Venture capital transactions showed huge growth in 2024, rising substantially on a year-on-year growth basis. As a result, venture capital deal activity in India showed an uptick trend. This will be good for India in maintaining its position as a favourable venture capital transactions market. Good quality companies, founders and sectors attracted substantial funding from venture capital funds. To add to this, India’s robust public capital markets encouraged companies to successfully raise huge public funds and attractive returns to investors who exited in the IPO. Several sectors attracted VC funding. The prominent ones include quick commerce, software, consumer technology, consumer retail, fintech, deep tech, EV and EV infrastructure-related companies. These new age companies outpaced fund raising as compared to the more traditional ones.

As per Bain & Co, India Venture Capital Report 2025, some notable deals of 2024 for primary investments include Zepto, Meesho, Lenskart, Rapido, Rebel Foods, Physic Wallah and Oyo. As per the same report, some notable exits include exits of investors in Policy Bazaar, Paytm, Mamaearth, Indigo Paints and Prataap Snacks. Companies that went public through IPOs include Swiggy, Ola Electric, Awfis, Travel Boutique and Suraksha Diagnostic.

A major announcement in the Union Budget of 2024 abolished the controversial angel tax for all classes of investors. This tax was levied on the premium paid on issuance of shares by investee companies. This is a welcome move, which is expected to boost venture capital deal making. Another major reform is the reduction in long-term capital gains on unlisted shares, from 20% to 12.5%. This will lessen the tax burden on the selling shareholders, thus resulting in investors earning a better rate of return on exit. These reforms, along with a more liberal regulatory regime, are expected to give momentum to venture capital investments. It is expected that VC funding will go deeper into tier 2 and 3 cities, such as in the hospitality sector and tourism-related industries.

The sectors/industries which attracted venture capital in the last 12 months include e-commerce and quick commerce, fintech, health tech, EVs and EV infrastructure-related companies, edtech, financial services, consumer tech companies, consumer retail, software, shipping and logistics. Many consumer technology companies raised funding through IPOs. As far as exits are concerned, most exits were seen in the fintech and consumer retail sectors.

Venture capital vehicles used for investments are generally set up as a company, trust or limited liability partnership. Venture capital investment can be made in the form of (i) foreign investment; or (ii) domestic investment. Different provisions apply to these investments, as provided below.

Foreign Investment

For foreign investment, several routes are available to make the investment. The common form of investment is foreign direct investment (FDI), foreign portfolio investment (FPI) and foreign venture capital investment (FVCI), as described below.

FDI

FDI can be made by any person resident outside India but only in permitted sectors in India. Currently, FDI is allowed in most sectors. FDI can be made under (i) Automatic Route (ie, no approval of the government of India is required to make FDI); and (ii) Government Approval Route (ie, prior approval of the government of India is required).

Irrespective of the sector in which investment is made, if FDI is made (i) by an entity of a country sharing land border with India; or (ii) where the beneficial owner of an investment into India is situated in or is a citizen of any country sharing land border with India, FDI can only be made under the government approval route.

Any investment, irrespective of the level of investment, in an unlisted Indian company qualifies as an FDI. However, to qualify as FDI in listed companies, the minimum FDI must be at least 10%. Investments below 10% qualify as FPI, as provided below.

Further, FDI must comply with certain other conditions and restrictions applicable to the particular sector in which the FDI is made. In addition, FDI must comply with pricing guidelines, which means FDI cannot be at a price below the value of shares as determined by a valuer.

FPI

FPI investment means investment in equity shares of a listed company in India, provided the stake held is less than 10%. As mentioned above, any stake of 10% or more in a listed company qualifies as FDI. To make FPI, the investor would need to obtain a certificate from the Securities and Exchange Board of India (SEBI). This certificate is granted by a designated depository participant on behalf of SEBI, once the investor meets prescribed eligibility criteria as provided by the SEBI regulations. There are various categories of FPIs, such as: Category I FPI (including government and government-related investors, such as central banks, sovereign wealth funds, pension funds, university funds, regulated entities such as insurance and re-insurance entities, banks, asset management companies); and Category II FPI (including all categories other than Category I FPI such as endowments and foundations, charitable organisations, corporate bodies, family offices, individuals, unregulated funds in the form of limited partnership and trusts). FPI can invest in securities of listed or to be listed entities.

FVCI

FVCI means investment in a “venture capital undertaking” (meaning a domestic unlisted company, which is not engaged in certain prescribed activities such as financial services, gold financing, etc) or investment in other domestic funds registered as alternative investment funds (as described below). It can also make investment:

• not exceeding 33.33% of its investible funds in IPOs of a “venture capital undertaking”;
• in debt instruments of a company in which FVCI has already made equity investment; and
• in the preferential allotment of equity shares of a listed company subject to a lock-in period of one year.

To make FVCI, the investor would need to obtain a certificate from the Securities and Exchange Board of India (SEBI). This certificate is granted by a designated depository participant on behalf of SEBI, once the investor meets prescribed eligibility criteria as provided by the SEBI regulations.

Domestic Funds

Venture capital funds making domestic investments are set up as alternative investment funds (AIFs) in terms of the SEBI (Alternative Investment Funds) Regulations, 2012. AIF is a privately pooled investment vehicle which raises funds from Indian and foreign investors. There are three categories of AIF:

• Category I AIF (which invest in start-ups or early-stage ventures);
• Category II AIF (which invest in unlisted securities of mid-stage or late-stage companies, either through debt or equity); and
• Category III AIF (which employ complex trading strategies and leverage for their investments – eg, a hedge fund).

Besides getting a certificate as AIF, the AIF must comply with conditions and restrictions prescribed by SEBI for making investments in investee companies.

Structure of Venture Capital Funds

The venture capital funds have fund managers who take decisions on the investment and manage the portfolio of the fund. They are governed by the investment management agreements and are responsible for managing the investment, implementing strategies and reporting to the investors; and they must comply with the applicable regulations. The funds have an investment committee which takes decisions on investments, exits and other aspects of investment and governance, and approves the investments.

Standard Documentation

Generally, the documents executed are as follows:

• private placement memorandum – similar to an offer document and used for raising funds;
• investment management agreement – executed by the fund and the manager, governing the management of the fund; and
• contribution agreement – entered into between the investors and the fund, covering aspects such as the contribution made by the investor and other terms of investment.

The economic interest for fund managers is rewarded in the form a management fee and a carry. Thus, it is in the form of a “fixed fee” and a “share in the returns/profits” of the fund. The carry (carried interest) is given on the units which are held by the managers. This is given as a performance-based compensation, if the return on the fund exceeds a certain agreed threshold.

Investor Protection and Governance

The fund, its key personnel, designated partners and director must abide by a code of conduct. Fund policies and procedures are reviewed from time to time. The policies must be framed to ensure that all decisions are in conformity to applicable regulations, placement memorandum, agreements with investors and other applicable laws.

The manager is responsible for decisions made in relation to the fund. The accounts and books are subject to annual audits. There are special provisions to avoid any conflict of interest and to ensure transparency of the information shared with the investor.

The applicable regulation for a venture capital fund depends on the nature of the vehicle used for setting up the fund:

• trust – the Indian Trusts Act, 1882;
• company – the Companies Act, 2013;
• limited liability partnership – Limited Liability Partnership Act, 2008.

As mentioned in 2.1 Fund Structure, investment by the fund is governed by the FDI policy read with the Foreign Exchange Management (Non-Debt Instruments) Rules, 2019, FPI Regulations, FVCI Regulations and AIF Regulations depending upon the nature of the investment.

There are several kinds of funds in India, such as the following:

• impact funds;
• sovereign funds;
• endowment and pension funds;
• family offices;
• infrastructure investment trusts (InvITs);
• real estate investment trusts (ReITs);
• SME funds (which invest in small and medium-sized enterprises);
• social impact funds (which invest primarily in social ventures or in social enterprises that satisfy the social performance norms laid down by the fund);
• angel funds (funds that raise funds from angel investors and invest);
• special situation funds (which invest in special situation assets in the insolvency of companies);
• debt funds; and
• fund of funds.

Before investing, VC funds conduct a detailed due diligence covering aspects such as:

• legal and regulatory;
• financial;
• business;
• commercial;
• tax; and
• environmental, social and governance.

Generally, the due diligence is detailed, and advisers/consultants are appointed to undertake the diligence exercise. A detailed questionnaire/checklist is sent to the target entity and the responses provided are examined and analysed. Due diligence findings are generally provided in the form of an executive summary (ie, a short form report and not a lengthy and detailed report) highlighting red flags/critical issues identified in the diligence. Typically, the diligence findings also provide for ways to mitigate the concerns/risks identified in the diligence. The diligence findings are resolved by seeking relevant representations, warranties and related indemnities from the investee company and its founders. Further, certain critical items are also provided as conditions precedent to making investment in the company, such as seeking regulatory approval and/or lenders’ consent, if applicable. Some procedural aspects are provided as conditions subsequent (ie, to be completed within a certain agreed timeline after the closing of the investment transaction).

The timeline of a new financing/funding round depends on several factors, such as the following:

• size of the transaction and the investee company;
• complexities and parties involved in the transaction;
• level of findings in the due diligence and their resolution;
• requirement of regulatory approval;
• presence of existing investors in the company;
• the transaction structure, including tax aspects; and
• the way negotiations are conducted.

Having said that, venture capital transactions are mostly fast-paced, and all parties expect the work to close quickly, and funding is completed. Typically, it could be around three to four months to complete a transaction.

The investment is made by executing certain standard agreements which govern the relationship of parties/investors. Typically, the agreements are:

• share subscription agreement (for primary investment);
• share sale and purchase agreement (for secondary investment); and
• shareholders’ agreement (governing rights, obligations and governance matters among the parties) (together referred to as “transaction documents”).

Generally, investors get the following rights:

• board seat/observer seat;
• quorum right;
• pre-emptive right;
• anti-dilution right;
• tag-along and drag-along rights;
• right of first offer (ROFO)/right of first refusal (ROFR) with respect to share transfers;
• affirmative voting rights;
• lock-in and transfer restrictions on the founders of the investee company;
• information and inspection rights;
• non-compete obligations on the founders;
• no more favourable terms to be offered to other investors;
• exit/liquidation rights; and
• termination on breach of an agreement.

When there are large numbers of investors in an investment, while some rights are given to all investors – such as information and inspection rights, ROFO/ROFR, pre-emptive rights, anti-dilution rights – there are a few rights that can exercised by investors collectively. For example, drag-along rights could be agreed to be exercised when at least two-thirds agree to drag. The transaction documents are well negotiated and at times could take days and several rounds of discussions/negotiation between the parties.

Generally, each party to a transaction has its own counsel and adviser. Sometimes, when there is more than one investor, they engage the same counsel and adviser as the interests sought to be protected are the same.

Besides equity shares, most VC funding is through compulsorily convertible preference shares (CCPS). In some transactions, compulsorily convertible debentures are seen but the most accepted instrument for investment is CCPS. CCPS are preference shares until conversion and, since the feature is of compulsory conversion, CCPS are never redeemed but compulsorily converted into equity shares within the maximum statutory conversion period of 20 years. Preference shares have priority over common stock in the payment of dividend and in the liquidation of companies. Although they have preference in the payment of dividend, in most VC deals the coupon rate is very minimal. Therefore, from this point of view, CCPS are not different from common stock. Rather, CCPS offer the other advantage of preference in company liquidations.

Some of the common features or rights attached to CCPS are as follows:

• preference in payment of dividend;
• conversion right upon the expiry of a period or upon the happening of an event – eg, anti-dilution or corporate reorganisation;
• liquidation preference – both in winding-up and secondary sale event like IPO, trade sale;
• anti-dilution protection; and
• voting right on “as if converted” basis.

As far as documentation for a VC deal is concerned, generally the following documents are common:

• a term sheet, which is generally non-binding except for a few clauses like cost and expenses, exclusivity and confidentiality;
• a share subscription agreement for primary issuance of shares;
• a share sale and purchase agreement for a secondary transaction;
• a shareholders’ agreement, which governs the rights and obligations of the parties and the provisions regarding management and governance of the investee company; and
• sometimes, specific letter agreements are also executed among several parties to record some understanding between such parties.

Downside Scenario – Liquidation Preference

To protect investors in a “downside scenario” such as the winding-up of a company, liquidation preference provisions are provided. Indian insolvency law provides for a waterfall mechanism (ie, the order in which the liquidation proceeds will be distributed). As mentioned above, CCPS, being preference shares, are paid in priority to the common stock. Indian insolvency law provides that any contractually agreed priority for the same classes of shares will not be enforceable in law. For example, holders of equity shares cannot have priority over each other; however, preference shares can have priority over equity shares.

Besides winding-up, where the liquidation preference is statutorily governed, liquidation preference can be contractually agreed in events such as exits by investors upon a strategic sale or change of control of a company, while enforcing drag-along rights and any other form when the existing investors/shareholders sell their shares through a secondary sale. In such sale, the investor is provided with a liquidation preference, vis-à-vis the founders of the company. As amongst investors, the distribution is made in proportion to their shareholding unless it is agreed that earlier series/round investors will be paid in priority over the investors of the later series/round. 

Liquidation preference is mostly participating in nature, which means that once the investors have been paid their principal amount (ie, original investment), they will then participate pro rata in the amount remaining for distribution.

Anti-Dilution and Pre-Emption/Subscription Rights

These are common provisions in VC transactions in India. Both anti-dilution and pre-emption/subscription rights are provided in the shareholders’ agreement. Anti-dilution rights are provided for a certain number of years, such that if a down-round happens during that period, the investor is protected through anti-dilution protection. Anti-dilution rights could be full-ratchet anti-dilution or broad-based weighted average anti-dilution. Although investors negotiate for a full-ratchet anti-dilution right as it is best from the investor’s perspective, generally the acceptable standard in India is to have a broad-based weighted average anti-dilution.

It is common to have pre-emption/subscription rights to the extent of the shareholding of an investor. If an investor does not exercise this right, the same can be offered to the other investors.

Typically, investors exercise their influence over management/affairs by having certain rights in the investee company. Some of these rights are as follows.

• Board seat or observe seat including right to replace the nominee director or the observer. The director or observer has a right to attend a board meeting (but observer is not counted towards quorum and does not have a right to vote) and are entitled to examine the books, accounts and records of the company and shall have free access, at all reasonable times and with prior written notice, to properties and facilities of the company. The company is obligated to provide such information.
• Right to have notice and the agenda of meetings.
• Quorum right both in the board and shareholders’ meeting – If the investor nominee is not present, the meeting stands adjourned. If the quorum is still not met in the adjourned meeting, then the meeting proceeds without the investor nominee, but affirmative vote items are neither discussed nor voted upon at such meeting.
• Affirmative voting matter (AVM) right – AVM rights require the company to obtain prior written consent from the investor prior to taking decisions on critical matters – eg, alteration of charter documents, acquisition of other businesses and amendment of the annual business plan.
• Information and inspection rights.

Typically, investors seek representations and warranties, which can be broadly categorised as follows:

• fundamental warranties (covering fundamental issues like title to the shares/property, authority and capacity to enter into the agreements);
• business warranties (covering all aspects relating to the operations of the business of the company);
• tax warranties (covering aspects relating to taxation); and, sometimes,
• special warranties (sought for certain specifically identified indemnity items).

These representations and warranties are taken as of the signing date of the transaction and are repeated as of the closing date of the transaction. Any change in the representations and warranties from the signing date to the closing date is disclosed through a disclosure letter, such that the investor has a right to walk away from the transaction if the representations and warranties differ from those represented on the signing date.

The representations and warranties are well negotiated between the parties, and it is one of the critical areas of negotiation in a VC transaction. If there is any breach of representations and warranties prior to the closing of the transaction, then the investor has a right to terminate the transaction without any recourse, except for legal and other expenses and cost incurred by the investor. Generally, investors ask for indemnity for the breach of representations and warranties prior to closing but as standard practice such indemnities are not given. If there is a breach of representations and warranties after the closing of the transaction, then investors have a right to seek indemnity and other remedies available in law. Generally, the indemnities are qualified and limited to a certain agreed amount and time within which the indemnity can be sought. Typically, the threshold amount and time limit agreed depend on the nature of representations and warranties.

Generally, there are no government/quasi-government programmes to incentivise equity financing in growth companies. However, if the company is a start-up as per the definition prescribed by the government, certain provisions of law are exempted for such companies. Further, from time to time the government announces certain benefits and schemes for a particular industry/sector, which can be availed of by complying with the conditions of such schemes (eg, the Production-Linked Incentive (PLI) schemes).

As mentioned in 1.2 Key Trends, angel tax has been abolished and long-term capital gains on unlisted shares has been reduced from 20% to 12.5%. This will lessen the tax burden on the selling shareholders and result in investors earning a better rate of return on exit. Foreign investment by venture capital is also subject to the double tax avoidance agreement (tax treaty between India and other countries), eg, India and Singapore.

To attract investment, the government announces schemes and incentives from time to time. The government has been trying to improve the ease of doing business and as part of that has provided businesses with single window clearance under the National Single Window System (NSWS).

As mentioned in 4.1 Subsidy Programmes, the government has announced the PLI scheme and gives incentives to start-ups.

The founders/key employees’ long-term commitment to the venture is sought by contractually agreeing to some of the following standard provisions:

• non-compete and non-solicitation restrictions;
• restriction on transferability of shares through lock-in of shares;
• obligation to devote full and whole time to the business of the investee company; and
• providing for stringent clauses for breach of these obligations, such as a call option on the founder’s shares at a discounted price.

Instruments/securities typically used for the purpose of incentivising founders/employees are as follows:

• employee stock options (ESOPs);
• management stock options;
• sweat equity shares;
• stock appreciation rights; and
• restricted stock units.

Taxation of ESOPs

As per the Indian income tax laws, the taxation of ESOPs is triggered at two stages.

At the time of exercise of options as a perquisite

The tax will be levied on the notional profit at the time of exercising the ESOPs calculated as the difference between the share’s prevalent fair market value (FMV) on the exercise date and the exercise price paid on ESOPs.

At the time of sale of shares as capital gains

Gains derived at the time of sale of shares which are allotted pursuant to ESOPs will be subject to capital gains tax in India. The taxable value is calculated on the excess of sale price of shares over the fair market value of shares on the exercise date. The tax is applicable on the period of holding of shares before sale. If the shares are held for a period exceeding 24 months, then the tax is calculated at the rate of 12.5% and if held for a period less than 24 months, tax will be calculated as per the applicable tax rate.

Generally, at the time of investment in an investee company, a certain pool for ESOPs is kept aside for employees; generally it ranges from 2.5% to 5%. Sometimes the investment round allocates capital to implement and fund employee incentive programmes by providing what is recorded in the shareholders’ agreement; and this is effected as a condition precedent to the closing of the transaction.

For exits vis-à-vis the founders, the investors get a priority for exit (ie, they have preference over the promoters/founders at the time of exit). Exits typically happen pursuant to:

• a sale in the IPO;
• trade/strategic sale;
• tag-along (when there is a change in control);
• drag-along;
• buyback of shares by the investee company; or
• a combination of one or more of such methods of exit.

Exits vis-à-vis other investors happen on a pro-rata basis (ie, the investors get a proportionate share of the proceeds on exit). Typically, exits happen after five to six years of investment. Should there be a breach or any event of default, the investors have a right of exit even before the agreed term of exit.

IPO exits are still the most preferred mode of exit. Over the years, investors have exited through IPO by being the selling shareholders in the IPO. As mentioned at 1.1 VC Market, as per the Bain & Co report, some notable exits in 2024 include exits of investors in Policy Bazaar, Paytm, Mamaearth, Indigo Paints and Prataap Snacks.

IPO is a long process and is driven by SEBI regulations. All rights of the investors fall away on the IPO. India has robust and well-established capital markets, with two major stock exchanges: Bombay Stock Exchange (BSE) and National Stock Exchange (NSE). The IPO process is primarily divided into pre-issue, launch preparation and post issue activities. At pre-issue, due diligence, drafting and the filing of a draft red herring prospectus with SEBI happens through a merchant banker. SEBI provides its comments. Thereafter, during the launch preparations, the following take place:

• pre-marketing investor meetings;
• filing of updated draft red herring prospectus with SEBI;
• filing of red herring prospectus with the Registrar of Companies;
• road shows; and
• announcement of a price band of the IPO price.

At post issue:

• the issue opens and closes;
• the final IPO price is fixed;
• allotment is made; and then
• securities are listed on the BSE and NSE.

Secondary market trading transactions do happen prior to an IPO but they are not prevalent. This is because most exits happen through the IPOs. In fact, instead of secondary sale, a pre-IPO allotment is seen to increase the shareholding of some existing investors or to bring in new investors. Having said that, there could be situations where certain investors or employees would like to exit prior to the IPO. In that case, the founders and company can facilitate this secondary sale, but there is no obligation to do this. Typically, such pre-IPO transfers are not provided for in the shareholders’ agreement but can be facilitated if there is mutual agreement between the parties.

Broadly, the offering of a company’s equity securities in a venture capital transaction entails the following.

• Approval of the board of directors of the investee company. Generally, securities are issued by way of private placement, which means issuance of shares to an identified person to the exclusion of the other shareholders of the company (Private Placement). Shares can also be issued on a rights basis on a pro-rata basis to all existing shareholders of a company (Rights Issue). In a venture capital transaction, securities are issued to an identified investor(s) (and not to all the shareholders), so they are issued on a Private Placement basis.
• Once the board approves the Private Placement, approval by way of special resolution (ie, three quarters) of shareholders is required. It may be noted that no shareholders’ approval is required for a Rights Issue.
• Issuance of shares on a Private Placement basis requires valuation from a registered valuer. This condition is applicable irrespective of whether it is a domestic investment or a foreign investment. If equity shares are issued, then valuation must be carried out at the time of their issuance. If convertible securities are issued, then the price of the resultant equity shares that will be issued upon conversion of the convertible securities is determined as either:
1. upfront at the time when the offer of convertible securities is made, based on the valuation report of a registered valuer given at the stage of such offer; or
2. at a later time, which shall not be earlier than 30 days from the date when the holder of convertible securities becomes entitled to apply for shares, based on the valuation report of the registered valuer given not earlier than 60 days from the date when the holder of convertible securities becomes entitled to apply for shares.

The decision of the option to be adopted must be taken at the time of issuance of the offer of securities.

• The offer of securities is made through a private placement offer letter in a prescribed format which is sent to the proposed allottees of shares.
• The proposed allottees apply for the shares by remitting the funds into the company’s bank account.
• The shares are then allotted by the company, generally, in a dematerialised form.
• The shareholder is recorded in the company’s record of shareholders.
• A prescribed online form with details of the allotment made is filed with the Registrar of Companies.
• In addition, the investment could also require regulatory approval – eg, if the acquisition is 26% or more in a financial services company, then prior approval of the Reserve Bank of India will be required.

There are some regulatory and other restrictions that must be borne in mind when a foreign VC investor is considering investments in India. Some of these restrictions are given below.

• As mentioned in 2.1 Fund Structure, irrespective of the sector in which investment is made, if FDI is made by (i) an entity of a country sharing land border with India; or (ii) where the beneficial owner of an investment into India is situated in or is a citizen of any country sharing land border with India, FDI can only be made under the government approval route. Therefore, a foreign VC investor must bear this condition in mind. In this regard, it may be noted the restriction is on investments made through a fund which is sponsored and/or beneficially owned by investors who are residents of countries sharing land border. The residency status of the manager or the limited partner will not be the relevant criterion.
• Investment made should be following the investment criteria specified in the SEBI regulations.
• Investment made in the form of FDI must comply with the pricing guidelines, which means the investment made cannot be lower than the price determined by a valuer. This is applicable when the foreign investor is making investment through primary issuance or secondary acquisition.
• Compliance with sectoral caps for specific sectors (which means investment limits up to which the investment can be made under the Automatic route) and other restrictions and conditions provided in the FDI Policy and the NDI rules.
• For transfer of shares to a person a resident in India, the provisions of tax withholding apply when payment is made to a non-resident investor. Therefore, this would need to be checked at the time of exit by a foreign investor.
• Liquidation preference in case of winding up of the investee company will be subject to the insolvency law waterfall mechanism provided.
• The instruments that can be used for investment could be equity shares or compulsorily convertible securities (such as CCPS). All other kinds of instruments are treated as external commercial borrowing and will require compliance with the ECB guidelines.
• As foreign investors, foreign VC funds will not be entitled to any assured return (ie, on exit they cannot repatriate more than the value of shares as determined by a valuer). They can exit by exercising a put option after a minimum lock-in period of one year from the date of investment.
• Foreign VC must ensure that the terms of the shareholders’ agreement are incorporated in the investee company’s articles of association (ie, the by-laws of the investee company), otherwise the terms will not be enforceable.