India's Over-Regulated Startups Miss Out as U.K. Woos Local Moneymen

Photographer: Manjunath Kiran/AFP via Getty Images

Indian school students assemble a robot before programming it to perform tasks at the Sir M Visvesvaraya Industrial and Technological Museum as part of the launch of an 'Innovation Hub' in Bangalore on Dec. 5, 2013. Some of India's investors are frustrated by intense regulation and bureaucracy which threaten to stifle a burgeoning generation of entrepreneurs. Close

Indian school students assemble a robot before programming it to perform tasks at the... Read More

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Photographer: Manjunath Kiran/AFP via Getty Images

Indian school students assemble a robot before programming it to perform tasks at the Sir M Visvesvaraya Industrial and Technological Museum as part of the launch of an 'Innovation Hub' in Bangalore on Dec. 5, 2013. Some of India's investors are frustrated by intense regulation and bureaucracy which threaten to stifle a burgeoning generation of entrepreneurs.

On Prime Minister David Cameron's recent trip to India, he announced that the country's largest group of angel investors was persuaded to expand to the U.K. Along with early stage venture financing, the Indian Angel Network has promised that startups in the United Kingdom will have access to all of the resources provided by its network of more than 250 investors.

"Whatever is required -- whether it be talent, knowledge or customers -- we will try to provide that to our investee companies," IAN President Padmaja Ruparel said in an interview.

While that's great news for digital hubs such as London's Tech City, entrepreneurs in India must be asking: What about us? As the U.K. government successfully pushes for startup investments in its country, the Indian government is drawing criticism for stifling its innovative spirit.

This year, Ernst & Young's entrepreneurship barometer found that, of the G20 nations, only Argentina has a less favorable taxation and regulatory environment. Separately, World Bank research found that globally there are just ten countries where it is more difficult to start a business than in India.

"It's not the government's intention, but they sometimes make it very hard for small ventures," serial Indian entrepreneur and angel investor Ravi Gururaj said. "The government pays little attention to startups when formulating policy. We're seen as collateral damage."

A case in point is last year's "startup tax."

In its 2012 budget, the Indian government introduced a rule that when a company receives a cash investment from an Indian resident, which exceeds the "face value" of the stake in the company being purchased, the "premium" paid by the investor could be considered as income that's taxable at a rate that currently stands at 30 percent.

New ventures often depend on angel investment, in which early stage financing is provided on the basis of unrealized potential, and policies such as these can cut their lives short.

"Bureaucracy is a problem for every business in India," Gururaj said. "But our startups are impacted even more by these issues because of their lack of resources."

Of course, the Indian government isn't ignoring entrepreneurship, and it has sought to support the industry. This year, with assistance from the World Bank, it allocated about $360 million to set up 15 technology-development centers.

But the government would be better off turning its attention elsewhere, according to the former chairman of Microsoft India, Ravi Venkatesan.

"Instead of focusing on incentives for startups, the government just needs to reduce the amount of regulation," Venkatesan said. "It's a ferociously hard place to do business."

India's departments of commerce and finance did not immediately respond to requests for comment.

What some of the country's investors find so frustrating is that intense regulation and bureaucracy threaten to stifle a burgeoning generation of entrepreneurs who are breaking free from cultural shackles.

"We're no longer seeing stigma attached to failure," Venkatesan said. "It was previously a deterrent, now it's a badge of honor. More and more young people are willing to take a risk."

The demographics are also shifting in its favor. India has a rapidly growing young adult population, with more than 600 million people now under the age of 25.

"There's clearly growth in entrepreneurship," says Srikrishna Ramamoorthy, a partner at Unitus Seed Fund. "There's a rapid rise in the number of young people in the country -- a million people turn 18 each month."

The threat of missing this huge opportunity has spurred a group of India's most prominent angel investors into action. Leaders of several angel groups are in the process of formally establishing the Angel Association of India. The AAI will seek to represent and promote the interests of the angel community, in an effort to ensure more favorable investment conditions.

"The regulations imposed by the government make it less likely that international investors will come into India," Gururaj, one of the AAI's founders, said. "They will look elsewhere until we make it much easier for them."

If the AAI can lobby its government effectively, David Cameron's next visit may not be so successful.

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