Yesterday I had written an article on Hedge funds in India. I received a few comments about how hedge funds differ from venture capital firms in India.
The most basic difference:
The manager of the hedge fund has complete authority in terms of how and where he wants to deploy the money collected from investors. In comparison venture capital firms will invest in young/ start up companies at different stages of their maturity (i.e.venture capital money goes into financing unlisted companies).
Note that unlike mutual funds, hedge funds manager can deploy the money pretty much anywhere including in unlisted companies. To that extent, hedge fund managers could act as venture capital firms but not the other way around.
Further, venture capital funds will have the partners participating actively in the management of the funds. They will sit on committees and the board of the fund to talk to young businesses about their business plans. They actively participate in where to invest and when to exit. The exit comes when the start-up company reaches the stage of an Initial Public Offering (IPO), or when a bigger company wants to buy out the investment / share of business.
Private Equity vs Hedge Fund vs Venture Capital Firms
Another category of firms, similar in nature to venture capital firms are the private equity firms. The big difference in this case is that private equity firms will typically invest in companies which are either struggling or need restructuring, whether listed or unlisted. These companies have an operating history but are available for acquisition cheap – think ‘distressed sale’. Venture capital is more about giving direction to young businesses. It’s about dealing with people who have no experience of running a big business. Just to complete the story – hedge funds are about making quick money by empowering one manager to handle the entire fund and take quick decisions. A hedge fund manager will invest in futures, options, commodities or any other crazy liquid and fast moving instrument with just one goal – fast money. The risk is naturally high to very high!
Taxation & Structure – There are many different structures based on the type of firm/ partnership/ company which you plan to incorporate. A good tax attorney should be consulted before finalizing the structure. Many considerations have to be paid close attention to here – domicile of investors (or most of the investors), where is the fund likely to pre-dominantly invest, tax treaties with the country of incorporation etc.
In general – all such funds are subject to favorable tax treatment in most jurisdictions from which they are managed. You can see this Wikipedia post on this topic which will give you a fair idea about this aspect.
List of registered venture capital funds in India – http://www.sebi.gov.in/investor/venturecap.html
Nice illustration of the differences between private equity, hedge fund, and venture capital !