Research

Valuation Reset: Who are the gainers and losers?

by Sandeep Kumar

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From a year of record funding to valuation check, how have things changed?

For any startup, raising funds is an inevitable part of the journey, and it highly depends on how the company is valued. VC funding sky-rocketed in 2021 with over $643 Bn going into global venture investment. This marked a 92% growth compared to the previous year. Consequently, we witnessed more than 10 new unicorns being minted each week on an average, adding around $1.8 Tn in value.

The amount of funds that went to higher-risk, early-stage startups was notable in 2021 as it witnessed almost 100% YoY growth in early-stage funding, with $201 Bn in about 8,000 startups. However, the good times do not seem to continue in 2022. Often, startups overvalue themselves in order to raise funds without giving up much of their equity. This may be detrimental in the long run — in case the company struggles to meet the expectations of the investors, it will have to raise funds at a lower valuation in the future rounds. Moreover, external factors like geopolitical tensions, inflation, underperforming IPOs and public markets have also affected the startup valuations. Through this article, we try to understand the different reasons for the decline in valuations and the kind of impact it could have on investors and startups.

Source: Crunchbase

Valuation reset for overvalued tech unicorns

After the hyped market in 2021, venture capitalists are now renegotiating their deals. As reported by WSJ, Tiger Global Management which has been one of the most prolific startup investors is renegotiating the investments for several companies, reducing the valuations by more than 20%. Manhattan Venture Partners also noted a nearly 10% plunge in the stock purchases of certain private companies in the first month of 2022. Some high-growth startups are even scaling back the funding rounds or delaying their IPOs that could value them lower than expected.

Let’s have a look at some recent examples where startups have been revalued by the investors or have themselves reset their valuations.

  • Philadelphia-based growth startup, Dbt Labs Inc, scaled back its funding round that valued it at around $4 Bn instead of the initially negotiated $6 Bn.
  • Fidelity, which has an investment in fintech giant Stripe, recently marked down the value of the company by over 9%.
  • The delivery giant, Instacart slashed its valuation by about 40%, valuing the company at $24 Bn down from its earlier valuation of $39 Bn.
  • Startups like OYO and Pharmeasy, who were preparing to go public are now considering downsizing their IPO valuations considering the market conditions.

The effect of tech sell-offs in public market is also visible in the private secondary market as there is a heightened interest in selling shares at a discounted price, typically 10% — 30% lower than the last quarter of 2021. With fewer IPOs, shareholders are looking for liquidity solutions in the secondary market, ready to sell their shares at a discount.

VC pull-back and a shift in focus

As market correction started happening in the public markets, its effects have been trickled down to the private market as well. As a result of huge tech sell-offs and dropping valuations in the public market, many VC firms have tightened their grip on startup funding as well. Investors are rechecking the startups’ valuation at a lower level to account for the pressure on the public peers. Firms like Tiger Global Management and D1 Capital have pulled back from investing in late-stage startups. The growth stage and later-stage funding seem to be stagnated. At times like these, some startups may be in desperate need of raising funds, so they will have to lower down their valuation expectations to be able to raise some cash. Meanwhile, startups that had raised huge rounds last year are being advised to use their funds wisely and prepare for even worse times.

The plunging tech stocks facilitated by inflationary concerns and rising interest expectations added to the pessimistic lending behaviour. The stocks of public companies, which typically guide the valuation of startups, saw a decline in valuation. By the end of January, companies that went public last year were down an average of 32.6% since their listings. Less proven companies performed even worse. Not only did the drop hold back investors, but also delayed the startups from going ahead with the IPO. The reset in startup valuations was well predicted, but what is surprising is that historically there has always been a long lag in the private market’s reaction to a public market slowdown, now it’s much faster.

However, things are not the same for all the sectors. While consumer businesses have taken more brunt of the pullback, companies dealing with blockchain, cryptocurrency, and cybersecurity have continued to attract VC interest. Despite the tight funding hand, investors’ focus has been shifted to seed and early-stage startups. The risk may be high with early startups and they are far away from taking a meaningful exit, but they allow investors to write smaller checks that could still give them some returns.

How is the valuation reset going to impact the stakeholders?

A drop in valuations is a double-edged sword. Investors may welcome the dip in valuation as it would mean that they would get new deals at a meaningfully lower value. VCs would love to offer lower prices on new deals, but also want their existing portfolio companies to be marked up in subsequent rounds. There is also a significant chance that the public companies, that guide startup valuations, will normalize back to the mean of the last couple of years. Consequently, VCs have tightened their lending capacity and shifted their focus to early-stage startups. Many startups had raised huge amounts for the early rounds, which raised the expectations and hence the valuation of the company. Now, slashing their valuation in order to raise funds would mean that startups will have to dilute a greater chunk of their equity.

The kind of valuation reset that we have started to witness was much needed after all the craziness in 2021. However, whether this is just a minor correction or has a long-term impact is difficult to determine now and we will have to wait and see at least till Q2 or Q3 of this year to understand where this goes. Till then, startups need to utilize their available cash prudently.

– – – – – 

This article has been co-authored by Tamanna Kapur, who is in the Research and Insights team of Torre Capital.

How will the Cybersecurity Sector Rise in a Digitized World?

by Sandeep Kumar

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Every now and then we keep hearing about instances of cyber threats and attacks wiping out millions of dollars from various organizations. The cases have risen as several companies went completely digital, especially post-pandemic. 2021 saw a record rise in cybercrime with ransomware attacks rising by 151%. As businesses realize the importance of digital security, they are taking steps to keep their digital stack secured, making cyber resilience a top business priority. As per a survey by WEF, nearly two-thirds of businesses find it difficult to deal with cybersecurity incidents due to a lack of skills. Hence, they need to rely on partnerships with security firms to secure their business from such threats. Cybersecurity is a massive market with over $150 Bn in annual spending. It has led to a positive outlook toward cybersecurity startups. As a result, VCs are betting their money on security startups. 2021 is considered a record-breaking year for the sector as cybersecurity startups raised over $29 Bn in venture capital, outpacing the previous two years combined.

Source: 2022 Cybersecurity Almanac | Momentum Cyber

VC activity and trends

VC investments in cybersecurity have grown gradually over the years. In 2021, VC firms had a really big appetite for cybersecurity as the deal volume crossed $29 Bn, seeing a YoY growth of over 136%. With this, the size of the funding rounds has also increased for security startups, as 82 financing rounds grabbed a deal of more than $100 Mn.

As the startups in the sector are attracting VC money, there has been significant growth in the number of unicorns. About 30 cybersecurity startups achieved the unicorn status last year, with a few of them achieving the mark in just a few years of their inception. For instance, Orca Security, which was founded in 2019, raised $550 Mn in October at a valuation of $1.8 Bn. Wiz, a cloud security provider which was founded in 2020, is now valued at $6 Bn!

According to Momentum Cyber, cloud security has been the favourite segment to receive financing with a total of $4.3 Bn, followed by identity and access management receiving $3.4 Bn in funding, and endpoint security with $2.8 Bn. Geographically, the majority of the cybersecurity startups that received funding, securing over $17.4 Bn, belong to the U.S. followed by Israel (as per Crunchbase data).

Source: 2022 Cybersecurity Almanac | Momentum Cyber

Cybersecurity investment trend forecast

Based on the current momentum and growing threat landscape, the cybersecurity sector could see an even bigger year in 2022. This year, cybersecurity startups could see a market opportunity in the following areas, thereby drawing investors’ interest.

 Cryptocurrency

The crypto market is booming across the world. However, the area is also prone to growing amounts of cyberattacks. Most recently, Axie Infinity was a victim of one of the biggest crypto heists worth over $600 Mn. There are multiple cases like these, hence crypto security platforms (like Fireblocks) are expected to see investors’ focus. According to the Managing Director at Insight Partners, areas within crypto security, such as coin monitoring will see a critical focus. It is expected that large payment companies and even traditional market exchanges will carefully look at the space around security.

 Compliance and Auditing

2022 is likely to see a move towards “shifting left of compliance”, which intends to find errors early in software delivery for compliance and third-party audits. This also includes smart contract security audits. Some startups already working in this space include CertiK, Certora, and OpenZeppelin.

 Web3 and Metaverse

A large number of startups are exploring the web3 and metaverse space. This means startups involved in securing user identity and ownership could attract VC money. Identity management and authentication have already been popular in 2021, however, startups looking beyond and into the future of the internet could win big.

How to spot promising early-stage cybersecurity startups?

The number of cybersecurity unicorns and new startups in the sector is multiplying. As many startups are attracting VCs and raising funds at higher valuations, it is important to spot promising startups early-on to get higher returns.

YL Ventures, an America-Israeli VC firm specializing in early-stage cybersecurity investments, suggests some benchmarks that you can look out for. Some of the early-stage startups backed by YL Ventures include Orca Security, Enso Security, Grip Security, Piiano, Valence, and Eureka.

 Initial Revenue:

Series A companies with $500k in ARR attract strong investors. Best startups in the sector manage to reach the $500k benchmark in less than 18 months of operation. From this level, top-performing startups can reach $1 Mn in 18–24 months, which largely depends on the company’s ability to get relevant customers.

 Average Contract Value:

Contrary to founders’ concern, Average Contract Value (ACV) is rather a misleading point of comparison as cybersecurity goods and services, along with their business models, sales motions, and customer profiles, are far too divergent when compared across the industry. However, despite the divergence, it is expected that growth-oriented companies can improve their ACV over time as the company develops additional features and improves their ability to secure large enterprise customers.

 Initial Paying Customers:

On average, successful US-based cybersecurity startups will have closed their first payment within 12 months of their seed round. A company should aim to secure at least one paying customer one full year from initial funding. As per YL Ventures, at around the 18-month mark, a startup should aim for at least 10 paying customers. However, security startups in traditional and heavily regulated sectors may have a smaller number of contracts. They should instead focus on the size of the contract.

 Hiring:

On average, successful startups will have a go-to-market (GTM) executive within the first year of securing seed funding. Apart from this, successful startups tend to have about 25 full-time employees by the 18-month mark, and the number doubles at around two years.

Cybersecurity’s demand on rise

The number of cyber threats is growing in current times, and they are not expected to decline in the near future. It is expected that over the next five years, global cybercrime costs will be rising by 15% per annum, and is estimated to reach $10.5 Tn by 2025. As businesses have made a shift towards a digitized economy, they need to protect themselves from such malicious attacks. Security companies are building themselves continuously with the necessity to deal with the present and possible threats. Contrary to the horizontal approach which focuses on enterprise applications, cybersecurity has now been focusing on the vertical approach so that specific pain points of each industry can be addressed.

The global spending on cybersecurity products and services is estimated to reach $1.75 Tn between 2021 and 2025. This number suggests the huge TAM potential that the industry holds in ensuring cyber safety. As the security concern comes to the forefront in business discussions, the cybersecurity bubble is going to rise and is not expected to burst any time soon.

– – – – – 

This article has been co-authored by Tamanna Kapur, who is in the Research and Insights team of Torre Capital.

SPACs as Alternative Investment: A Critical Review

by Sandeep Kumar

 

The present SPAC ecosystem

Why are companies getting involved in the SPAC craze?

         Data Souse: SPACInsider

Downsides of going Public via SPAC

         Data Souse: SPACInsider

What Impact Do SPACs have on Private Equity?

Future Outlook

Will the SPAC boom stay?

 

 

Keep up to date with the latest research

Valuation Reset: Who are the gainers and losers?

by Sandeep Kumar

Keep up to date with the latest research

From a year of record funding to valuation check, how have things changed?

For any startup, raising funds is an inevitable part of the journey, and it highly depends on how the company is valued. VC funding sky-rocketed in 2021 with over $643 Bn going into global venture investment. This marked a 92% growth compared to the previous year. Consequently, we witnessed more than 10 new unicorns being minted each week on an average, adding around $1.8 Tn in value.

The amount of funds that went to higher-risk, early-stage startups was notable in 2021 as it witnessed almost 100% YoY growth in early-stage funding, with $201 Bn in about 8,000 startups. However, the good times do not seem to continue in 2022. Often, startups overvalue themselves in order to raise funds without giving up much of their equity. This may be detrimental in the long run — in case the company struggles to meet the expectations of the investors, it will have to raise funds at a lower valuation in the future rounds. Moreover, external factors like geopolitical tensions, inflation, underperforming IPOs and public markets have also affected the startup valuations. Through this article, we try to understand the different reasons for the decline in valuations and the kind of impact it could have on investors and startups.

Source: Crunchbase

Valuation reset for overvalued tech unicorns

After the hyped market in 2021, venture capitalists are now renegotiating their deals. As reported by WSJ, Tiger Global Management which has been one of the most prolific startup investors is renegotiating the investments for several companies, reducing the valuations by more than 20%. Manhattan Venture Partners also noted a nearly 10% plunge in the stock purchases of certain private companies in the first month of 2022. Some high-growth startups are even scaling back the funding rounds or delaying their IPOs that could value them lower than expected.

Let’s have a look at some recent examples where startups have been revalued by the investors or have themselves reset their valuations.

  • Philadelphia-based growth startup, Dbt Labs Inc, scaled back its funding round that valued it at around $4 Bn instead of the initially negotiated $6 Bn.
  • Fidelity, which has an investment in fintech giant Stripe, recently marked down the value of the company by over 9%.
  • The delivery giant, Instacart slashed its valuation by about 40%, valuing the company at $24 Bn down from its earlier valuation of $39 Bn.
  • Startups like OYO and Pharmeasy, who were preparing to go public are now considering downsizing their IPO valuations considering the market conditions.

The effect of tech sell-offs in public market is also visible in the private secondary market as there is a heightened interest in selling shares at a discounted price, typically 10% — 30% lower than the last quarter of 2021. With fewer IPOs, shareholders are looking for liquidity solutions in the secondary market, ready to sell their shares at a discount.

VC pull-back and a shift in focus

As market correction started happening in the public markets, its effects have been trickled down to the private market as well. As a result of huge tech sell-offs and dropping valuations in the public market, many VC firms have tightened their grip on startup funding as well. Investors are rechecking the startups’ valuation at a lower level to account for the pressure on the public peers. Firms like Tiger Global Management and D1 Capital have pulled back from investing in late-stage startups. The growth stage and later-stage funding seem to be stagnated. At times like these, some startups may be in desperate need of raising funds, so they will have to lower down their valuation expectations to be able to raise some cash. Meanwhile, startups that had raised huge rounds last year are being advised to use their funds wisely and prepare for even worse times.

The plunging tech stocks facilitated by inflationary concerns and rising interest expectations added to the pessimistic lending behaviour. The stocks of public companies, which typically guide the valuation of startups, saw a decline in valuation. By the end of January, companies that went public last year were down an average of 32.6% since their listings. Less proven companies performed even worse. Not only did the drop hold back investors, but also delayed the startups from going ahead with the IPO. The reset in startup valuations was well predicted, but what is surprising is that historically there has always been a long lag in the private market’s reaction to a public market slowdown, now it’s much faster.

However, things are not the same for all the sectors. While consumer businesses have taken more brunt of the pullback, companies dealing with blockchain, cryptocurrency, and cybersecurity have continued to attract VC interest. Despite the tight funding hand, investors’ focus has been shifted to seed and early-stage startups. The risk may be high with early startups and they are far away from taking a meaningful exit, but they allow investors to write smaller checks that could still give them some returns.

How is the valuation reset going to impact the stakeholders?

A drop in valuations is a double-edged sword. Investors may welcome the dip in valuation as it would mean that they would get new deals at a meaningfully lower value. VCs would love to offer lower prices on new deals, but also want their existing portfolio companies to be marked up in subsequent rounds. There is also a significant chance that the public companies, that guide startup valuations, will normalize back to the mean of the last couple of years. Consequently, VCs have tightened their lending capacity and shifted their focus to early-stage startups. Many startups had raised huge amounts for the early rounds, which raised the expectations and hence the valuation of the company. Now, slashing their valuation in order to raise funds would mean that startups will have to dilute a greater chunk of their equity.

The kind of valuation reset that we have started to witness was much needed after all the craziness in 2021. However, whether this is just a minor correction or has a long-term impact is difficult to determine now and we will have to wait and see at least till Q2 or Q3 of this year to understand where this goes. Till then, startups need to utilize their available cash prudently.

– – – – – 

This article has been co-authored by Tamanna Kapur, who is in the Research and Insights team of Torre Capital.

Upcoming Indian Unicorns: E-Commerce Startups with a Potential for Billion Dollar Valuation

by Sandeep Kumar

In India, around 48 startups have already made it to the unicorn club, as per CB Insights data. Well over $38.4 Bn has been raised till December 4th this year, with several of the rounds producing Indian unicorns in 2021. India will manage to get more than 100 unicorns by 2022, much earlier than the previewed estimation of 2023 reports in the past. The pace with which these companies are gaining valuations is truly remarkable. India’s pace of unicorn growth has surpassed that of China. The Indian economy is capitalizing on a host of international and national factors that are expected to create many more such companies.

We aim to identify and bring out such companies at an early stage so that the secondary’s investors can churn out greater returns. In this edition of Indian Soonicorns, we bring out some companies in the E-Commerce space that have complete potential to reach the billion-dollar mark in the future.

The Indian e-commerce industry has been on an upward growth trajectory

Let us now have a look at potential soonicorns that are likely to give high returns to their investors in the longer run.

1. Pepperfry

Rationale: Pepperfry is an online furniture and home décor shopping store. Pepperfry’s platform has expanded into both online and offline business. The company expects to be in the unicorn club soon in terms of valuation before IPO hits the market for 12 months. The total revenue increased by 27% to $33 Mn in FY20 as the brand has reached close to profitability last year, company’s focus has shifted from achieving profitability to becoming a high-growth company. Despite the intense rivalry it has experienced among all the other platforms researching this area, the online e-commerce company has managed to create a key position in the future industry’s market.

2. Freshtohome

Rationale: Freshtohome is a leader in leveraging AI-based technology and business innovation to bring a superior value proposition to customers and suppliers in a large market. The start-up, which clocked an annual recurring revenue of $85 Mn in FY20, aimed to hit $200 Mn in FY21. Freshtohome manages to sell nearly 10K tones of produce per year and has close to selling 95% qualified cohort retention and doubling every year. It has 12 lakh registered users. The pandemic helped accelerate the online purchase of meat products as consumers took to branded packaged items.

3. Trell

Rationale: Trell is a social-commerce platform for discovering lifestyles through videos in Indian Languages. It enables people to create visual collections of their lifestyle experiences. The social commerce platform has more than 100 Mn downloads and over 50 Mn monthly active users on its app. The start-up is in talks to raise $100 Mn funding, which could value the company between $600 and $800 Mn. A huge majority of people are unable to discover relevant material in their native language. Trell enters the picture at this point.

4. Magicpin

Rationale: Magicpin drives discovery to local retailers across various industries such as fashion, food & beverage, and grocery establishments. The company had a decent financial performance as it recorded a 2.6X jump in its turnover with a revenue of $28 Mn in FY20. It claims to be making $1 Bn in annual sales for its clients of 15 lakh merchants. The company haS a user base of more than 5 Mn and has expanded its footprints to around 200 cities in India. Magicpin also runs a SaaS product Orderhere.io where it helps merchants to go online in a few minutes. The product also provides logistic support through third-party logistics companies.

5. DealShare

Rationale: DealShare is an inventory-led platform that manages the supply chain and logistics in bigger cities. The start-up is in talks with new and existing investors to raise a fresh round at over $1.7 Bn valuation, which will be a more than 2.5X jump in the company’s valuation. DealShare has recorded a seven times growth YoY as its current GMV run rate is $40 Mn per annum, and is expecting top to reach $928 Mn by the year 2024. Currently, it operates in 40 cities of five states and has 20 warehouses. It will increase its footprints to 100 cities and 10 states and also build 200 warehouses by end of this year.

6. Mamaearth

Rationale: Gurugram-based startup Mamaearth is one of the most valued new-age D2C personal care brands that began with a focus on baby-care products, but has pivoted to become a personal care brand. The startup has expanded its product line by introducing 12 products at the beginning of 2020, which led to a 3.7X jump in the company’s total sales of around $66 Mn in FY21 as compared to the previous year’s $14 Mn, and is planning to double the sales by 100% this year. Its current revenue rate is around $100 Mn and is expected to have clock revenue of $265 Mn over the next three years.

India’s Potential to be a Game Changer in the E-Commerce Sector

If you are an investor interested in getting access to these and similar opportunities. Please reach out to us for understanding the investment process better. If you are a shareholder or an ESOP holder of such a company and are looking for liquidity solutions, feel free to connect with us as well. Our platform will provide you with seamless financing and investment journey. Follow us for more such updates.

. . . 

This article has been co-authored Vivek Kumar who is in the Research and Insights team of Torre Capital.

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Road to Sustainable Investment: How Are Private Market Investors Responding to ESG Needs?

by Sandeep Kumar

What is Driving Private Market Investors into ESG Investments?

The demand for ESG-certified investments looks to be unstoppable. According to Bloomberg Intelligence research, global ESG assets under management (AUM) will surpass US$53 Tn by 2025 and will soon represent 44% of the global AUM. More than a third of all AUM in the world would have an ESG imprint in the coming future at this rate.

Two parallel developments are driving the increased usage of ESG management systems. First, rising social pressure, a shift in expectations from private enterprise, and continuous legislative reforms have raised the desire for businesses to adopt proactive environmental and societal responsibilities. Second, there is a growing realization among financial and business experts that ESG concerns may have a significant influence on corporate value, and that risk management can help organizations and their shareholders protect economic value.

ESG risk factor methods have sparked the interest of investors of all shades, and progress has been made in applying them. Some of the largest fund managers have adopted ESG on their own, realizing the advantages of incorporating risks into their investment processes. Others are reacting to the rising number of LPs asking ESG-related questions as part of their investigative work and may exert pressure on GPs to include sustainability initiatives into their investing procedures on the margin or even as a mandate to invest.

Long-Term Profit is Closely Linked to Sustainable Investment

The goal of a corporate should be to generate profits without a doubt, but it cannot be the only goal for long. Consider a company that prioritizes money over everything else with little regard for safety or environmental repercussions. What happens to a firm if a defective product is issued or an accident occurs because the business is focused on maximizing the stock price without concerns for the planet and the environment? Not only would the stock price plummet and previously avoided expenditures become due, but litigation, penalties, recalls, cleaning costs, and reputational harm would almost certainly follow, all of which might lead to bankruptcy or liquidation. In the past ten years, cyber security attacks have been a CEO’s nightmare. The next couple of decades may add ESG related concerns to that list.

According to the US SIF Foundation’s research on US Sustainable and Impact Investing Trends, US asset management companies and institutional asset owners have started employing sustainable investing techniques and analyzing the ESG problem in managing their portfolios. The sustainable industry has expanded at a CAGR of 14% over the last 25 years. Since 2012, the most significant surge has occurred.

Greenwashing Concerns

When GPs recognize that ESG is affecting LP commitment choices, they may use buzzwords in their due diligence papers to show they have accepted ESG principles, however all that talk may not be translating into implementation. As per the study of InfluenceMap, the world’s largest asset managers are failing to meet the Paris Agreement’s climate targets. More than half of climate-themed funds failed the test, while slightly over 70% of funds claiming to have ESG compliance failed. In comparison to the US and Asia, Europe is the only region that tracks ESG across the asset management business, and the framework it creates is likely to become a global standard.

Greenwashing is a practice that has drawn attention to the need for honesty in advertising in this industry. Not only are many LPs getting better at exposing asset managers’ ESG claims, but regulators are forcing asset managers to represent themselves and their plans correctly and honestly. TotalEnergies SE, Halliburton Co., Chevron Corp., and ExxonMobil Corp. were all included in climate-themed funds that were exposed to the fossil-fuel business. According to InfluenceMap, three funds dubbed “Paris aligned” and managed by UBS and Amundi SA scored -40% to -26%.

At COP26, it was widely acknowledged that considerably more money is needed for climate adaptation — that is, programs that would mitigate the expected effects of climate change throughout the world. The text of the Pact itself reflected this. The cost of implementing the necessary modifications to achieve “net zero” by 2050 is predicted to be between $100 trillion and $150 trillion. According to GFANZ, private money could provide 70% of the $32 trillion in investment required by 2030 to establish a net-zero economy by 2050. Despite their importance in completing the Paris Agreement, climate tech venture capital and ESG funds are still in their infancy. The increase of private investment removes the load on underperforming governments in terms of capital flow. More cooperation between public and private finances is essential to achieve a speedy transition.

Sector-Wise Effect of ESG

Naturally, various sorts of businesses are subjected to different ESG demands, and some of the imperatives are more intense than others. According to IHS Markit’s survey, 40% of respondents believe the energy, mining, and utilities sector would be most affected by ESG concerns in the next two years, followed by industrials and chemicals (17%) and transportation (17%).

          Source: IHS Markit

The selection of these businesses is likely influenced by the global climate change agenda, with increased environmental legislation and policy focused on companies that emit considerable amounts of carbon. “These are energy-intensive companies,” a partner at a UK private equity company explains. “Mining, for example, makes extensive use of natural resources and conventional energy.” “Companies will have to replace their cars with more fuel-efficient ones,” a UK-based asset management executive says on transportation.

COVID-19 Crisis has Aggravated Investor Focus on ESG

The ESG phenomenon is fuelled by a variety of factors, many of which have been exacerbated by the outbreak. Climate change is a major subject, with COVID-19 emphasizing the interconnectedness of the planets and the fragile link between people and nature.

J.P. Morgan polled investors from 50 global institutions, representing a total of $12.9 Tn in AUM on how they expected Covid would impact the future of ESG investing.

As a result of the COVID-19 crisis, action and knowledge of long-term sustainability concerns are expected to rise in the long run, this should be a beneficial driver for ESG. The majority (55 %) of investors polled by J.P. Morgan believe it will be a positive catalyst in the next three years. Only roughly a quarter of investors (27%) feel it will have a negative impact, while 18% believe it would have no effect.

          Source: J.P. Morgan, Tracking the ESG implications of the COVID-19 Crisis.

COVID has uncovered the costs and unfairness of inequality as social transformation accelerates. A wide spectrum of stakeholders is calling for organizations to be better operated and more responsible, especially in light of taxpayer-funded business support during the outbreak.

Are ESG Factors Shifting Investors’ Focus?

Overall, it appears that regulatory and LP forces are bringing the private markets to the brink of mainstream ESG acceptance. Some GPs are beginning to accept that the risk variables identified as part of the ESG framework are worthy components of the investing process, and reporting and monitoring systems are coming together. LPs are shifting their emphasis from public market operations to private market adoption. However, concerns about greenwashing are growing. The root of the issue is how ESG ratings, such as those provided by MSCI and Sustainalytics, are calculated. Most ratings have little to do with true corporate responsibility, contrary to what many investors believe. Instead, they assess how vulnerable a company’s economic value is to ESG Factors.

There is no doubt about the fact that due to the concerns regarding climate change and the need for sustainability, application of ESG in private markets has started to gain momentum. If you are an investor looking forward to access similar opportunities, Torre Capital offers access to top startups across the globe. Our platform provides seamless financing and investment journey. Feel free to reach out to us for understanding the investment process better.

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This article has been co-authored Vivek Kumar who is in the Research and Insights team of Torre Capital.

Reinvention of Sharing Economy Companies — Changing Perspective to Thrive through Covid Crisis

by Sandeep Kumar

How has Covid impacted various sectors

Due to the COVID-19 pandemic, activities in the sharing economy (SE) were in jeopardy. Even though SE is regarded as a disruptive phenomenon, particularly in the lodging and transportation industries, the pandemic raised concerns about its long-term sustainability. Before the outbreak, SE was estimated at a faster rate. SE was expected to be worth $335 Bn by 2025, according to estimates.

Source: Sharing or paring? Growth of the sharing economy, PwC

Because many sectors, such as healthcare, tourism, and restaurants, were closely linked to the SE, the importance of sharing grew in the pandemic era. Activities such as lodging, eating out, hosting in-person conferences, and cruising, as well as the role of travel agencies and tour operators in organizing such activities, ground to a standstill.

However, because various nations were put under lockdown as a result of the COVID-19, the use of online shopping and food delivery services soared. The need for freelance work soared as workplaces closed. As a result of the closing of movie theatres, video streaming services have become the primary source of entertainment. Preventive measures have impacted all sectors of SE, increasing the need for some services while slashing demand for others.

Sharing Economy Model

By the second half of the 2000s, consumer behavior had shifted dramatically, and an increasing number of individuals were beginning to see that their current purchasing patterns would not be sustainable in the future. Companies arose in this atmosphere to provide a new type of answer to the evolving customer needs. A sharing economy is a form of the new economic model that focuses on the peer-to-peer exchange of goods and services to increase the efficiency of underutilized resources. The phrase “sharing economy” began to be used to refer exclusively to enterprises of this sort. Couchsurfing, Airbnb, Uber, and its peers, which are developing as a result of significant shifts in consumer habits, have overturned whole industries with their so-called “creative disruption” in the span of only a few years.

There is an opportunity for the sharing economy to thrive in the post-pandemic period. The sharing economy has revolutionized the way people travel, dress, and stay as a result of technological evolution. It has posed a challenge to traditional marketing strategies, but it has also given the business model a new direction and a brighter future, with many organizations taking use of technology advancements. According to industry estimates, sharing will increase from $13.75 billion to $19.25 billion over the next five years, with half of the contribution coming from people under the age of 30.

People were more interested in taking advantage of free and reduced services before the pandemic. However, they are now more cautious about the implementation of safety and preventative measures. In post-pandemic circumstances, we’re witnessing the positive side of the sharing economy and how it’s affecting service providers and platforms.

Traditional businesses must examine which of their service sectors are vulnerable to the advent of a sharing economy player; then, once these areas have been identified, businesses must determine how they will be able to stay up with the trend.

Companies following sharing economy model to reinvent themselves

The pandemic had imposed several forms of restrictions on the way people interact with each other. As a result, a lot of sharing companies had to reinvent their business models to suit the current scenario in order to sustain themselves. This has been the need of the time as most of these companies were on the verge of scaling their businesses and a crisis like this would have sabotaged their growth. Spending huge amounts of money and giving great discounts to keep hold of the market would be unlikely for these growing startups as they take a hard look at unit economics in these challenging times. We look at how different companies across various industries have reinvented themselves to overcome the economic drop due to the pandemic.

· Mobility — Shared commuting was growing popular before the pandemic. However, the market was bound to witness a decline due to the safe commute preferences of consumers. Cab services like Uber and Ola focussed on selling their self-driving car services, instead of shared rides. Some have even expanded their operations to the delivery of essentials, packaging, and moving services.

· Co-Working — Co-working spaces had just started to gain the attention of firms when suddenly people were forced to work from home. In response, startups in the space took the support of AI to access controls like contactless cards and facial recognition. Smartworks even increased the area per employee to 120–140 square feet from 70–80 sq feet per employee, keeping in mind the social distancing norms.

· Accommodation — Accommodation companies, like Airbnb, were at great risk of facing the brunt of the pandemic. Airbnb in particular shifted its focus by introducing short-term rentals and opening up its spaces for frontline warriors. The platform largely encouraged domestic travels over global travel, owing to the travel restrictions due to Covid. Co-living rents were cut down and annual hikes were deferred. Globe — a platform that offers hourly rentals, on the other hand, had performed substantially well as it identified the new market among those who need to work-from-home or need a change of atmosphere.

· Others — While some sharing companies have suffered due to the pandemic, there has been minimal impact on companies, such as those engaged in furniture and appliance rentals. Furlenco, Rentomojo, etc. have not suffered much as these affordable products never go out of demand. Unlike other sharing economy companies, their products are used by customers over longer time durations.

Future Outlook — Will the sharing economy lead to a boom?

Due to its several advantages to consumers as well as businesses, sharing economy companies are on a rise. The trend is visible not only in B2C companies where the concept has already garnered reliability, but it is also on the rise in the B2B sector. Some companies that have served individual customers in the past, now look forward to grabbing onto the institutional customers as the demand from the former declines.

Technology has played an essential role in preparing innovative business models which have helped growing startups to reduce their expenses without compromising on the scale during such turbulent times, thus leading to the reinvention of the sharing economy companies. With the conscious efforts among customers as well as businesses to achieve sustainability, we see the continued rise of sharing economy companies.

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This article has been co-authored Vivek Kumar and Tamanna Kapur who is in the Research and Insights team of Torre Capital.

Upcoming Indian Unicorns: Healthcare Startups that are Showing Potential to Achieve Greater Valuation

by Sandeep Kumar

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India has been emerging as the startup hub all across the world. From a time when India produced one unicorn per year during the period 2011–2014, the country has produced 34 unicorns in 2021 alone! The count is highest ever for the country and shows no sign of stopping. The growing trend of unicorns is indicative of growing interest and faith of global VCs and investors in the Indian startups. The most recent startup to gain the unicorn status is the insurtech company, Acko, which witnessed its valuation increasing from $400 Mn to $1.1 Bn in its recent funding round.

Early identification of such unicorns can increase the investors’ returns manifold. Through this article we fetch out the potential soonicorns in the healthcare sector that are expected to soon enter the unicorn club and provide great returns as their valuations would soar high in the future.

Growth of Healthcare Sector Post Pandemic

The Covid-19 pandemic has caused a havoc across the world. In times like these people have realised the importance of health. As a result of the pandemic, the healthcare sector in India has witnessed a boost, especially in its digital transformation. Indian healthcare startups have attracted more funding than ever, over the last year. Compared to total of $316 Mn raised by the sector in the year 2020, this year healthcare startups have raised $1.3 Bn over 69 deals as of 6 August 2021. It is estimated that the HealthTech market in India will reach $5 Bn by 2023, growing at a CAGR of 39%. Digital shift, use of better technology, and favourable government policies are facilitating the growth of the market.

Earlier this year, Pharmeasy became a unicorn, bagging a valuation close to$1.5 Bn. Now the online pharmacy is planning to go public soon, eyeing a valuation of about $7 Bn through its IPO. We analyse more such healthcare startups that have the potential to achieve unicorn status in the future, and can earn high valuations in the long run.

1. Pristyn Care

Rationale: Pristyn differentiates itself from hospital chains by offering end-to-end services including diagnostic assistance, health insurance claim processing, hospital paperwork, cab pick-up and drop-off for surgery, prescription delivery at home, and a free post-surgery consultation. After the pandemic and subsequent lockdowns wreaked havoc on the healthcare industry, Pristyn turned to telemedicine and online consultations to restore its surgery division. The startup is in talks to raise $90-$110 million from investors such as Sequoia Capital US and others, valuing the company at $1.2-$1.4 Bn. They wanted to make an ecosystem that can organise the world of daycare procedures by utilising technology and a set of basic yet powerful processes and activities.

2. Cure.fit

Rationale: Cure.fit is a health and fitness company offering digital and offline experiences across fitness, nutrition, and mental well-being. The start-up which has made 6 acquisitions so far, has spun off its health food vertical — Eat.fit, as an independent entity to cater to growing consumer demand from the cloud kitchen delivery sector. Cure.fit is targeting to have 10 lakhs subscribers on its platform by Dec 2021. Partnership with Tata Digital will significantly accelerate CureFit’s growth as a fitness & wellness leader and will open up access to a large set of new consumers.

3. HealthifyMe

Rationale: HealthifyMe was developed and launched by a team of doctors, nutritionists, and fitness trainers in 2012. HealthifyMe uses a combination of software, wearable devices, and fitness trainer to help people reach their fitness goals. It claims to be used by over 25 Mn users and has 1,500 coaches across India and Southeast Asia. They are slated to cross $50 Mn in their annualized run rate revenue by this coming January and are on track to touch the $400 Mn revenue run rate by the end of 2025. The COVID-19 pandemic has helped people realise the importance of staying fit and maintaining a healthy lifestyle.

4. La Renon

Rationale: Ahmedabad-based La Renon is a global healthcare company. It is founded and managed by a group of professionals of varied domains of the healthcare industry itself who have got vast experience with unmatched expertise. The new-age pharma company has been attracting private equity interest. La Renon become one of the top 40 pharmaceutical companies in India. It has been ranked 34th in the market with a promising growth rate with a CAGR of 70%. The company is planning to expand the business into other chronic segments and in the manufacturing of critical Active Pharmaceutical Ingredients. Despite the presence of global peers, the opportunity in the segment is huge.

5. Practo

Rationale: Practo has evolved from a SaaS website to one that charts a patient’s whole path, from scheduling an appointment to locating a lab, having a second opinion, prescription reminders, and finally bringing medicine to the patient’s door. It is now available in 20 countries. Every year, 18 Cr patients use the app, which has over one lakh doctors on board and 70 K clinics and hospitals as partners. Practo plans to introduce surgery support to diversify its revenue and create new moats. Though telemedicine usage has been small thus far, India has seen some recent development due to the pandemic, Practo being a lead in the field.

6. Stelis Biopharma

Rationale: Stelis Biopharma is a fully integrated biopharmaceutical contract development and manufacturing company. Given the health crisis around the world due to the pandemic, the company is experiencing strong customer traction and is working to ramp up its CDMO business and enhance its process development and other capabilities. Stelis Biopharma is looking forward to produce upto 800 million doses of vaccines annually, including Covid-19 vaccines. With some really important contract, like the one for Sputnik V, Stelis Biopharma has entered into its growth stage.

7. MFine

Rationale: MFine provides an AI-powered healthtech platform for on-demand, virtual consultations with doctor. It also offers services such as booking routine lab tests, medicine delivery, and comprehensive wealth packages. The company has served over 3 million users since its inception, and monthly transactions crossing over 300,000. Apart from individual users, MFine also partners with over 500 corporates. Despite significant growth in revenue in the recent years, the company’s expenses have increased which shall be used to enhance its technology and services. With its plan to introduce insurance service, MFine is working to all health related needs under one platform.

Growing Market and High Future Returns

Since the pandemic and series of lockdown, a large number of people have been dependent on some of these healthcare platforms. Its growing market very well explains the growing valuations of such healthcare startups. An early identification, can help investors to reap great returns as these companies reach the later stage of its operations.

The growth of the unicorns in India has just started, and it is heartening to see such growth as it creates an environment for others to innovate and perform better. We will continue to bring forward such potential startups to your notice. If you are a shareholder or an ESOP holder of any such company, looking for liquidity solutions, feel free to connect with Torre Capital. Our platform will provide you with seamless financing and investment journey. Follow us for more such updates.

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This article has been co-authored Tamanna Kapur and Vivek Kumar who is in the Research and Insights team of Torre Capital.

Understanding ESOP Taxation and How it Impacts You as an ESOP Holder

by Sandeep Kumar

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Employee Stock Options are a component of nearly every unicorn’s pay plan. Not only they are beneficial for the companies, but also give employees a chance to gain the firm’s equity at an attractive price. The growing valuations of startups across the world have also led to the growth of the ESOP market. Southeast Asia emerging as the hub of the startup ecosystem has witnessed a growth in the ESOP opportunities available for the employees. However, on conducting a survey with employees of the top 100 unicorns in Asia, it has been estimated that about 75% — 80% of vested ESOPs remain unexercised in all large startups. As of today, $30 Bn+ of ESOPs remain unexercised in Asia (excluding China and Japan) in unicorn companies. The major reason behind this is lack of understanding among employees, lack of funding needed to pay the exercise price, high tax obligations, and inability to risk personal capital. Most employees are not even aware of how taxes impact the overall ESOP exercise cost and let their options remain unexercised for long periods of time, letting tax obligations rise steeply. We have seen situations with early-stage employees where the tax obligation was 3–4X exercise price because of a sharp rise in startup valuations.

Source: Pitchbook, CB Insights, Primary interviews

As ESOPs grow increasingly common, it’s critical for startup employees to understand all aspects of owning and exercising this key component of their compensation. Done well, ESOPs can be a significant wealth generator for startup employees. In this article, we cover the taxation aspects related to Employee stock options, exercise, and advice on how to manage your tax obligations. We also give you a perspective on how Torre Capital’s ESOP financing program helps your startup make ESOP funding and exercise a painless process and reduces your tax obligations manifold. We have covered a few countries in this article as ESOP taxation is different in every country.

Understanding ESOP taxation in India

A large number of startups in India opting for the ESOP route are on the rise. Several companies including PhonePe, Licious, Wakefit, etc. have rolled out fresh ESOP plans for their employees. A survey by KPMG estimates that over 72% of the private companies in the country have an ESOP plan or are contemplating having one. The growth trend is attributable to easy liquidity opportunities that have created value for ESOPs. But before one exercises the option, it is important to be aware of the tax implications.

In India, you may be liable to pay ESOPs tax on two occasions as an employee.

  • First, when the shares are allotted as a result of exercising vested options (taxed as salary income);
  • Second, when the shares are sold as a result of exercising the vested options (taxed as salary income) (taxed as capital gains).

As a condition of allocation, the difference between the Fair Market Value of the shares (as of the exercise date) and the exercise price is taxed (considered part of salary income). TDS is deducted from the value of the perk as calculated by the employer. This has a negative impact on your cash flow because a greater tax rate is withdrawn from your paycheck without any additional inflow. It is important to highlight that tax is only imposed on the allotment of shares, not on the allotment of options (known as a grant of options in common parlance). When an employee chooses to exercise his or her vested options, shares are allocated, and taxation begins.

As an example, as part of the company’s stock option plan, Mr. X is given 10,000 shares by company A (employer). Mr. X’s taxable prerequisite would be (200–10)*10,000 = 19,00,000 if the Fair Market Value of the shares on the day of exercise is 200 per share and the exercise price is 10.

Assuming Mr. X is in the highest tax rate with a 10% surcharge, the tax on $19,000 would be deducted at 34.32 percent (with a 4% cess). An additional TDS deduction of 6,52,080 is resulting as a result of this.

The employee must either sell a few shares or make other arrangements to fulfill this obligation due at vesting.

Moving on to the second type of taxes, capital gains tax is imposed on sales, which can be long or short term depending on the holding period. If you’re asking what the cost of acquisition is for capital gains purposes, the answer is the Fair Market Value on the exercise date (used to calculate the perquisite value).

Changes in Budget 2020

Startups (who rely heavily on ESOPs to retain people) ran into practical challenges when it came to taxing ESOPs as perquisites. As previously stated, an employee must either sell a portion of his stock or arrange for funds from other sources to pay his TDS liability. Finding buyers for startup shares can be difficult because they are typically not listed and may not have an active market. The Income Tax Act was revised to grant relief to ‘qualifying startups’ after examining numerous representations and acknowledging the true hardship encountered by entrepreneurs.

What are eligible startups?

In simple words, an eligible startup is a corporation or limited liability partnership formed after April 1, 2016, but before April 1, 2022. In addition, it must meet the turnover requirement (no more than 100 crores) and engage in suitable business as defined.

What is the relief provided?

An eligible startup can deduct TDS within 14 days:

  • After expiry of 48 months from the end of the relevant assessment year or
  • From the date of sale of such shares or
  • From the date, the employee resigns.

So, if you receive shares in FY 2020–21, the earliest date on which your employer (as an eligible startup) is required to deduct TDS is April 14, 2026 (assuming you continue to hold the shares and are in employment with the company till that date).

It’s a smart decision because the employee now has at least 5 years to pay tax on the perquisite income unless he resigns or sells the stock before then. It allows the employee to keep his or her shares rather than being obliged to sell a portion of them to fulfill tax requirements. What’s not fair is that the relief is only available to employees of startups who qualify. The number of qualifying start-ups in relation to the overall number of ESOPs issued is insignificant. As a result, the majority of startup employees will be unable to make use of this choice.

Perquisite Tax and Capital Losses

Taxing ESOPs in the year of allotment might result in another potential loss from a tax perspective if the value of the share drops significantly after paying tax on fair value.

In the example discussed above, if Mr. X decides to hold on to the shares by paying tax of ₹ 6,52,080 (assuming Company A is not an eligible start-up) from his personal savings and within a few years’ time the value of the share drops to say ₹ 20 (possible sometimes) he will have a capital loss of ₹ 18,00,000 (10,000*(200–20)).

Salary income cannot be used to cover capital losses. If Mr. X does not have enough capital gains to offset the loss, he may be forced to carry the loss forward for the allowed term and then write it off. Allowing capital losses to be offset against salary income, to the extent that these losses are related to ESOPs, is a big help.

Salary income cannot be used to cover capital losses. If Mr. X does not have enough capital gains to offset the loss, he may be forced to carry the loss forward for the allowed term and then write it off. Allowing capital losses to be offset against salary income, to the extent that these losses are related to ESOPs, is a big help.

EXAMPLE: Mr. X, an employee of ABC Pvt Ltd, was given an ESOP option to purchase 10,000 shares of ABC Ltd on July 1, 2014. According to the policy, the option can be exercised at the end of three years, on July 1, 2017, for INR 60.

Mr. X chose to execute his option on July 1, 2017. At the time, the fair market value of ABC Ltd’s shares was INR 100. He also decides to sell the shares at a price of 120 per share on January 31, 2018.

Now let’s look at how ESOP taxation will work:

The first level of taxation (when the option is exercised):

ESOPs would be taxed as a requirement, with the value equal to (FMV per share — Exercise price per share) × number of shares allotted (on the date of allotment).

The sum computed above as the perquisite value of an ESOP, i.e. Rs. 4,00,000, will be included in X’s salary and will be taxable in the year in which the shares are allotted. On such an amount, the employer is required to deduct TDS.

The second level of taxation (when ESOPs are sold):

When Mr. X sells the stock on January 1, 2018, he will be subject to capital gain tax, which will be calculated as follows:

Because X has held the shares for less than a year (counting from the date of allotment), the gains will be categorized as short-term capital gains and will be taxed at the standard slab rates applicable to X.

For listed shares, a holding period of over a year is considered long term. While for unlisted shares, holding period of over 2 years is considered long term.

Currently, the long-term capital gains on listed equity shares (on a recognized stock exchange) are tax free up to Rs 1,00,000, however, short-term capital gains are taxed at 15%. However, in accordance with section 112A of Finance Act 2018, any amount more than Rs 100,000 is taxed tax at 10% without indexation (plus health and education cess and surcharge). This is subject to some criteria, including the condition that transfer has taken place on or after 1st April 2018. Short term capital gains shall be taxed at a flat rate of 15% as per Section 111A.

If the shares are not sold through the stock exchange’s platform, long-term capital gains are calculated by indexing the original purchase price. Indexed gains will be taxed at a 20% flat rate, plus any applicable surcharges and cess. Short-term capital gains are treated like any other form of income, and combined with other kinds of income, being taxed at the appropriate slab rate.

ESOPs Issued by Foreign Companies

Employees of Indian enterprises are frequently given ESOPs from the parent company, which is based in another country. The tax treatment of the allotment remains unchanged. It is still subject to taxation as a condition of employment, and the employer (an Indian corporation) is required to deduct TDS. It increases the compliance cost because these shares must be declared as foreign assets in the ITR, and you can’t submit ITR 1.

The question of whether capital gains are taxable in India or the foreign country where you hold these shares arises when you sell these shares. The answer is that it depends on your residency status; a resident pays tax on all of his income, regardless of where he lives. As a result, if you are a resident, you may have to pay taxes in both nations. However, you can qualify for relief under the Double Taxation Avoidance Agreement (if India has such an agreement with a foreign country). This must be determined on a case-by-case basis.

To summarise, ESOPs play an important role in the remuneration structure of employees. The benefit of tax deferment should not be limited to only “qualified startups.” Even if the relief provided to “qualified startups” is not as appealing, a scaled-down version of the same may be required.

Inter Country ESOPs

ESOPs are often provided by the parent business to the group’s employees. However, tax issues arise when a delegated employee moves from a parent company in one nation to a subsidiary in another. Typically, the nation of service at the time of ESOP issuance may differ from the country where vesting and exercise occurs, resulting in a taxation rights apportionment issue between the countries.

How are ESOPs Taxed in this Case?

The first stage is to determine an employee’s residential status for a given year. In the event that an employee becomes a resident of more than one nation in a given year, the ultimate residential status must be determined using a tie-breaker test in accordance with the tax treaty. ESOP benefits are taxable in a country based on the number of days the employee worked there.

Example of how ESOPs are taxed between two countries:

On 1st May 2013, A Ltd (Indian Parent) issues 150 ESOP options to the employee for Rs.100, with the proviso that the options vest over three years, i.e. 1st May 2014, 1st May 2015, 1st May 2016 (per year 50 options), as long as the employee is employed by any business in the group.

On January 1, 2015, an employee is assigned to a foreign subsidiary. The taxability of ESOP perquisites for the second vesting, which occurred on May 1, 2015 (assume the date of exercise: 1st May 2015). On May 1, 2015, the FMV of the shares was Rs.1100. The perquisite is Rs.1000 (i.e. FMV Rs.1100 minus Option price Rs.100).

Tax in India will be calculated from the date of grant (1 May 13) to the date of departure (1 January ‘15), a period of 610 days, and tax in a foreign country will be calculated from the date of arrival (1 January ‘15) to the date of vesting/exercise, a period of 120 days.

Key Points Covered in Inter-Country ESOPs Transactions

a. Divergence in tax treatment

Perquisites are apportioned based on the number of days of service provided in respective nations throughout the grant and vesting periods for ESOPs issued in country A and exercised in country B. However, if enough time has passed between the date of departure from country A and the date of exercise in country B, country B does not tax its portion on the basis that the ESOP was not granted in anticipation of duties in country B.

b. Double Taxation

When an employee of an Indian parent exercises shares while in India, the difference between Fair Market value and option price is subject to perquisites tax in India. After then, the employee is sent to a subsidiary abroad, where he or she sells the shares while serving in the company. In the year of the sale of the shares, the employee would have become a tax resident in the foreign company and would be responsible to pay tax on all of his or her earnings, including the capital gain on the sale of the shares. The FMV should preferably be used as the cost of shares when computing such capital gains. Due to the fact that perquisite tax is remitted in India, foreign jurisdictions usually treat option prices paid as a cost rather than FMV. The FMV must persuade foreign tax authorities that it is a fair cost for calculating capital gain. Employees would otherwise be taxed twice on the portion of the difference between the FMV and the option price they paid.

c. Cash Flow

Employees from the parent firm are occasionally delegated to the foreign subsidiary. Following the assignment of shares, the employee is required to pay perquisite tax in India and overseas, based on the number of days of work given in each country. However, culpability arises in this instance when the employee is abroad. He will have a difficult time remitting his Indian tax liability in INR to the parent firm because he will no longer be paid in INR and will have closed his Indian bank account.

You need to become aware of ESOP taxation and its implications on your future wealth. ESOPs have a lot of laws and requirements to follow. Companies that provide it to their employees must have an appropriate administration system in place to ensure that they have stock ownership. If a corporation lacks the personnel or resources to oversee the administration of ESOPs, it may expose itself to certain risks. The corporation must have proper administration, staff, including third-party administration, legal costs, and trustees when establishing ESOPs. It needs to be aware of the costs associated with providing this service.

ESOP Taxation in Singapore

Singapore is the startup hub for Asia. In such a thriving ecosystem, ESOPs have emerged as an ideal tool for private companies. When it comes to determining the tax on ESOPs, there are a number of variables to consider. In Singapore, ESOP taxes are only levied once — at the time of exercise or when the ESOP’s selling restriction is repealed. Any gains or profits resulting from the execution of a share option will be taxed to the employee who received them from their employer. When options are exercised, tax is payable on earnings emerging from an ESOP with no selling restriction. Furthermore, ESOPs with selling restrictions are only taxed in the year the restriction is eliminated.

If the stock option’s open market value exceeds the exercise price, the difference is considered a profit for the employee. This profit is taxable since it exceeds the employee’s basic salary.

Note — The intrinsic worth of an asset is known as open market value. It is largely reliant on supply and demand market variables. This value changes over time and is quite dynamic.

In terms of a mathematical formula,

The taxable amount is then subjected to the applicable tax rate for the employee

Singapore personal tax rates start at 0% and are capped at 22% (above S$320,000) for residents and a flat rate of 15% to 22% for non-residents.

Example:

At a $1 exercise price, Lee holds 1000 stock options in a firm called ‘Herbilitie.’ Lee now has two choices. If the open market value of each share is $5 at the time of exercise, and the tax rate on Lee’s stock options is 20%, then:

ESOP Taxation for Foreign Employees

If an employee is given ESOPs while working abroad, the profits are not considered income in Singapore and are therefore not taxable there. In such circumstances, the ESOP tax computation is based on the double taxation avoidance agreement between Singapore and the nation where the employee was given ESOPs. However, if ESOPs are granted to the employee in Singapore, two rules are applicable:

a. Deemed Exercise Rule: The presumed exercise rule applies to ESOPs given to foreign citizens working in Singapore on or after January 1, 2003. Employees may have ESOPs that have not been used when their employment ends. The final profits from unexercised ESOPs are considered income obtained by the employee one month before the date of termination of work or the date on which the monetary benefit is granted, whichever comes first. When a foreign employee’s employment ends, they are regarded to have received a final gain if they have one of the following:

  • Unexercised ESOPs;
  • Restricted ESOPs where the moratorium has not been lifted

b. Tracking Option Rule: The tracking options rule, which is an alternative to the deemed exercise rule, permits the employer to trace the period when the foreign employee realizes ESOP gains. The gain is subsequently reported to the government by the employer. The following events are monitored:

  • Exercise of unexercised ESOPs
  • Restricted ESOPs where the moratorium is lifted

Note:

 If the employer has been permitted to use the tracking option rule, the considered exercise rule does not apply.

• When an employee leaves Singapore for more than three months, regardless of the reason, ESOPs are taxed.

Employee Remuneration Incentive Scheme (ERIS) for startups

The Equity Remuneration Incentive Scheme, or ERIS, only applies to stock options given between February 16, 2008, and February 15, 2013, inclusive (both dates inclusive), as long as the award date is within the first three years of the company’s establishment.

Employees who profit from their employers’ ESOP schemes are eligible for ERIS tax benefits. Employees who participate in ERIS might get a tax break of up to 75% on their ESOP plan gains. Tax can be waived for a period of ten years provided certain criteria are met. The tax exemption is restricted to $10 million in accumulated gains over a ten-year period, and the gains must be realized on or before December 31, 2023.

ESOP Tax Deferment Option

Employees can choose to defer the payment of tax (subject to an interest charge) on the gains from ESOP for any period of time up to a maximum of 5 years. Conditions for ESOP tax deferment:

  • For ESOPs with a staggered vesting period, only the proportion of shares that have not vested
  • At the time the ESOP is granted, the employee must still be working in Singapore
  • The employee (who receives the share option) must be someone who:

a. is not bankrupt

b. does not have a poor tax-paying record

c. possesses a tax of more than $200 on ESOP gains

d. has not been granted area representative status, and

e. is eligible to settle tax by installments under current tax rules

Understanding ESOPs in Indonesia

The ESOP market in Indonesia is still gaining popularity. Founders are educating themselves to provide the best ESOP options to retain their talented employees.

In Indonesia, employee stock option schemes are not subject to any specific regulations. Offering stock in a firm is considered a personal matter. As a result, a business can impose any standards it sees fit.

Normally, income tax is required only when a profit is realized after the shares are sold. According to Regulation of the Directorate General of the Tax Office No. PER-16/PJ/2016 dated 29 September 2016 (PER-16), income tax is owed on revenue derived from a party’s work, services, and activities in or outside Indonesia, including:

· Salary.

· Wage.

· Remuneration.

· Allowance.

· Other payments in any form related to a person’s work or office, services, or activities.

A dividend or a capital gain might be received by a shareholder via the selling of shares obtained under a share option scheme. Profits from the selling of stock are considered capital gains and are taxed accordingly. Income tax is determined at the following progressive rates based on the taxpayer’s annual income:

· Up to IDR50 million: 5%.

· From IDR50 million to IDR250 million: 15%.

· From IDR250 million to IDR500 million: 25%.

· Above IDR500 million: 30%.

The rates listed above are for taxpayers who have a Tax Identification Number (NPWP). Those who do not have an NPWP may face higher fees.

Any dividend paid, available to be paid to, or payment due from a government institution, national taxpayer, event organizer, permanent establishment, or representative of a foreign company to a national taxpayer or permanent establishment is subject to 15 percent tax under Article 23 of Law №7 of 1983, as amended by Law №36 of 2008 on Income Tax (Income Tax Law).

Share system tax effects must be examined on a case-by-case basis, based on the exact scheme used by the company. As a result, the corporation must engage with its tax consultant about its intended scheme.

Understand, Exercise, Benefit

Many employees choose not to exercise options because they find the taxation and the entire process to be overwhelming. As a result of lack of understanding, huge costs, and lack of easy liquidity options, employees miss out on great investment opportunities. It is estimated that those who had successfully exercised their ESOP were able to more than double up their investment returns as the company became public. Torre Capital is committed to providing you complete guidance and the best platform throughout your ESOP journey. Our non-recourse financing options minimise the risks for employees. We aim to maximise employee returns by minimising the costs involved.

So, if you are an employee looking forward to exercise your ESOP options, Torre Capital can provide you with the best and the most convenient exercise and financing journey. You can reach out to us at [email protected] in case you wish to know more and seek further assistance.

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This article has been co-authored by Sayan Mitra and Tamanna Kapur, who is in the Research and Insights team of Torre Capital.

Why are High-Growth Companies Staying Private for Longer?

by Sandeep Kumar

 

 Pre-IPO And Secondary Market Trading

In the recent times, the pre-IPO market has emerged as an attractive alternative class for investors as they allow them to reap out the maximum benefits before the company goes public. While the pre-IPO market is considered to be a good opportunity for providing early access to huge potential gains, it may have some liquidity constraint. However, the pre-IPO secondary market allows the founders, early employees, and investors to receive liquidity much sooner in a company’s life cycle. The secondary market balances the need for liquidity and allows founders to stay motivated and focussed on building the company, while staying private for longer durations.

Secondaries trading platform like Torre Capital are committed to democratizing the Pre-IPO market, by making it secure and accessible to all. With a large number of companies achieving the unicorn status and having a great IPO exit, the pre-IPO space is booming more than ever. We shall look upon the various factors that have motivated the companies to stay private for longer and delayed their exit.

Pre-IPO Secondaries Volume Growth

Secondary market trading are stock transactions in which an existing stockholder sells their stock for cash to third parties or back to the company itself before the company undergoes a merger, acquisition, or initial public offering. While the secondaries market was impacted in the early 2020, due to the pandemic, it has rebounded and witnessed continued growth since then. With over $50 Bn secondary deals completed in the first half of 2021, the transaction is projected to reach $100 Bn by the end of the year. It is estimated that over the next five years, the annual secondary volume could reach $250 Bn as limited partners manage their portfolios more actively.

Growth of Secondaries (in $Bn)

The high amounts of funding rounds in the recent time period, along with optimistic valuations in the future, will continue to give a positive indication about the growth in secondaries activity.

Why are more companies opting to remain private?

Companies that go public gain an instant infusion of money by selling all or part of their firm in a public offering. While this may appeal to certain businesses, others recognise that public ownership has a cost. They avoid having to report to a big group of shareholders and can keep their company strategies and finances confidential by opting to remain private.

Source: McKinsey&Co

It can be seen that from the late 1990s to 2016, the number of publicly traded firms decreased by 52%. Despite this steep decrease, the entrepreneurial spirit has never been greater everywhere on the planet. The United States is ranked first in the world in the Global Entrepreneurship Index.

People are eager to establish their businesses. They just don’t want to share them with the rest of the world. The additional restrictions needed of publicly listed firms are one of the reasons companies don’t want to cope with the inconveniences of becoming public. The Securities and Exchange Commission is enacting increasingly harsh restrictions, which most firms would want to avoid.

This is especially true in situations when a large number of employees are also stockholders. Employees are free to focus on their tasks rather than the statistics since they don’t have to worry about what the stock is doing and what that could entail for their money.

Another reason a business could prefer to remain private is to have more control over its operations. A firm can remain in the hands of a few select people or families by remaining private. In addition, private firms are not subject to the whims of stockholders.

Private equity firms alone spent $130.9 Bn in biotech and tech start-ups in 2018. IPOs, on the other hand, took in $50.3 Bn. It should come as no surprise that, with so much money at risk and considerably fewer headaches, more private firms are opting for private equity.

There are several motivating factors for a company to go public. However, such access comes at a hefty cost in the form of SEC and shareholder scrutiny. As a result, many private firms opt to remain private and seek funding from other sources. Traditional lending institutions offer secured loans and shares that may be used as personal money or sold to employees to raise funds. This implies that while investing in private firms is feasible, it generally necessitates intimate links to the company.

How Has The Decision Benefited Tech Companies

The decision about whether to go public or stay private varies from company to company. Having a successful IPO may be important for a company, however it comes with several hassles, in terms of regulation level and the time involved. The dynamic of software firms within the IPO space is such that they do not wish to take the hassle and risk involved in secondary market trading or pre-IPO placements. With IPOs definitely a lot of risk is involved in not being able to match up to the investment that has been made and generating enough profits. Going public does help raise capital but it is an expensive endeavour for the company itself.

Software firms are approaching private equity firms instead for capital as that opportunity comes with less risk involved and fewer drawbacks. This is due to the sheer amount of capital in private equity that gives a strong standing to the firm. Technology corporations have raised successful funds in the private rounds that have made them achieve the decacorn status while staying private. On the other hand, entering into a public market through IPO may also possess the risk of downside. Astudy by Battery Ventures estimated that over 40% of the unicorns that have gone public since 2011 have underperformed their final private-market valuations. From company’s average age of 4 years to go public, in 1999, to the 2014 average age of 11 years, we see a change in preference of the companies in the decision to stay private.

Late Stage Investors Enjoy Higher Returns

As mentioned before the growing scale of fundraise rounds lead to inflated valuation of startups. While high valuation may be good for the company, overvaluation may pose a risk of downside. As a result investors, especially late stage investors avoid counting on IPOs to make money. On the contrary, early stage investors remain unaffected with the downside risk as they invest early enough to gain positive returns.

As early employees and investors seek liquidity, the private market activity steps up in such a scenario. A delayed IPO would give the late stage investors more time to reap the benefits of the growing valuation and greater returns.

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This article has been co-authored Tamanna Kapur and Vivek Kumar who is in the Research and Insights team of Torre Capital.

 

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