Earlier this month, the Ministry of Commerce and Industry announced the launch of a second fund of funds (FoF 2.0) to accelerate capital allocation for the startup ecosystem, especially deeptech and manufacturing ventures. The FoF scheme has a combined corpus of ₹10,000 Cr to be invested in SEBI-registered category I and II AIFs. These AIFs will in turn invest in equity/equity-linked, and debt instruments of various DPIIT-registered startups.

“This approach is expected to ensure disciplined capital allocation, crowding-in of private investments, and wider access to funding across sectors, stages, and geographies,” the department said in a statement.

Last week, the DPIIT notified the operational guidelines for the scheme, laying down the mechanisms for fund disbursal, segmentation of AIFs and their selection procedure, along with constitution of the overseeing bodies.

Let’s take a detailed look at the guidelines for implementing Startup India Fund Of Funds 2.0.

Who Will Oversee The FoF?

The Small Industries Development Bank of India (SIDBI) will act as the implementation agency (IA) for fund of funds 2.0. It also acted as the IA for the first FoF launched by the DPIIT in 2016. The DPIIT will also select another domestic IA in the near future to expand the FoF’s reach, enhance sectoral expertise, and build institutional capacities for its management.

The IA will be responsible for monitoring and ensuring necessary compliance with the operational guidelines issued by the DPIIT, which includes intended segments and parameter requirements for private placement memorandums. It will also be expected to have representation on the advisory boards or limited partner advisory committees of the selected AIFs for ensuring their compliance with the fund’s objectives.

The IA will further determine the operational and procedural aspects relating to funding and investment by the AIFs supported under the scheme. This would include submitting a detailed annual report on the fund’s utilisation, including details on the selected AIFs and the companies they invested in, net asset value of the investments and other details required by the DPIIT.

Notably, the department has directed the IA to create a framework for oversight specifically aimed at protecting startups and founders benefitting from the scheme. This will include maintaining information like intellectual property rights, equity dilution, and other governance parameters for funding support through AIFs. This will ensure standardisation, transparency, and prudent capital deployment, along with ensuring that investments are aligned with the scheme’s broader intent.

Apart from the IA, the DPIIT has also formed a Venture Capital Investment Committee (VCIC) to screen, review and recommend proposals received by the IA, along with hosting startup pitches.

The committee includes investment banking group Enam’s cofounder Vallabh Bhansali, former IIT-M professor and chairman of its research park Ashok Jhunjhunwala, former department of biotechnology secretary Renu Swarup, MIT researcher Chintan Vaishnav, and former TCS CEO Rajesh Gopinathan, along with representatives from the IA.

The DPIIT secretary will additionally chair an ‘empowered committee’, which will monitor the implementation and performance of the scheme and provide appropriate guidance to the VCIC and the IA. The IA will also ensure that third-party evaluations by a reputed independent agency are carried out every five years.

What Is The Selection Procedure For AIFs?

SEBI-registered category I and II AIFs can apply for FoF 2.0. The DPIIT has laid out operational guidelines for the size, focus and investment thesis of eligible AIFs. The structured segmentation of AIFs and well-defined parameters for mobilisation of the funds will ensure that capital is directed towards priority sectors while maintaining market discipline, as per the department.

The selection process has been divided into two stages. In the first stage, the IA will seek proposals from AIFs and conduct due diligence based on the operational guidelines to shortlist eligible funds.

Post this, the VCIC will consider the proposals for screening and recommendation, giving weightage to funds managed by experienced professionals with proven track records for funding. The AIFs will have to make detailed presentations to the VCIC for consideration under the scheme.

In the second stage, the proposals recommended by the VCIC will be reviewed by a sub-committee of the IA’s board for sanctioning of funds. Once sanctioned, the committee will issue a letter of intent, and sign a contribution agreement with individual AIFs.

The department noted that the fund of funds will give consideration to AIFs providing support to startups operating in non-metros to deepen investments in the startup ecosystem beyond Tier I cities.

How Will Capital Allocation Be Structured?

The FoF 2.0 will act as an umbrella framework for co-investment of additional funds for specific domains by various government ministries and departments along with institutional investors. This will allow the fund to act as a catalyst for private-capital deployment and enable a multiplier effect. The empowerment committee will recommend the manner and guidelines for undertaking these co-investments.

However, the total allocation to each selected AIF, including that from various FoFs maintained by state and central ministries, can’t exceed 50% of the AIFs total corpus. The VCIC can maintain a lower limit based on market assessment.

The AIFs can only utilise money raised from the FoF toward funding DPIIT-registered startups. However, if an AIF has not disbursed the entire amount committed to a startup before it was recognised by the DPIIT, it can release the balance amount and further capital from the FoF corpus once the startup has been recognised.

Disbursements from the DPIIT to the IA will be based on an annual projection basis, as per the anticipated drawdowns submitted for each financial year to the DPIIT by the IA. It will also have to credit interest based on the prevailing repo rate for any unutilised funds.

Around 5% of the capital distributed through the FoF, including capital redeemed and returns earned, will be invested in capacity building of the startup ecosystem. This includes activities such as sensitisation, workshops, plug and play shared facilities, mentorship, and regulatory support. The remaining funds will be deposited back to the Consolidated Fund of India.

The operational costs of the IA will be capped at 0.5% per annum of total commitments to AIFs and outstanding (net-off capital redemptions). The costs will be debited to the fund at the beginning of each half year out of the scheme’s total corpus.

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