Flipping of Indian Unicorns

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SME Times News Bureau | 25 Sep, 2021
India has been proud of its startups creating immense value and adding to the GDP of the country. Our startups 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. Most of these high ticket startups have flipped away and are no longer Indian companies in essence.

We may take pride in saying that two Indian boys made a unicorn (Flipkart), which ultimately attained market valuation of 20 billion US dollars, but fact of the matter is that the promoters of Flipkart flipped away from India and registered their company and other associated companies in Singapore. And the set of companies were sold to Walmart (with 77 percent of the shares were transferred to Walmart) and not just a unicorn which was already flipped away went into the hands of a foreign company, Indian retail market share was also transferred to a foreign company silently.

Flipping of Indian Startups

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. One of the methods for implementing as 'flip' transaction is through a share swap. Under this exercise, after the Indian promoters have incorporated an international holding company the shares held by the shareholders of the domestic company are swapped with the shares of the overseas holding company. As a consequence, the shareholders of the domestic company become shareholders of the overseas holding company. In place of a share swap, a flip structure can also be executed when the shareholders of the Indian company acquire shares of the overseas holding company and the holding company acquires all the shares of the Indian company from its shareholders.

It is interesting to note that several hundreds of Indian unicorns have either flipped or were incorporated abroad, which have Indian founders who started off in India. Amongst them majority have operations and primary market in India. Nearly all have developed their intellectual property (IP) using Indian resources (human, capital assets, government support, etc.).

Why Unicorns Flip?

1. Avoiding Indian regulatory landscape, Indian tax laws and scrutiny by Indian authorities.

2. Various International investors force their investee companies to flip abroad and sometimes even keep this as a condition precedent to their investment in these startups as they want the data and IP to be headquartered overseas where they will put their money.

3. Most of the business is from overseas clients and these clients want to contract with overseas parent company only (this is not a valid reason though because contracting with an overseas subsidiary could serve the same purpose without flipping the company. Moreover, Indian IT services firms like Infosys, HCL etc. have managed to do sizeable business in various overseas territories while being headquartered in India).

4. Favorable foreign policies that nations like US and Singapore have adopted also attracts startups and investors. Some of these policies are lower corporate tax, Fixed GST, Zero capital gains tax rate, double taxation avoidance treaties, simple majority vote on critical issues, evolved IP protection laws etc.

5. Desire to publicly list overseas with the assumption that valuations are higher due to deeper pools of investors.

Implications of Flipping

Flipping results in materially adverse impact on national economic interest:
1. Loss 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.

2. 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.

3. Circumvention of Indian Laws : Flipped startups 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.

4. Security threats : 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 neighboring countries is only allowed in India-domiciled startups after the requisite approvals but overseas headquartered startups do not need any such approvals.

5. Giving 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.

6. Against deepening of Indian Equity Markets : As these flipped startups will also list overseas, Indian public equity markets will loose 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.

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.

(The writer is a professor and the national co-convenor of Swadeshi Jagran Manch. Twitter: @ashwani_mahajan. The views expressed are personal.)