The fund of funds for startups (FFS) was introduced in 2016, for contribution to various alternative investment funds (AIFs) registered with the capital market regulator Sebi.
The FFS, run by the state-controlled Small Industries Development Bank of India (Sidbi), has invested more than Rs 9,400 crore in 86 AIFs (the regulatory term for PE and VC funds).
Sidbi is the country’s largest limited partner (LP) or investor contributing to the capital of VC and PE funds.
In a letter dated April 29, 2022, Sidbi told AIFs that it would allow “accelerated drawdowns” of the money committed by the FFS while fund managers achieve internal rate of returns (IRR) higher than the hurdle rate – the minimum return a fund has to clock in before profits can be shared between investors and fund manager.
“These are concrete steps to ensure that investments by the FFS in eligible Indian AIFs can be on better commercial terms when it comes to management fee, carried interest for the qualifying and performing fund managers, whilst also extending more flexibility to fund managers in their day -to-day operations. Sidbimanaged FFS has been one of the most important domestic institutional investors in Indian VC Funds and the liberalization of many existing onerous terms in the investment agreements will help in aligning such terms with those prevalent globally, ”said Tejesh Chitlangi, senior partner, IC Universal Legal .
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Since AIFs often take a long time to mobilize capital from other investors, a quicker drawdown of the money committed by the FFS will enable that the deal making capability of AIFs is not hampered.
The ‘carry’ or the profit sharing (once the fund’s IRR crosses the hurdle rate) is typically in the ratio of 80:20, with 20% going to the manager. The FFS is now ready to pass on 25% of the incremental returns (over and above the new IRR) if the IRR exceeds 25%. The share of carry would be 30% (of the incremental return) if the fund achieves an IRR of above 30%.
The FFS, as per Sidbi letter, will consider paying a higher management fee after taking an overall view on the total expenses, and if a fund is women-led, focuses on women-led startups, priority areas, agro-rural sector, financial inclusion, and is committed to invest in tier-2 and -3 centers. The FFS is also open to investing in funds above Rs 1,000 crore corpus as long as a fund’s investment manager is a domestic entity, the key persons or managers had managed funds to which Sidbi had made commitments in the past, and exposure is capped at the same level as applicable for a fund with corpus of Rs 1,000 crore.