Venture Capital Fund, Angel, SME and Social Venture Funds Compared

A venture capital fund pools committed money and pays it into unlisted companies at rounds, taking a minority holding. Angel funds, small and medium enterprise funds and social venture funds sit in the same registration category and differ in whose money they take, what they may hold and what purpose they state. The conditions attaching to each are set by the Securities and Exchange Board of India at sebi.gov.in, and they change.

Four names, one registration category, and almost every reader arrives wanting the same thing: a small table with a number in each row. How much money is required. How many investors are allowed. How long it runs. Each of those numbers belongs somewhere else. Every one of those numbers is a condition set by a regulator, true on a date, in a place, until it is amended, and any reference that prints one is printing something that will quietly become wrong while the reader goes on quoting it. The part that does not go out of date sits underneath all of them: what each of the four vehicles is for, how its shape differs from the other three, and how the four can be told apart with a document in hand and nothing else.

Nilgiri Venture Fund I, an invented venture capital fund, is registered as a Category I Alternative Investment Fund and has Rs 1,50,00,00,000 of commitments and eighteen investments. One of those eighteen is Aravalli Learning Systems Private Limited, an invented company. Every rupee and share count below belongs to those two.

What does a venture capital fund actually do with the money it raises?

Consider a familiar sequence. A neighbour who runs a wedding catering business tells four people she needs money for a second kitchen. The four agree, in principle, over three separate conversations across a month. Nobody hands over anything that day. Six weeks later the lease is signed and she calls each of them and says, now. The gap between the promise and the transfer is not sloppiness. Nobody wants money sitting in somebody else's account doing nothing while a lease is negotiated, so the gap is the whole design.

A venture capital fund runs on exactly that gap, at scale and in writing. Investors sign a commitmentA signed promise to pay money to a fund when the fund asks for it, rather than a transfer made on the day of signing.. A commitment is a promise to pay up to a stated amount when asked. The manager then makes a capital callThe fund asking its investors for part of what they promised, usually because it has an investment to pay for. when there is something to pay for. Nilgiri Venture Fund I has Rs 1,50,00,00,000 of commitments. The Rs 1,50,00,00,000 is what has been promised to the fund rather than what the fund has received, and it is the denominator every fund-level percentage below is measured against.

How Venture Capital Funds Work, from a signed promise to a payment out

Five steps, in order, and none of them can be skipped or reordered. Investors commit. The fund calls part of what was committed. The fund pays that money to a company in exchange for newly issued shares, at a price struck in a round. The fund then holds those shares for years at a time while the company does whatever it is going to do. And the fund returns cash to its own investors only when somebody buys the shares.

The last step is where most misunderstandings of this vehicle live: there is no coupon, no repayment date and no schedule of any kind between step three and step five. A loan pays interest on dates written into the agreement. A bond has a maturity. A minority equity holding in an unlisted company has neither. So a fund that has paid Rs 4,50,00,000 into a company has, from that moment until somebody buys those shares, nothing whatsoever to pass on. The money is not slow. No payment has been promised by anybody.

What does the worked case look like when one holding is set beside the whole?

Nilgiri Venture Fund I put Rs 4,50,00,000 into Aravalli Learning Systems Private Limited at Aravalli's seed round. The payment bought 15,00,000 shares at Rs 30.00 each. Check that multiplication rather than assume it: 15,00,000 multiplied by Rs 30.00 is Rs 4,50,00,000. After that round Aravalli had 1,00,00,000 shares in issue, so 15,00,000 of them is 15.0 per cent of the company.

Now the same Rs 4,50,00,000 seen from the other end. Against the fund's Rs 1,50,00,00,000 of commitments, Rs 4,50,00,000 is 3.0 per cent. One cheque, two entirely different percentages, and neither is wrong. The rule that keeps this straight is boring and absolute: never write a percentage without saying what it is a percentage of. Fifteen per cent of Aravalli. Three per cent of the fund's Rs 1,50,00,00,000 of commitments. The moment either denominator is dropped, the two figures start getting swapped by anybody reading at speed, and swapping them is the commonest arithmetic mistake made with private holdings.

One more thing about that 3.0 per cent, and it matters. The Rs 4,50,00,000 is 3.0 per cent of what was promised to the fund, not of what the fund has actually paid out to companies so far. Promised money and deployed money are different denominators, and the deployed figure moves every time the fund pays for something. A private fund position quoted as a percentage, with no statement of whether the base is commitments or money already deployed, is not yet an interpretable figure.

What is an angel fund, and how is it different from an angel writing a cheque?

Think about two ways a group of neighbours pays for a shared water tank. In the first, six people each hand cash to the plumber and each gets a receipt. In the second, they open one account, put money in it, and one of them signs for the tank. The tank is identical either way. Everything about who decided, who signed, who is answerable and what a stranger reading the paperwork later will see is completely different.

Angel Fund: whose money it is, and who picks each investment

An angel fundA pooled vehicle through which individuals invest in unlisted companies, typically choosing one investment at a time rather than handing over a general mandate. is the second arrangement, formalised. An angel fund is a pooled vehicle, registered like the other three, and the money in it belongs to individuals rather than to institutions. The structural difference that matters is not where the money comes from but who chooses. In a venture capital fund the investors sign a mandateThe written description of what a fund may invest in, agreed before the money is committed, inside which the manager then chooses freely. and the manager then picks the investments inside it. In an angel fund the individuals typically look at one investment at a time and decide on that one.

So the two vehicles differ on where the decision sits, and everything else about them, the committing, the calling, the buying of shares and the returning of cash, is the same plumbing running in the same order. That is why it is useless to think of these as different investment styles. A venture capital fund and an angel fund are two arrangements for who says yes.

Why are the six individuals on Aravalli's register not an angel fund?

Aravalli's share registerThe company's own list of who holds its shares and how many, kept by the company rather than by any exchange. after the seed round carries a line for an angel syndicateA group of investors acting together on one deal without necessarily being a single legal vehicle. of six individuals: 5,00,000 shares, bought for Rs 1,50,00,000 at the same Rs 30.00 a share, being 5.0 per cent of the 1,00,00,000 shares then in issue. Check it: 5,00,000 multiplied by Rs 30.00 is Rs 1,50,00,000, and 5,00,000 of 1,00,00,000 is 5.0 per cent.

Six people, one row, and the row is very tempting to point at and call an angel fund. The row does not support that reading. Being several individuals who invested together is a shape that appears on a share register. The row records that six people reached the same decision and that their holdings ended up grouped. An angel fund is a registered vehicle, and whether any particular group of people becomes one is a question about conditions set by the Securities and Exchange Board of India at sebi.gov.in, and those conditions change. The register shows a shape. A shape is not a registration.

What is a small and medium enterprise fund for?

Here the difference is not about who decides but about what may be bought.

SME Fund: what it is permitted to hold

A small and medium enterprise fundA pooled vehicle whose permitted holdings are enterprises of the size its name describes, with the size itself defined by the regulator rather than by the fund., or SME fund, is a pooled vehicle whose permitted holdings are enterprises of the size its own name describes. The size is defined by a regulator. The restriction shapes the vehicle in a way that stays true whatever the definition says this year.

A restriction on what may be held is a restriction that binds at the moment of buying, not afterwards. A fund that may only buy companies of a certain size does not stop being able to hold one that has grown past it. The point is structural and worth sitting with. A permitted-holdings rule shapes what a manager goes looking for far more than it shapes what the vehicle ends up with. A permitted-holdings restriction is a filter on the entry gate. Entry is the only moment at which a pooled vehicle chooses anything at all, so the filter on that gate is the strongest constraint it has.

Compare it with the neighbourhood again. A committee that has agreed it will only fund repairs under a stated value is constrained the day it approves a job, not the day the job turns out to have cost more. The agreement bites once, at the start.

What is a social venture fund, and what does a stated second objective change?

Social Venture Fund: a second objective, stated and reported

A social venture fundA pooled vehicle whose stated purpose carries a social objective alongside the financial one, and which reports against both. is a pooled vehicle that has written a second objective into its own purpose: a social one, sitting alongside the financial one, rather than replacing it. The interesting question is what that actually changes about the machine, and the honest answer is narrower than most people expect.

A social objective does not change how money is committed. The calling, the buying of shares, the years of holding and the return of cash are all untouched. Every step in that five-box chain runs identically. A stated second objective changes what the vehicle measures and what it reports against. The change is genuine rather than cosmetic. Anything measured and reported has to be defined before the money goes in.

Consider a school building fund that has said, in writing, that it exists to build classrooms in a particular set of villages. The money is raised the same way as any other building fund. The difference is that somebody now has to say, at the end of each year, how many classrooms and in which villages, and that obligation reaches backwards into how each project is chosen. The reporting duty is not an add-on at the end. Nothing can be reported against something that was not defined before the work began, so the duty is a constraint that arrives at the start.

What do all four have in common, and who sets the conditions attaching to each?

Set the four side by side and the shared part is much larger than the different part. All four are pooled vehicles. All four take money as a promise and call it when needed. All four buy shares in companies that have no exchange quotation. All four return cash by selling. The differences sit in four narrow places: whose money it is, who picks each investment, what it may hold, and what purpose it has stated. And there is a fifth row, identical in all four columns. The fifth row is where the conditions attaching to each of them live.

The Securities and Exchange Board of India, at sebi.gov.in, registers these vehicles and sets the conditions attaching to each category. The conditions are read there, in their current text, on the day they are needed. The four sit together because they are the ones most often set against each other; the four are not a complete enumeration of the categories, and the list may not look the same next year.

Why must a category's conditions be read at source?

Because a condition set by a regulator has a shelf life, and nothing in a written copy shows when it expired.

How is a venture portfolio built, and why can a position in it not be trimmed?

Ten shops in one shopping arcade, each bought outright by the same owner. Ten shops owned outright are closer to a venture portfolio than anything on a stock exchange is. Notice what the owner can and cannot do on an ordinary Tuesday. She cannot sell a quarter of the third shop. She cannot decide that the fifth shop has become too large a part of what she holds and shave a bit off it. She can sell a whole shop if a buyer turns up. A buyer does not turn up on a Tuesday because somebody feels like it.

Nilgiri Venture Fund I holds eighteen investments. If those eighteen were equal in size, each would be one eighteenth of the whole. One eighteenth is 5.5556 per cent, written 5.6 per cent. Aravalli's actual Rs 4,50,00,000 is 3.0 per cent of the fund's Rs 1,50,00,00,000 of commitments, and 3.0 is not 5.6, so the positions are plainly not equal in size. The equal-size figure is an illustration used to isolate one relationship, and it is never a description of this or any fund.

Between rounds there is nobody buying part of a private holding, so the sizing decision at entry is the only sizing decision there is. A position weightOne holding measured as a share of the whole, which is meaningless until the whole is stated. in a listed portfolio drifts every day and can be pushed back wherever the manager wants it. A position weight here moves for one reason only: the company issues new shares to somebody else at a new price, and the existing holders all become a smaller share of a larger total. The manager has not done anything. Something has been done to the manager.

What does a position weight mean when there is no daily price to weight it by?

A weight with no daily price behind it separates people who have handled private holdings from people who have only read about them. In a listed portfolio, weight is computed from prices that exist. Every holding has a number attached to it this morning, so the weights add to one hundred and they are recomputed continuously without anybody doing anything.

In a private portfolio, the markThe value at which a holding is carried in the books between the events that actually price it. on an unlisted holdingShares with no exchange quotation, so no price exists for them between one funding round and the next. sits still between rounds because nothing has happened to move it. The business may be transformed, and the mark does not know. Then a round happens, a price is struck by somebody putting money in, and the mark jumps. So weights in a private portfolio move in steps, at moments chosen by other people, and they are flat in between. The step pattern is not a defect in how these holdings are valued; it is what a value looks like when the only price-setting event available is somebody else buying newly issued shares.

An unlisted holding cannot be sold at will, and that inability is a property of the holding rather than an inconvenience. Ang sets it out that way in Asset Management, 2014.

One caution about that ratio. Anybody who checks it will find that it appears to fail. Dividing the rounded figures, 5.6 by 0.2, gives 28. The ratio is 27.8 because it is computed from the unrounded weights: one eighteenth is 5.5556 per cent, not 5.6, and 500 divided by 18 is 27.7778. Both roundings are honest and they disagree by two tenths. The ratio is derived from the counts rather than from the printed percentages for exactly that reason.

Why does a venture portfolio look nothing like a portfolio of listed shares?

How Venture Capital Fund Portfolio Construction Differs From Public-Market Portfolios

Four differences, and all four come from one fact rather than four. The fact is that a listed share has a price every day and an unlisted one does not.

Follow it through. Because there is a price every day, somebody will trade at it, and part of a holding can therefore be sold. Because part of a holding can be sold, weights can be pushed back to wherever they were chosen to be, and pushing them back is rebalancingSelling some of what has grown and buying more of what has not, so the chosen weights are restored.. And because there is a price every day, the carrying value moves continuously rather than in jumps. Take the daily price away and all four properties disappear at once. The four are one difference wearing four coats rather than four separate things to remember.

A listed fund sits just outside all of this. A listed vehicle has an exchange quotation, so its holder gets the daily price, the part sale and the changeable weight that none of the four vehicles offers. One sentence is the whole contrast, and listed vehicles are set out under their own heading.

What does all this change for the people who work near these vehicles?