Indian Unicorns Flying (Flipping) Away
October 21, 2021
India has been proud of its start-ups creating immense value and adding to the GDP of the country. Our start-ups could be a reason for envy of our competitors too. But our happiness remains short-lived when we find that they have not remained Indian any more. It is an unfortunate scenario that a large number of unicorns, which have developed their intellectual property (IP) using Indian resources (human, capital assets, government support etc.), in the last one decade, have either flipped abroad or have been incorporated overseas. By unicorns we mean high ticket start-ups who have attained investment of one billion US dollars or more. Flipping of an Indian company means a transaction where an Indian company incorporates a company in a foreign jurisdiction, which is then made the holding company of the subsidiary in India. The most favourable foreign jurisdiction for Indian companies, are Singapore, United States and United Kingdom. It is important to note that most of these flipped entities have operations and primary market in India.
These unicorns generally flip on the insistence of the foreign investors, with an objective to avoid Indian regulatory landscape. This process has been accentuated by the favourable policies adopted by the host countries, where these start-ups flip, that is, US, Singapore, UK etc. These unicorns have also been listing their shares overseas, with the assumption that valuations are higher due to deeper pools of investors in those countries.
First loss due to flipping is that of revenue. Flipping leads to immense economic and national loss as an Indian Company becomes a wholly-owned subsidiary of the foreign corporation despite 90%+ value creation from India, resulting in loss of all future tax on capital gains, public listing, operational profits etc.
Secondly, ownership of critical data as well as IP is transferred abroad: Various such companies hold critical consumer data and IP whose ownership essentially transfers abroad. Most of these companies are growing 100-200% annually and are increasingly capturing more and more critical consumer data. Flipping imposes a security threat on all critical data and also results in substantial loss of possible future value creation from all associated IPs of that company.
Thirdly, flipped start-ups circumvent Indian tax law and other legal regulations and gain unfair advantage over their domestic counterparts. It effectively becomes a structure to transfer value creation from India to overseas territories since most of the business is still being done in India with teams based here too.
Fourthly, due to foreign HQ structures, the Indian government can’t determine source of money backing these companies which can result in security issues for the nation in case war like activities arise in future. For example, money from neighbouring countries is only allowed in India-domiciled start-ups after the requisite approvals but overseas headquartered start-ups do not need any such approvals.
Fifthly, it gives unfair advantage to Foreign Investors: Foreign investors are keen to take advantage of India’s growing economy and flipping makes it possible for them to circumvent coming to the country (which they should have done). This sets in motion a vicious cycle then as more and more overseas investors start seeing flipping as a legitimate ask without concern of loss to India.
Sixthly, as these flipped start-ups will also list overseas, Indian public equity markets will lose depth. It becomes a way for foreign investors to gain from India’s wealth of resources and advancement by bypassing our laws and regulations. Flipping is the perfect example that India rolls red carpet to foreigners and show red tape to indigenous players. The foreign entities get exemptions during land allocations in various states, but indigenous players are left to fend for themselves. Flipped entity gets access to easy & cheaper access to capital and it’s much easier to take money out as well (using DTAA). Even Indian funds pay higher capital gains tax than their foreign counterparts investing in India. It’s argued that promoters of these start-ups needed options to exit from these businesses, and flipping their registered offices to US or Singapore gave them flexible options for exit, including listing on the NASDAQ. Now the argument is being made that this (flipping) needs to be reversed by allowing these start-ups to list their shares overseas, without even listening them domestically. This allows the access to NASDAQ, without the companies changing their domicile out of India. Argument is that with this more tech companies will get overseas capital. The underlying assumption is that Indian capital market system is ‘immature’, and hence we need to list our start-ups in a ‘more mature’ overseas market, to get them higher valuation.
Real question is, whether this argument of lack of maturity of Indian capital market or paucity of funds is a valid one? Lack of liquidity is being cited as the inhibiting factor in start-ups’ funding. This argument looks misplaced. Recently, an Indian unicorn Zomato came out with an Initial Public Offer (IPO), which was oversubscribed by several times. Motivated by Zomato, over ten tech companies have filed for IPO in India with a target market cap of $50 BB or ?3 lakh crores (out of the $150 BB total IPO Pipeline in India). So, who does this help when the nation is excluded?
There is need to overhaul the system, from policy, regulations, access to capital to push entities to register in India. The differential policies discriminating indigenous and attracting foreign entities need to stop.
However, to ultimately discourage Indian start-ups to flip, we need to take some tough measures as well, including declaring those who flip, a foreign company.