Companies Act, 2013 clarifies various requirements for start-ups during fundraising. Whenever a start-up wants to raise capital, its founders must be aware of these requirements. Complying with the law entails following various regulations and procedures. An organization may be subjected to heavy penalties if these requirements are not met.
Indian private limited companies are only allowed to raise funds by issuing shares. Fundraising can be done in a variety of ways, but the most popular is issuing fresh equity/ preference shares in return for the funds. The company will be relieved of the obligation to repay the debt with a specific interest rate, reducing its debt on the books. As a result, repaying involves dividends or some other form of remuneration based on the profit-sharing formula.
A start-up in India seeking investors must comply with the following pre-funding and post-funding compliances.
Compliance with pre-funding requirements
A private placement procedure and a rights issue are two methods of raising funds. Private Placement is the process of raising capital by issuing securities to an investor or a group of investors rather than offering securities to the general public. Right issues are used to raise additional capital from existing investors by issuing shares to them. There are several steps involved:
1. Raising the authorized share capital
First and foremost, a company must increase its authorized capitalization, which is the maximum number of shares it can issue. An investor’s subscribed capital represents the portion of the authorized capital they have agreed to share. The subscribed capital cannot exceed the authorized capital.
2. Conducting a Board Meeting
Additionally, a Board Meeting is needed to discuss matters related to fund raising. An appropriate resolution must be adopted in that regard. These pre-funding compliance issues in India include valuation report, list of allottees, offer period, finalizing the draft offer letter, finalizing the EGM notice, etc.
3. Conducting an Extra-Ordinary General Meeting (EGM)
To pass the private placement offer, an EGM is conducted. Contains the private placement offer as well as a certified true copy of the special resolution, Ministry of Corporate Affairs (MCA) forms like MGT-14 and PAS-4 are mailed to investors/allotees along with the necessary documents.
4. Issuance of Offer Letter
In any case, the private placement offer letter or application will need to be given to investors or allottees within 30 days of approval, either in writing or electronically. The Registrar of Companies must also receive a complete record of the private placement. The company can begin receiving funds once this is completed.
The following is the list of compliance requirements that need to be met prior to funding.
Compliance with Post-funding
The company is still required to comply with a list of post-funding requirements even after receiving funding from investors. In this way, smooth operations are maintained over time. Certain other compliance requirements are optional based on the particular transaction.
1. Issuance of shares
Private placement investors must receive their shares within 60 days of receiving funds. Additionally, investors must file a return of allotment within 30 days of the allocation.
2. Issuance of Share Certificates
In addition to the issue of share certificates, another important post-funding compliance involves the creation of a document that verifies ownership of the shares of a company by a named investor. By receiving this certificate, they become company shareholders. As per the Reserve Bank of India guidelines for fund raising, foreign investors need to observe a few additional compliances.
Unless the founders of your start-up have already prepared Share Subscription and Shareholder’s Agreements that include the restrictions on transfer of issued shares, the investors’ exit rights, vesting schedules, affirmative voting rights, and more, you must also comply with your post-funding obligations as well as regulations in India. Whenever such an event occurs, the Association’s Articles of Association need to be amended.
Furthermore, if an incoming investor requests a board seat, then an optional compliance of an addition of director must be completed.
Along with these requirements, there are a few documents that are required, even though they are not legally mandated. It is important that you become familiar with the documents needed to seek funding from start-ups.