Working of

Private Equity
Firms
Presented by:
Sovit 126
Prathamesh Karvande 95
Apurva Sood 125
Aashray Vasa 129
Palak Saraf - 118
Nayant Manek 99

Private Equity - An
introduction
Source of Investment Capital
High Net worth Individuals
Investing and Acquiring Equity Stakes
Funds gathering from investors
Minority position in Firm
Target-not a Public Traded Company
Usually Public Entity Delists

4 Step- Process Cycle

There are four basic things private equityinvestors do
to earn money.
Raise moneyfrom Limited Partners (LPs) like pension
and retirement funds, endowments, insurance
companies, and wealthy individuals
Source, diligence, and closedeals to acquire
companies
Improveoperations, cut costs, and tighten
management in their portfolio companies
Sellportfolio companies (i.e., exit them) at a profit

Process of Acquiring a
Firm
Through LBOs
Buy all the shares if Public Listed
Money is used to buy out firms owners
Using the Funds to grow a firm
Paying off Debt of target firm
Private equity holder's control

Process of Raising Money

Getting Capital Commitments from external Financial
Institutions (LP)
1-5 % of their own capital
Road shows or Placement agent
First close vs. Final close.
First closewhen a certain threshold of money has
been raised, the PE firmcan begin making investments
and actually closing deals and new LPs can still join in
by committing capital for a limited time (e.g., 1 year
from first close).
Final closemeans that when a second threshold has
been reach, new LPs can no longer join in on that

Exit Stage-How Investors

make money?
ROI is generated through:
A) IPO
B) Merger or Acquisition-Sold either in cash
or sold through shares
PE generally buys :
Stable
Niche, Market Leading companies
Non-Cyclical industries

Private Equity Investment

Investo
Model
rs (2)
PE Firm (GP)

(LP)

Fun
d

Investo
rs (LP)

I
n
v
e
s
t

Stable

Profitabl
e

Growt
h

Princip
al+Hur
dle
Rate+
80%
Profits
Sold

Profits

Foreign Venture Capital

Investment Norms
SEBI FVCI Regulations,2000
a)
The foreign venture capital investor must disclose its investment strategy
and life cycle to SEBI, and it must achieve the investment conditions by the
end of its life cycle.
b)
At least 66.67% of the investible funds must be invested in unlisted equity
shares or equity linked instruments.
c) Not more than 33.33% of the investible funds may be invested by way of:
(i) subscription to initial public offer of a venture capital undertaking,
whose shares are proposed to be listed.
(ii) debt or debt instrument of a venture capital undertaking in which the
foreign venture capital investor has already made an investment, by
way of equity.

Contd..
iii)preferential allotment of equity shares of a listed
company, subject to a lock-in period of one year.
iv) the equity shares or equity linked instruments of a
financially weak or a sick industrial company (as
explained in the SEBI FVCI Regulations) whose shares
are listed.

FEMA(2000) (Transfer of
Issue of Security by a
Person Resident outside
India)
The consideration amount for investment

can be paid out of inward remittances from

abroad through normal banking channels.
Subject to RBI approval, a foreign venture
capital investor can maintain a foreign
currency or rupee account with an
authorized Indian bank

Contd..
Sectoral limits on Foreign investments in India
Print Media
Atomic Energy
Defense
Agricultural activities
Companies require permission of FIPB before issuing
shares to Foreign VC investors

Tax Consideration for Private

Equity Firms
The income of venture capital companies or funds set
up to raise funds for investment in venture capital
undertakings is tax exempt, if they are registered with:
i) SEBI
ii) In compliance with Indian government and SEBI
Regulations.
The income of such companies and/or funds will
continue to be exempt, if the undertaking in which its
funds are invested, subsequent to the investment, gets
listed on stock exchange.

Contd..
However, tax will be payable by the shareholders of or
withdrawers from the company or fund.
Private equity funds are exempt from withholding tax in
respect of income distributed to their investors. The
provisions of the IT Act regarding taxation on distributed
profits (dividend), distributed income and deduction of
tax at source do not apply to these funds.

SEBI-Alternative Investment Funds

(Amendment) Regulations, 2015
Newly created class of pooled in investment vehicles
AIFs are funds incorporated in India
For purpose of pooling in capital from Indian and foreign
investors for investing as per a pre-decided policy.
AIFs are primarily aimed at high net worth individuals
AIFs are private funds which otherwise do not come
under the jurisdiction of any regulatory agency in India.

Which of the following is included in

AIF?
Yes
No
1. Mutual Funds
2. Venture Capital Funds
3. Private Equity Funds
4. Hedge Funds
5. Funds managed by registered reconstruction Co.
6. Debt Funds
7. Infrastructure funds
8. Commodity funds

Alternative Investment Funds

Categories

AIFs are categorised into the following three category:

Category I AIF:
positive spillover effects on economy
certain concessions might be considered by SEBI or GOI.

Category II AIF:PRIVATE

EQUITY

no specific incentives or concessions are given.

do not undertake borrowing other than to meet the permitted day
to day operational requirements.

Category III AIF:

considered to have some potential negative externalities in
certain situations
Undertake leverage to a great extent
Trade with a view to make short term returns.Ex. Hedge Funds

Investment conditions and

restrictions

The PE funds under AIF may raise funds from any

investor whether Indian, foreign or non-resident Indians
by way of issue of units
Each scheme of the AIF shall have corpus of at least
twenty crore rupees
The AIF shall not accept from an investor, an investment
of value less than one crore rupees
(Employee/Director :25 lakh rupees)
Promoter shall have a continuing interest in the AIF of
not less than two and half percent of the corpus or
five crore rupees, whichever is lower
No scheme of the AIF shall have more than one
thousand investors

 Several financial services organizations have been

raising significant amounts of money from Indian HNIs
in PE funds. Some being:
Reliance
Birla Sun Life
ICICI
Kotak

Recent in News
Sep 2015: KKR India, the Indian arm of global private
equity firm KKR & Co. Lp, is looking to raise AIF of at
leastRs.1,500 crore which will be used to offer credit
solution to Indian companies
KKR India is raising the new fund at a time when
demand for funding from non-bank sources is rising for
reasons ranging from the
Constrained capacity of traditional state-owned lenders to the
Risk aversion that has seeped into the banking sector due to a
growing pile of bad loans.
To seek credit offerings tailored to their needs even if these
come at a slightly higher cost.

Investment
schemes/vehicles &
structure of pooling of
money under Private
Equity

Investment schemes/vehicles
A private equity fund is a collective investment scheme used
for making investments in various equity (and to a lesser extent
debt) securities according to one of the investment strategies
associated with private equity.

Contd..
In a pledge fund, the investors provide a loose commitment of
capital to an investment team, the manager of the fund, to make
investments within certain preset parameters. Thereafter, the
investors must approve each transaction and will decide whether
to pursue each transaction independently.
A venture capital trust or VCT is a highly tax efficient closedend collective investment scheme designed to provide private
equity capital for small expanding companies and capital gains
for investors.

Choice of Pooling Vehicle

The AIF Regulations contemplate the establishment of
funds in the form of a trust, a company, an LLP or a
body corporate.
The move by the Reserve Bank of India (RBI) to allow
foreign investment into alternative investment funds
(AIFs) through the automatic route is likely to boost
inflows.

Domestic Funds
For domestic venture funds (in which the funds are
raised within India), the structure that is most
commonly used is that of a domestic vehicle for the
pooling of funds from the investors and a separate
investment adviser for carrying on asset management
activities.

Structuring India-focused Offshore

Funds
Private equity and venture capital funds typically adopt
one of the following three modes when investing into
India:
(1) direct investment in the Indian portfolio company,
(2) direct investment in an Indian investment fund
vehicle or
(3) co-investment alongside the domestic fund vehicle
directly in the Indian portfolio company.

Pure Offshore Structure

Unified Investment Structure

Co-investment/Parallel Investment
structure

Hedge Funds
A hedge fund is an investment fund that pools capital
from a limited number of sophisticated individual or
institutional investors and invests in a variety of assets,
often with complex portfolio construction and risk
management techniques.

Hedge Fund Strategies

1. Equity market neutral: These funds attempt to identify overvalued and undervalued
equity securities while neutralizing the portfolios exposure to market risk by combining
long and short positions.
2. Fixed-income arbitrage: These funds attempt to identify overvalued and undervalued
fixed-income securities (bonds) primarily on the basis of expectations of changes in the
term structure or the credit quality of various related issues or market sectors. Fixedincome portfolios are generally neutralized against directional market movements
3. Merger arbitrage: Merger arbitrage, also called deal arbitrage, seeks to capture the
price spread between current market prices of corporate securities and their value upon
successful completion of a takeover, merger, spin-off, or similar transaction involving
more than one company. In merger arbitrage, the opportunity typically involves buying
the stock of a target company after a merger announcement and shorting an appropriate
amount of the acquiring companys stock.
4.Hedged equity: Hedged equity strategies attempt to identify overvalued and
undervalued equity securities. Portfolios are typically not structured to be market,
industry, sector, and dollar neutral, and they may be highly concentrated.

Hedge Fund Structure

Types of investors
Fund managers can only accept investment capital from
accredited investors or qualified purchasers, including:
Investors
1. Public employee retirement plans
2. Corporate employee retirement plans
3. University endowments
4. Foundations and non-profit organizations
5. Family offices and high-net-worth individuals.

Prime Broker
A brokerage firm provides multiple services to a hedge
fund that are beyond the scope of those offered by a
traditional broker, such as:
Clearing and Settlement of Securities Transactions
Financing
Recordkeeping
Custodial Services (oversight of subscription and
redemption order processing)
Research Capabilities

Executing Broker
An executing broker is a type of financial dealer or
broker that is accountable and responsible for the
completion and processing of an order that is requested
by a client.

Organizational Structure
The typical hedge fund structure is really a two-tiered
organization.

Organisational Structure
The general/limited partnership model is the most
common structure for the pool of investment funds that
make up a hedge fund. In this structure, the general
partner assumes responsibility for the operations of the
fund, while limited partners can make investments into
the partnership and are liable only for their paid-in
amounts.

Fee Structure
Management Fee- 1-2%
Incentive Fee - 10-20% of fund profits. The idea of the
incentive fee is to reward the fund manager for good
performance. Managers only collect an incentive fee
when the fund is profitable, exceeding the fund's
previous high - called a high-water mark. This means
that if a fund loses 5% from its previous high, the
manager will not collect an incentive fee until he or she
has first made up the 5% loss.

Graphical Fee Structure

History
Prior to 2007, the SPV route was available but was not
popular as today. Although Mauritius was widely used for
investments into India, the Mauritius SPV was not attractive
for the following reasons:
P- Notes for Indian Markets was popular at that time.
Therefore hedge Funds were getting Indian Exposure by
buying P- Notes.
SEBI was granting sub-Account FII very selectively and was
excluding hedge fund managers.
The Finance act 2008 came into force and SPV was again
included in the definition of an Investment Company. SPVs

Using a Mauritius SPV

The Mauritius Special Purpose Vehicle(SPV) is becoming
increasingly popular in Master-Feeder Structures.
This is mainly attributed to Mauritius having a good
treaty network and to the ease and cost of operation in
Mauritius.
SPVs are licensed by Financial Service commission
(FSC) in Mauritius as a category 1 Global business
company under the financial services act 2007 and are
incorporated under the companies act 2001.
The SPV can be set up with multiple classes of shares
denominated in more than one currency.

Structure

Setting up an SPV
The SPV needs to be approved by the FSC before it
commences business. In considering an application ,the
commission needs to be satisfied about the following:
The track record and credentials of the feeder CIS;and
The investment objectives of the SPV and the market
targeted.
A condition for the obtention of a Category One Global
business License is that the SPV must be controlled and
managed from Mauritius.
The SPV must have at least two Local Directors, maintain its
Principal bank Account in Mauritius, keep its accounting

TAX Benefits
Capital Gains Tax
The DTA transfers the taxing rights on capital gains to the
country of residence of the seller, ie Mauritius. Mauritius
having no capital gains tax, a complete exemption of capital
gains tax is obtained on sale of shares of Indian companies
by a Mauritius entity.
Dividend Withholding Tax
The Tax Treaty caps the dividend withholding tax for
substantial shareholdings to five per cent. Although India has
abolished dividend withholding tax, it should be noted that
the Indian tax authorities have done so twice in the past

Royalties Payable to non-Resident by Category one

Global Business Company are tax free
Dividends derived from Mauritius by non resident
companies are tax Free

Taxation of SPVs
An SPV set up to undertake global activities, i.e.
activities conducted outside Mauritius, may apply for a
Category 1 or Category 2 Global Business Licence
(GBL). An SPV structured as a PCC, Socit or Trust may
only apply for a Category 1 GBL. When organized as a
private company, an SPV may apply either for a
Category 1 or a Category 2 Global Business Licence. An
SPV holding a Category 1 Global Business Licence is
taxed at the corporate rate of 15%, but through a
generous mechanism of automatic tax credits of 80%
the tax rate is brought down to a maximum of 3%. On
the other hand, an SPV holding a Category 2 Global

Key Advantages of a Mauritian SPV

Mauritius has a number of features which make it an
attractive jurisdiction for the location of SPVs. These include
the following:
A plethora of SPV structures
Timing of establishment 3-7 business days
Minimum capitalisation
Legal system hybrid (common and civil)
No thin capitalisation rules
Low/Nil Corporate Taxation