA), inter alia, political parties and candidates for electionsare prohibited from receiving foreign contributions, which refers toany donations, transfer or delivery made by any foreign source ofarticles (excluding gifts) whose market value exceeds 1,000 rupees,


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Indian or foreign currency and any foreign security. A foreign sourceis defined in the FCRA to include: a foreign company or a company that is a subsidiary of a foreign

company or a multinational corporation; a company (as defined in the Companies Act) if more than one

half of the nominal share capital of such a company is held eithersingly or in aggregate by:

a government of a foreign country or territory;

citizens of a foreign country or territory; trusts, societies and other associations (whether incorporated

or not) registered in a foreign country or territory; or corporations incorporated in a foreign country or territory;

and foreign trusts or foreign foundations, citizens of foreign coun-

tries, societies, clubs or other association of individuals.

15 Use of intermediaries

Describe any rules or policies of public pension plans or other

governmental entities in your jurisdiction that restrict, or require

disclosure by a private equity funds manager or investment adviser of,

the engagement of placement agents, lobbyists or other intermediaries

in the marketing of the fund to public pension plans and other

governmental entities.

Apart from the general disclosure obligations (to clients) under theIntermediaries Regulations and the Portfolio Managers Regulations,there is no specific law pertaining to the engagement of intermediariesfor marketing funds to public pension plans and other governmentalentities. Typically, such marketing engagements are governed by thecontract between the investment adviser or fund manager and theclient.

16 Bank participation

Describe any legal or regulatory developments emerging from the

2008 financial crisis that specifically affect banks with respect to

investing in or sponsoring private equity funds.

There are no specific regulatory developments emerging from the2008 financial crisis, as the Indian banking system in India remainedlargely unaffected by it.

Banks are generally subject to investment exposure norms (thisincludes investment in shares and debentures) prescribed from timeto time by the banking regulator, the Reserve Bank of India (RBI).In terms of the Banking Regulation Act, 1949, no banking companyshall hold shares in any company, whether as pledgee, mortgagee orabsolute owner, of an amount exceeding 30 per cent of the paid-upshare capital of that company or 30 per cent of its own paid-upshare capital and reserves, whichever is less. Further, the aggregate

exposure of a bank (including its subsidiaries) to the capital marketsin all forms should not exceed 40 per cent of its net worth as on31 March of the previous year. Within this overall ceiling, the banksdirect investment in shares, convertible bonds or debentures, unitsof equity-oriented mutual funds and all exposures to venture capitalfunds should not exceed 20 per cent of its net worth.

Taxation

17 Tax obligations

Would a private equity fund vehicle formed in your jurisdiction be

subject to taxation there with respect to its income or gains? Would

the fund be required to withhold taxes with respect to distributions to

investors? Please describe what conditions, if any, apply to a private

equity fund to qualify for applicable tax exemptions.

PE or VC funds registered with the SEBI, whether established as a trustor company, are entitled to tax exemptions under section 10(23FB)of the Income Tax Act, 1961 (IT Act) and have been accorded a

tax pass through status under section 115U of the IT Act, ie, theinvestors in the PE or VC funds are directly taxed on any incomedistributed by the PE or VC funds as though the investors have madedirect investments in the portfolio companies. However, such tax passthrough status is only applicable with respect to investments made bythe PE or VC fund in certain specific sectors (such as nanotechnology,information technology relating to hardware and software develop-ment, seed research and development, biotechnology, research and

development of new chemical entities in the pharmaceuticals sector,production of bio-fuels, the building and operating of certain hoteland convention centres with a seating capacity of more than 3,000persons, the dairy and poultry industries or the development, opera-tion and maintenance of certain infrastructure facilities). Further, inaccordance with the IT Act, trustees are representative assessees ofthe beneficiaries (investors) and, consequently, income tax under theIT Act is levied on and recovered from the trustees of a PE or VCfund. However, the trustees are also entitled to recover such taxespaid from the beneficiaries (investors).

Capital gains earned on the transfer of shares or other listed secu-rities held for a period of 12 months or less are termed short-termcapital gains and those held for more than 12 months are termedlong-term capital gains. Capital gains tax levied on the transfer oflisted and unlisted securities would depend, inter alia, on whether thegains are short-term or long-term capital gains, whether the investoris an Indian resident or a non-resident and whether or not such sharesor securities are listed.

Dividends earned from investments made in portfolio compa-nies are exempt from tax in India. However, portfolio companiesdistributing dividends shall subject to a dividend distribution tax ofapproximately 16.609 per cent (including surcharges and cesses).

PE or VC funds are exempt from withholding tax in respect ofdividends distributed to their investors.

18 Local taxation of non-resident investors

Would non-resident investors in a private equity fund be subject to

taxation or return-filing requirements in your jurisdiction?

Non-residents and FVCIs are not entitled to any tax exemptions andare taxable on their income received, accrued or deemed to have beenaccrued or received in India, which would include dividends, interestand capital gains. However, if the non-resident or FVCI is an entityincorporated in a country with which India has signed a double taxa-tion avoidance treaty (DTAA) then, in terms of section 90(2) of theIT Act, the non-resident or FVCI is required to pay tax in accordancewith the IT Act to the extent that such tax is more beneficial to thenon-resident or FVCI than the tax payable under the DTAA.

19 Local tax authority ruling

Is it necessary or desirable to obtain a ruling from local tax authorities

with respect to the tax treatment of a private equity fund vehicle

formed in your jurisdiction? Are there any special tax rules relating to

investors that are residents of your jurisdiction?

While advance tax rulings are not always necessary, such rulings aredesirable since they provide certainty regarding the tax consequencesof a particular transaction and assist particularly non-residents andFVCIs in structuring their investments in India. In some cases, post-transaction rulings are also obtained to expedite the assessmentprocess.

Tax rulings are binding only on the applicant and the tax authori-ties and only for the transaction pertaining to which the rulingis sought.


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20 Organisational taxes

Must any significant organisational taxes be paid with respect to

private equity funds organised in your jurisdiction?

Appropriate stamp duty and registration charges will be levied onthe initial corpus of the PE or VC fund in the case of funds set up astrusts. Further, as regards PE or VC funds incorporated as compa-nies, appropriate incorporation fees will be payable to the registrardepending upon the authorised share capital with which the companyis incorporated, and appropriate stamp duty would have to be paidon the incorporation documents.

21 Special tax considerations

Please describe briefly what special tax considerations, if any, apply

with respect to a private equity funds sponsor.

Management fees payable to a fund manager would attract servicetax of 10.3 per cent (inclusive of surcharges and cesses) calculatedon the gross amount charged by the service provider. Typically, such

service tax is passed on to the recipient of the services (ie, the PEor VC fund). Further, carried interest would be taxed as any otherincome in the hands of the sponsor, in accordance with the IT Act.

22 Tax treaties

Please list any relevant tax treaties to which your jurisdiction is a party

and how such treaties apply to the fund vehicle.

India has signed over 80 DTAAs. As set out above, a non-residentor FVCI investor incorporated in a country with which India hassigned a DTAA has the option of being taxed on any income accruedor received in India either in accordance with the DTAA or the ITAct, whichever is more beneficial. Most DTAAs provide that thebusiness profits of a company resident in another country can betaxed in India only if such company has a permanent establishment inIndia.

23 Other significant tax issues

Are there any other significant tax issues relating to private equity

funds organised in your jurisdiction?

In addition to the above, there are many significant tax issues relat-ing to PE or VC funds and their investors. This includes withhold-ing tax levied on interest that accrues to a PE or VC fund on loansmade to portfolio companies, which varies depending on whetherthe investor is an individual, corporate or foreign investor. Further,securities transaction tax is levied on transactions entered on a rec-

ognised stock exchange, which varies based on the kind of securitiesand their value.

Selling restrictions and investors generally

24 Legal and regulatory restrictions

Describe the principal legal and regulatory restrictions on offers and

sales of interests in private equity funds formed in your jurisdiction,

including the type of investors to whom such funds (or private equityfunds formed in other jurisdictions) may be offered without registration

under applicable securities laws in your jurisdiction.

In accordance with the VCF Regulations, PE or VC funds are permit-ted to raise monies from any investor, whether Indian, foreign or non-resident Indian, by way of issue of units. The minimum investment tobe made by each investor is 500,000 rupees and a firm commitmentis required from investors of not less than 50 million rupees beforecommencement of operations. While domestic investors may investin PE or VC funds without registration, FVCIs (essentially foreignpooling vehicles) desirous of investing in PE or VC funds may do sosubject to registering themselves as an FVCI with the SEBI in accord-ance with the FVCI Regulations and the RBI. A PE or VC fund may

only raise funds through investments against private placement ofits units. PE or VC funds are not permitted to issue any advertise-ment or document inviting offers from the public for subscription orpurchase of its units.

PE or VC funds may not invest more than 25 per cent of the cor-pus of the fund in one venture capital undertaking. PE or VC fundsmay invest the corpus of the fund in the following manner: at least 66.67 per cent of the investible funds shall be invested

in unlisted equity shares or equity-linked instruments of venturecapital undertakings;

not more than 33.33 per cent of the investible funds may beinvested by way of:

an initial public offer of a venture capital undertaking whoseshares are proposed to be listed;

debt or debt instrument of a venture capital undertaking inwhich the PE or VC fund has made an investment by wayequity;

preferential allotment of shares of a listed company subjectto a lock-in period of one year;

equity shares or equity-linked instruments of financially weakcompanies (as defined in the VCF Regulations); and

special purpose vehicles created by the PE or VC fund for thepurposes of facilitating or promoting investment.

Further, PE or VC funds are required to issue a placement memoran-dum that contains, inter alia, details of the investment strategy of thefund; key personnel; tax implications; period of maturity of the fund,

if any; manner of distribution of benefits to the investors; details ofthe fund manager or asset management company, if any; the feespayable; and the investment strategy of the fund.

The SEBI had introduced draft regulations called the Draft SEBI

(Investment Adviser) Regulations, 2007, which sought to regulate

persons not registered with the SEBI and rendering investment advice

to specific clients without having any formal contract and without

having discretion over and custody of client assets, including:

entities that call themselves financial or investment consultants

or advisers who are engaged in distribution of retail financialproducts;

banks, certified financial planners, chartered accountants, tax

consultants, etc; and

entities not registered with the SEBI and rendering investment

advice on publicly accessible media like television, newspapers,

radio, internet, mobile phone services, etc.

While the SEBI is particularly keen about regulating wealth managers

under the Investment Advisers Regulations the new law, if enacted,

will require the registration and regulation of all persons rendering

investment advisory services to PE or VC funds pertaining to listed

securities.

It is also pertinent to note that the Department of Industrial

Policy and Promotion, Ministry of Commerce and Industry, Governmentof India has recently issued a discussion paper soliciting views on

whether foreign direct investment into LLPs should be permitted. If

the government does indeed permit foreign direct investment in LLPs,

there could be some favourable changes to the taxation structure of

LLPs by according them a tax pass through status (as in the case of

PE or VC funds set up as trusts or companies).

Update and trends


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25 Types of investor

Describe any restrictions on the types of investors that may participate

in private equity funds formed in your jurisdiction (other than those

imposed by applicable securities laws described above).

In terms of the Indian Governments Foreign Direct Investment Policy(FDI Policy), foreign direct investment into trusts (other than trustsregistered with the SEBI under the VCF Regulations) and LLPs is notpermitted without the prior permission of the RBI and the ForeignInvestment Promotion Board (FIPB). Further, in accordance with theFDI Policy, overseas investors desirous of investing in funds in India,without the approval of the FIPB or the RBI, may do so subject toregistering themselves with the SEBI as FVCIs, and may only invest inPE or VC funds registered with the SEBI. Any investment by overseasinvestors not registered as FVCIs may only be made pursuant to theapproval of the FIPB and the RBI.

It is pertinent to note that unincorporated entities or entities notregistered under relevant statutes abroad (including unregisteredtrusts, partnerships and overseas corporate bodies) cannot make for-eign direct investments in India.

26 Identity of investors

Does your jurisdiction require any ongoing filings with, or notifications

to, regulators regarding the identity of investors in private equity funds

(including by virtue of transfers of fund interests) or regarding the

change in the composition of ownership, management or control of the

fund or the manager?

PE or VC funds are required to submit quarterly reports, in the pre-scribed format, to the SEBI, which include information pertaining tothe total investments received by the PE or VC funds from domesticand overseas investors, the categories of investors (whether individu-als, non-resident Indians, FVCI etc) and an industry-wise break-upof the total investments made by the VCFs in the relevant period.However, the identity of the investors of the PE or VC funds is notrequired to be disclosed as part of such reporting, except as may bespecifically required by the SEBI.

As part of the registration process under the FVCI Regulations,an applicant for FVCI status is required to disclose the names ofthe clients on whose behalf it proposes to invest in India. FVCIs arerequired to appoint domestic custodians who shall be responsible,inter alia, to furnish quarterly reports in the prescribed format to theSEBI. The reporting requirements pertain to the investments madeby the FVCI (ie, whether in listed or unlisted companies) and anindustry-wise break-up of such investments.

There is no specific provision requiring disclosure of a change inthe composition of ownership, management or control of the fund.

As regards fund managers, the Intermediaries Regulationsrequire all intermediaries (including portfolio managers) to obtain

prior approval of the SEBI for continuing to act as an intermediaryin the event of a change in status or constitution of the intermediary,including any change to such intermediarys managing director orwhole-time director.

27 Licences and registrations

Does your jurisdiction require that the person offering interests in a

private equity fund have any licences or registrations?

Other than registration of PE or VC funds, foreign investors as FVCIsand portfolio managers, there are no other licences or registrationsrequired by persons offering interests in PE or VC funds.

28 Money laundering

Describe any money laundering rules or other regulations applicable in

your jurisdiction requiring due diligence, record keeping or disclosure of

the identities of (or other related information about) the investors in a

private equity fund or the individual members of the sponsor.

India has enacted the Prevention of Money Laundering Act, 2002(PML Act) in order to prevent money laundering (ie, directly or indi-

rectly attempting to indulge or knowingly being involved in or assist-ing in any process or activity connected with the proceeds of crimeand projecting it as untainted property).

Under the PML Act and the rules framed thereunder (PMLRules), banks, financial institutions and all intermediaries (includingtrustees, fund managers and PE or VC funds) are required to main-tain a record of all transactions and verify the identities of all clients.The PML Rules set out the documents required to be examined forthe purposes of verifying the clients identity, and such requirementsdiffer based on the whether the client is an individual, company, trustor body corporate.

Further, banks, financial institutions and intermediaries arerequired to furnish monthly reports to the appropriate authority (estab-lished under the PML Act) containing the following information:

all cash transactions of the value of more than 1 million rupees; all series of cash transactions integrally connected to each other

that have been valued below 1 million rupees or its equivalentin foreign currency where such series of transactions have takenplace within a month;

all transactions involving receipts by non-profit organisations ofa value of more than 1 million rupees or its equivalent in foreigncurrency;

all cash transactions where forged or counterfeit currency notesor banknotes have been used as genuine or where any forgery ofa valuable security or a document has taken place facilitating thetransactions; and

all suspicious transactions, whether or not made in cash.

Siddharth Raja [email protected]

Chitra Raghavan [email protected]

8 Palace Road Cross Tel: +91 80 4268 6029/30

12th Main, Vasanthnagar Fax: +91 80 4268 6031

Bangalore 560 052 www.narasappa.com

India


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FUND

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Exchange listing

29 Listing

Are private equity funds able to list on a securities exchange in your

jurisdiction and, if so, is this customary? What are the principal initial

and ongoing requirements for listing? What are the advantages and

disadvantages of a listing?

In terms of the VCF Regulations, PE or VC funds may list their units

on any recognised stock exchange after the expiry of three yearsfrom the date of issuance of units by the PE or VC funds. The abilityof PE or VC funds to list their units affords the investors of a fundan effective exit mechanism. However, only companies incorporatedunder the Companies Act are permitted to list equity shares andconvertible instruments. Consequently, PE or VC funds establishedas trusts and LLPs would have to be converted to companies priorto such listing.

The SEBI has issued the SEBI (Issue of Capital and DisclosureRequirements) Regulations, 2009 (ICDR Regulations) in terms ofwhich, inter alia: pricing of securities sought to be listed should be arrived at

in consultation with the lead manager on the basis of certain

parameters set out in the ICDR Regulations; promoters are required to hold a minimum of 20 per cent of the

post-issue capital. The term promoter includes any person whois in overall control of the company and a person named in theprospectus as a promoter. Such minimum holding of promotersis locked in and cannot be disposed of for a period of three years;and

the remaining pre-issue share capital, excluding the promotersminimum holding, is subject to a lock in of one year. However,shares held by FVCIs for a period of one year prior to the dateof filing of the draft red herring prospectus with the SEBI arespecifically excluded from this requirement.

30 Restriction on transfers of interests

To what extent can a listed fund restrict transfers of its interests?

Under the Companies Act, one of the fundamental features of a pub-lic company that sets it apart from private companies is that sharesof a public company are freely transferable. In recent cases whereparties have sought to enforce restrictions of pre-emptive rights andother restrictions on the transfer of shares of a public company,courts have held that any such restriction would be a fetter on thefree transferability of shares of a public company, thereby deemingsuch restrictions illegal. Consequently, a listed fund may not restrictthe transfer of its interests.

Participation in private equity transactions

31 Legal and regulatory restrictions

Are funds formed in your jurisdiction subject to any legal or regulatory

restrictions that affect their participation in private equity transactions

or otherwise affect the structuring of private equity transactions

completed inside or outside your jurisdiction?

Apart from what has already been set out above, it is pertinent tonote that PE or VC funds registered with the SEBI may invest in

equity and equity-linked instruments of offshore venture capitalundertakings, subject to an overall limit of US$500 million and theprior approval of the SEBI. No permission from the RBI would benecessary in this regard.

32 Compensation and profit-sharing

Describe any legal or regulatory issues that would affect the

structuring of the sponsors compensation and profit-sharing

arrangements with respect to the fund and, specifically, anything

that could affect the sponsors ability to take management fees,

transaction fees and a carried interest (or other form of profit share)

from the fund.

There are no specific regulatory issues in this regard. Structuring ofthe sponsors compensation and profit-sharing arrangements, includ-ing management fees and transaction fees, are typically governed bythe contribution agreement.


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