Venture capital firms in Iran’s legal system
Posted on 27 July, 2018 by Omran Mohammadi
International trade law expert Omran Mohammadi gives an overview of the legal framework for vehicles that invest in new and fast-growing companies in Iran.
In most countries, even developing countries, commercialisation of innovations and the development of high-tech products require a circle of governmental assistance.
Up until now, the Iranian government has intervened in different levels of the startup market in Iran. One of these levels was about creating incubators which I have explained in another article. Another level of the governmental assistance in this market is about venture capital which I will discuss in this article.
Government intervention in Iran’s venture capital market
Normally, a venture capital is a business institution created by the private sector following business opportunities. It is also the same in Iran’s economy and startup market. A venture capital is a company that focuses on investments in other companies or other business opportunities. This investment is usually in the form of financial investments, however it can be in the form of providing other facilities too.
A venture capital is a commercial company in bound by general rules of the company law. Funding and providing facilities for business activities is a commercial activity. Normally, a company can be a specialist entity focusing on some special activities. It can also combine a mix of commercial activities including investment. Since venture capitals are like ordinary companies, they are bound to general rules of Iran’s Commercial Code unless of course there is a special legal requirement for them.
As a developing country, Iranian lawmaking bodies have tried to create a favourable environment for venture capital firms. To this end, two types of venture capitals have acquired special rules: those in the innovation market, and those in the stock exchange market.
- As a private company, a venture capital is a company like any other in Iran’s legal system. Venture capitals also follow the rules of Iran’s Commercial Code.
- Venture capitals in the startup market and the stock exchange market are also private companies like any other company in these fields. Needless to say, in order to manage a sound flow of transactions in an artificial market, venture capitals in stock the exchange market have more strict rules than their counterparts in the startup market.
- There are some favourable rules for those venture capitals that work in the startup market and the stock exchange market. These rules are usually aimed at reducing risks and encouraging venture capitals to engage in these markets. These rules mostly include funding and facilities for venture capitals.
- If a venture capital that works in these two markets wants to benefit from these favourable rules, it must follow some instructions. Of course, it is always possible for a venture capital to work on its own in these markets, i.e. these rules are not mandatory.
- Despite the fact that these favourable rules tried to create a safer place for venture capitals, they had and continue to have negative impacts on both startup companies and also independent venture capitals. This is a topic for another article.
In this article, I will discuss venture capitals in the startup market.
Iran’s startup market, the place for venture capital
In a developing country, it is a necessity to create some governmental measure to support newborn industries. Of course, it is almost certain that governmental intervention in any part of the market will have some negative side effects. For example, I mentioned this side effect on accelerators in another article. Since any governmental intervention will have some negative side effects, this intervention should be very strict and as minimum as possible. Repairing these side effects will most likely need another intervention that can result in a series of interventions and trap the government in the private sector’s territory, which is a negative action for both the government and the economy.
In order to minimize these side effects and maximize the outcomes of the governmental intervention in the startup market, the Iranian lawmaking bodies have tried to allocate the governmental supports to a special part of this market. This special part of startup market in the legal terminology is named “knowledge-based companies”.
Separation of the market, terms and terminology
Legal instruments including acts and regulations have created a set of localised institutions. In order to discuss this topic properly, I should clarify these institutions.
- Knowledge-based companies: A knowledge-based company (KBC) is a company that engages in “development and application of invention or innovation” and “commercialisation of R&D outcomes in higher technologies with high added value including designing and production of goods and services”. The act relating to KBCs was adopted in 2010. For some time after the adoption of this act, a knowledge-based company was equal to a startup company.
Now the “startup” term is a general notion that includes KBCs. In Iran, KBCs are equal to the notion of “technology companies” as in the first generation of startups. Even though these companies are a category of startup companies, in legal terminology there is no definition and no mention of startup companies. The first generation of venture capitals in Iran were allowed to serve special types of startups which were mostly equal to knowledge-based companies, however this title was created a decade later.
- As I mentioned in another article, incubators are also governmental organizations however unlike the first generation of venture capitals, their services were not only for KBCs but also for startups too.
- KBCs acquire two types of governmental privileges: firstly, exemption from tax, customs fees, customs duties, export duties, and export charges for 15 years. Secondly, financing for production costs and distribution costs wholly or partly through low-interest and interest-free loans.
- A governmental fund named Innovation Fund was responsible for the second privilege. For a clear definition of KBCs see this article.
The situation for venture capitals in Iran is still unclear. It is not easy to locate existing venture capitals in Iran’s legal system since there are two different generations of these institutions in the country. The second generation of venture capitals are tied to the notion of KBCs but the first generation is a legacy of another period of legislation before the birth of KBCs.
- There are two coexisting generations of venture capitals.
- The first generation came into existence before startup companies.
- A decade later, the KBCs came into existence. KBCs in Iran are equal to the notion of technology companies as in the first generation of startups. Five years later, the second generation of venture capital were born; 15 years after the first generation of venture capitals.
- The first generation of venture capitals were allowed to serve all startups however the second generation belongs to the notion of KBCs.
- This might seem reasonable; however, the effectiveness of the system declined because of two avoidable inaccuracies; the temporary nature of the first generation of venture capitals, and an illegal restriction on the scope of activities in the first generation.
- Omran Mohammadi is a first-class attorney in the Iran Bar Association and master in international trade law. A version of this article was originally published by TechRasa.
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