Amid the noise created at ‘Startup India, Standup India’ initiative, the author shares insights on why the exodus of startups to Singapore or the US is far from over
Starting in the early part of this decade, we have seen a large number of startups like Grofers, Flipkart, InMobi and Mobikon move out of India to places like Singapore. The difficulty in doing business in India is often cited as the key reason for this. Now we can analyse the impact that Prime Minister Narendra Modi’s Startup India action plan is likely to have on this mass exodus of India’s best startups to Singapore.
Startup India: The intent is visible but will it translate to action on the ground?
Modi has taken up the cause of startups via the Startup India initiative and put it on mission mode. The Startup India action plan has a series of policy initiatives and schemes that are aimed at easing the hurdles that startups face. The intention is laudable, especially given that earlier governments did precious little to further the cause of startups and MSMEs. However, the key question is: “Is this enough and will this help stem the exodus of startups to places like Singapore?”
Of the proposals put forth in the Startup India action plan, I found the most interesting ones to be:
1. One day incorporation via a mobile app: This is by far the most important proposal outlined in the plan though I would be pleasantly surprised if the system can pull off a one-day incorporation. I remain skeptical about its execution. As of now, it takes anywhere between 15 and 30 days for a company to get incorporated. It would also be interesting to see if all steps ranging from digital signatures, director identification numbers (DINs), name approvals and certificates of incorporation are covered by this app.
2. The exemption of startups from labour inspections for the first three years: This proposal, if implemented, would save startups from harassment by labour inspectors.
3. Three-year tax holiday for startups: This is a welcome step though I would think that most startups would not benefit since they tend not to make profits in the initial years anyway.
4. Faster exits for startups: The winding down of defunct startups is a cumbersome process currently. If the stated 90-day winding-down scheme is indeed implemented, it would be a major step towards making it easier to do business in India. However, I am skeptical about the execution of this step, given that the bill is stuck in our gridlocked Parliament.
5. Capital gains exemption on startups: Another welcome step in line with global best practices.
6. Credit guarantee fund for loans to startups: This proposal, if executed (big if) would be a game changer for startups in line with the schemes of the US Small Business Administration. Unfortunately, India’s experience with the CGS (Credit Guarantee Scheme) for MSMEs has been rather tepid, with less than one per cent of the total credit demand being covered by the scheme.
What remains unaddressed?
While these are all good steps in the right direction, a lot has been left unaddressed. Two such examples are:
1. “Angel tax”: This is the cause of much harassment by tax authorities and allows the Assessing Office to judge the ‘fair market value’ (FMV) of a startup and tax all investment at a valuation above this FMV as income.
2. Ongoing compliance: This has not been made any easier by this action plan. For example, even a startup with no revenue has to file audited accounts every year and submit returns, thus incurring significant costs. In contrast, Singapore exempts all startups from these cumbersome requirements under the “Exempt Pte Ltd” category.
Further, the definition of a ‘startup’ under this action plan leaves room for more red-tape with the requirement for certification by an “Inter-Ministerial Board”.
Will this action plan prevent India’s best startups from moving to Singapore?
Getting back to the original discussion on startups leaving India en masse, while people talk about India’s “best startups” moving to Singapore, they tend to overlook the fact that most of these startups that move to Singapore are hardly startups when they do move. Most of them are two-five years old and have annual revenues of millions or even tens of millions of dollars. While we think of them as ‘startups’ because they started small, they are certainly not small organisations when they actually leave.
Of course, these companies continue to access the Indian market (high-growth) and keep almost 100 per cent of their operations in India (cost reasons), but move their headquarters to Singapore, wrapping the Indian operations as a wholly-owned-subsidiary of the Singaporean entity.
I am of the opinion that this exodus has almost nothing to do with the stifling red-tape that chokes entrepreneurs in India. After all, even if a startup moves its holding company to Singapore, its Indian entity still has to deal with the very same red-tape, get harassed by the very same bureaucrats and jump through the same hoops that the holding company would have escaped by moving to Singapore. There is also the additional headache of transfer-pricing and the tax man breathing down your neck on this front.
Why Startup India cannot address this phenomenon
It is not logical to think of red-tape as being the reason for the move to Singapore. This phenomenon of companies moving their holding companies to Singapore is due to the following reasons, which I believe cannot possibly be addressed by Startup India in the next one year or even five years.
1. Lower capital gains tax rates: Singapore has a zero per cent capital gains tax, compared to India’s 20 per cent (with inflation benefits). Therefore, founders and investors can save millions of dollars on capital gains tax if they sell their Singapore-listed company’s shares rather than their Indian-listed company’s shares. They also need to simultaneously structure the deal smartly and remain out of the country for 183 days in a financial year.
Startup India effect: The Startup India action plan abolishes capital gains tax on startups, but because of the definition of ‘startups’, most of these companies reincorporating in Singapore do not qualify for these benefits.
2. Lower corporate tax rates: Singapore has a corporate tax rate of 17 per cent per annum while India has a rate of 30 per cent per annum. Therefore, even after accounting for “transfer pricing” and the associated harassment involving the Indian subsidiary, the company saves tax by incorporating in Singapore.
The Startup India effect: The tax holiday for three years will not help these companies as they are usually older than three years and would usually have revenue higher than the INR 25 crores (US$3.69 million) limit.
3. Access to well-developed capital markets: Indian capital markets, especially the equity markets are simply not deep enough for companies like Snapdeal or Flipkart to get the kind of valuation on an IPO that they would get in Singapore or the US. Therefore, it makes sense for them to list their holding company in Singapore, which would work to their advantage while listing on SGX (Singapore Exchange) or NASDAQ.
The Startup India effect: Startup India cannot reasonably be expected to address this aspect and I would reckon that it would take a minimum of 10 years of fast-tracked reforms for our markets to come close that of a developed economy.
4. The reputation of being a “Singapore company”: When it comes to doing business with American, European or even Southeast Asian clients or investors, there is nothing like being a “Singapore company” or an “American company”. Singapore has an excellent reputation for investor protection, ease of doing business and intellectual property protection. Therefore, investors and clients are much more likely to be comfortable doing business with a company registered in Singapore than one registered in India.
The Startup India effect: This too is an aspect that we cannot expect Startup India to address. It will take decades of brand-building, effective enforcement of laws and hard reforms to address this issue.
The bottom line
The Startup India initiative is praiseworthy as it has some very important steps around the ease of doing business, taxation and Intellectual Property protection. However, the definition of a ‘startup’ for the purpose of these schemes means that a company with over INR 25 crore (US$3.69 million) in revenue or older than five years or without “certification from the inter-ministerial board” (more red tape?) cannot get any of these tax or policy incentives. It would automatically disqualify the Snapdeals, Flipkarts and Grofers of the world from any of these benefits.
So, while Startup India is a great first step in the right direction and will probably help startups to some extent, it will probably not make a dent on the exodus of India’s Flipkarts or InMobis to Singapore in any meaningful way. Will it help small startups become the next Flipkart or InMobi? That really depends on the execution and we will come to know that only after the next few years.
But our fingers are crossed for a positive turn of events.
The views expressed here are of the author’s, and e27 may not necessarily subscribe to them. e27 invites members from Asia’s tech industry and startup community to share their honest opinions and expert knowledge with our readers. If you are interested in sharing your point of view, please send us an email at elaine[at]e27[dot]co
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