IDFC FIRST Bank: Unlocking Foreign Investment for Indian Startups

Startups are a huge part of India's growth story - not just in material terms, but also aspirational ones. Each time we hear of another Indian startup breaking into the Unicorn club, it chips away at the 'safe' middle class mindset that most of us grew up with. Today's Indian wants to be an entrepreneur, a provider of jobs rather than a job seeker, a creator of value, a problem solver.

The Indian government has been quick to both spot, and enable this mood. Through numerous programs, the government has been working to improve the business ecosystem overall. In particular, the startup ecosystem through a number of initiatives and policy drivers that are encapsulated under the Startup India umbrella.

Despite the government's efforts, there is one area where startups continue to struggle - a lack of investment from banks. Since banks categorise startups as 'high risk', they cannot risk investing depositors' funds in them.

This is where venture capital (VC) funding comes in as the solution. Startups in India can now turn to both domestic and international VC funding for support. To further enable this, the Indian government has relaxed the Foreign Direct Investment (FDI) norms to boost VC funding and foreign investment in startups.

Navigating Startup Funding Through FDI

Before a startup can receive FDI in India, it must comply with several regulations set forth by the Reserve Bank of India (RBI). The first step is to register with the Department for Promotion of Industry and Internal Trade (DPIIT) in order to avail of the benefits granted to startups under Indian law. Startups must also comply with the provisions of the Companies Act and Foreign Exchange Management Act (FEMA) with respect to the issuance of shares to private investors and regulatory reporting. Moreover, the RBI requires that money enter India for FDI purposes only through banking channels, with banks having Nostro accounts with overseas banks or NRI accounts in India, as specified by RBI.

Of course, there are a number of other nitty gritties. IDFC FIRST Bank's Structured Solutions team divides the funding process into three stages:

Stage 1: The Pre-Flight Checklist

These are the items startups need to check before they sign the dotted line with an overseas investor.

●     Are they eligible under the automatic route or do they need government approval?

●     Does the startup need special consent from the RBI?

●     Have they previously raised funds? If so, have they taken RBI acknowledgement on those funds?

●     What is the type of instrument they propose to use - equity, Compulsory Convertible Debentures (CCD), convertible notes or credit notes?

●     Has their paid up capital been enhanced?

●     Do they have the complete investor profile, and have they filled up the beneficial ownership declaration?

●     Are the owners of the startup participating in any overseas investments?

This may seem like a lot of paperwork (and it is!), but if you know what you're doing, this can go pretty quickly. Startups can check their eligibility for automatic routes here. If the startup has never raised funds before, particularly through FDI, the paperwork is rather straightforward. They need to assess the various benefits of each of the instruments, and decide on which ones they're using. They then need to file information about their investor and the beneficial ownership declaration, which is an India specific requirement. This is often where the investor needs a little hand-holding. However, if the startup has previously raised funds and issued shares, the paperwork needs a more practised hand.

Stage 2: In Flight Checks

These questions relate to the process of the transfer itself.

●     Details of the remitting bank and mode of transfer

●     Does the remitter know of India's 6 pointer KYC requirements? Has the remitting bank been informed of this as well?

●     Has the investor finalised their investor declaration?

●     Has the remittance and timely credit of funds been confirmed? Has the Foreign Inward Remittance Certificate (FIRC) been issued?

The pressure point here is the 6 pointer KYC - since this is an India specific requirement, foreign investors are often puzzled by it. Similarly, the investor declaration can be problematic when it comes to certain details.

Stage 3: Post flight checks

Once the monies have been received, the transaction needs to be logged with all the right regulatory agencies.

●     Have they met all the RBI reporting requirements?

●     Have they filed these reports in time?

It looks simple, right? Unfortunately, it isn't. Based on whether the startup falls under the automatic or government approved route, the mode of investment used, the amount, the location and nationality of the investor, whether the investor is a person or a consortium or an institution, details of the investor and beneficial ownership declaration and the timing of the FIRC, the reports and the timing of the reports the RBI needs can differ.

Each business is unique, as is each funding round.

The Challenges

The trouble most startups have is that they are often navigating these with an army of advisors, each of whom is focused on just one aspect of the paperwork. The overall ownership rests with the startup founder(s) who usually don't come from regulatory backgrounds and the potential for missteps is huge. They don't know what they don't know! Moreover, most startups are partnered with banks who deeply understand the small business regulatory ecosystem. They may not be fluent in the ins and outs of the startup regulatory requirements.

For instance, DPIIT registered startups inherit several exemptions, but also have to file certain paperwork to ensure that these exemptions are applicable/enforced. They may also be eligible for certain benefits, which are not applicable to small businesses, and therefore, not on the bank's radar. Convertible Notes (CN), for instance, is a financial instrument available to startups alone, and one that suits their specific needs. If the bank isn't focused on startups, their knowledge of the regulations surrounding CNs is likely to be just a step up from the entrepreneurs themselves.

Loss of benefits aside though, these gaps in knowledge can also lead to some serious consequences: RBI imposes significant penalties, sometimes even several years down the line. Compliance issues with RBI involve hearings with the compounding authority, which then involves not just time and stress, but also expenses in legal and expert fees. They can also cripple the business down the line, preventing them from listing themselves on public exchanges, until these compliance issues are resolved.

The IDFC FIRST Bank Advantage

This is where IDFC FIRST Bank's focus on startups makes them the strongest partner in the business when it comes to navigating FDI. By way of a startup focused offering that guides startups through the regulatory aspects of raising funds through FDI, and helping them with pre-compliance and timely reporting; IDFC FIRST reduces the complexity and hassle involved with what should be a joyous time for any business.

By dedicating a single Relationship Manager (RM) to each startup, IDFC FIRST Bank ensures that all necessary parties are involved, and the paperwork is humming along as it should. The Structured Solutions group is focused on the ins and outs of the regulation involved in the receipt of money, and in helping startups navigate compliance issues if and when they arise.

The process begins with the Pre-Flight Checklist, continues through the actual transfer, and the Post Flight Checks mentioned above, ensuring that all compliances, reporting, KYC, India specific forms and requirements are met. A team of in-house experts pre-vets all the documentation to prevent instances of rejections, omissions and mistakes. They also help the startup with all the system logins and handholding they need to file their documentation to RBI.

On the investor side, the bank also handholds them in navigating their part of the process, helping them with their banking systems. Overall, this helps not only with the timelines from a compliance standpoint, but also with the transfer itself, as the bank knows how to navigate common hiccups that occur when foreign banks undertake these transfers for the first time.

Conclusion

For most startups, securing funding becomes a reason to celebrate not just because of the receipt of funds themselves, but for the validation of their business idea and business model. It gives them the ability to take their fledgeling idea closer to their ultimate aspiration.

By helping startups navigate this regulatory terrain with confidence, IDFC FIRST Bank ensures that the securing of funds remains a source of joy and pride, instead of becoming something that trips up a great business idea.

Moneycontrol journalists were not involved in the creation of this article.