article banner

Startupland: The real cost of business failure in an unforgiving land

By Shashishekhar Chougule & Harish HV

India is a land of startups, having given rise to 3,000 of them just so far this year. Nasscom has launched a programme to mentor 10000 startups, and even the prime minister has joined in the action with the Startup India, Stand Up India slogan. While this is all the hype, the reality is most of them, up to 90%, are destined to fail.

What is important to realise is that there are failed startups but not failed founders. Typically, founders learn from their failure and are ready to start again and probably end up being successful in their second or third or even fourth attempt. India is unfortunately a land that is unforgiving of failure and founders have to struggle to close down a company.

The Ease of Doing Business ranking created by the World Bank Group takes into account a number of parameters to see how countries fare in terms of regulatory environment. Interestingly, the ranking methodology appears to ignore the ease of closing business as a parameter of any significance. If this parameter were also taken into consideration, India is sure to find herself in the company of bad performing backbenchers in this class too. India is ranked 155th on ease of starting a business indicator. This is because there are at least 14 procedures involved in setting up and being ready to do business, taking at least 29 days (on average, in Mumbai).

You may be in a hurry to administer euthanasia to your beloved but failed business, but the Indian taxman and other regulators swear by the purifying effect of a slow and painful death. They will take up their assessments some 2-3 years after you decided to pull the plug on your shop. They will ask you to produce documents and records which you wish never surfaced even in your memories, reminding you of the bitter forgettable aspects of the business that didn’t click. Worse still, you may not even have those documents anymore. There would be unavoidable trips to the tax office, to explain how the long-suffering patient had died and why it had no liability to pay tax. Not just the founder-owners of the business, but employee-directors in charge of operations may also be summoned and suddenly find themselves on the wrong side of the law. Can we not create a mechanism whereby businesses that are sagging are taken up for tax assessments earlier than the usual lag of 2-3 years? Apart from easing the exit, it may also protect the tax revenue better.

Even if you manage to close all the pending tax cases and litigation and deregister your company, the company is yet to be laid to rest. That is where the company law comes into picture. It prescribes a court process for terminating the corporate form and identity. The proposal to set up a tribunal for taking over the job of administering such processes from overburdened courts is hanging fire for more than 12 years.

Although a fast-track exit scheme is available as an alternative shut-down mechanism for companies, it can be invoked only after a mandatory waiting period of one year after the company has become defunct.

Recent reports suggest that the government is about to bring a new bankruptcy law. While the new law might entirely change the insolvency system for good, the government should also consider creating a more helpful framework for speedy voluntary closures of solvent businesses. Majority of startups don’t tap banks or public financial institutions for funds. They are powered by risk capital from angels, venture capitalists and private equity investors. As the startup culture spreads in the country, it will be very good if the government lets entrepreneurs close their failed businesses faster.

(Harish HV is a Partner, India Leadership Team, at Grant Thornton India LLP.  Shashishekhar Chaugule is a Chartered Accountant)

This article appeared in The Economic Times on 03rd December, 2015.