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Private fairness / Venture Capital Funding Of trade: Fuel For Healthy Start-Ups And Its Challenges


While an idea may be the genesis of an entrepreneurial enterprise, it is the economic responsibility that defines its success. Drawing an analogy from the aforementioned statement, it is right to state that, although the start-up of an enterprise may be convenient, the expansion of the trade requires certain financing requirements in addition to the initial initial capital. One of the most common methods of infusing additional capital into the company is the search for external third-party investments through private placement. Being less compliant from a regulatory perspective, such investments in the company's share capital are commonly preferred through private fairness funds or venture capital funds. The entity making such investments may be called an "Investor" for the purpose of further discussion.

Third party investments:

The search for third-party investments in the trade is a viable option for the market and there are several professionally managed private fairness funds and venture capital funds that are willing to finance the trade through investments in the company ("Company") . The investments are generally structured through the subscription of the fairness share capital or privileged of the Company and the shares are generally issued at a premium. The investor prefers to have representation on the Company's Board of Directors through its appointed directors who have certain affirmative voting rights on critical financial and managerial issues relating to the Company.

Investment terms:

Issues relating to the shareholding model, the issue cost of the shares issued to the investor, the control and management of the company, have reserved issues that require the investor's (or its representatives) affirmative voting rights , representation on the board of directors, etc. are dealt with in detail in the Joint Venture and Shareholders & # 39; Agreement ("Investment Documents") that are executed in connection with the investment. While funding provides the fuel needed for growth and expansion of the Company, there are some important terms that should be cautious about trading while looking for investments, including:

• Affirmative voting rights.

The Company should carefully manage the affirmative voting rights exercised by the Investor. Investors generally request a catalog of confidential things in which no action or decision can be taken either at the shareholders' assembly or at the assembly of the board of directors unless it has received the favorable vote of the investor (or of the its representatives). It is important to carefully examine the list of reserved topics so that it does not hinder the daily operations and flexibility of the promoter group to make decisions regarding the management and operation of the Company. Ideally, only those actions such as the approval of the audited annual financial statements; issue and transfer of shares; modification of the Memorandum of organization or the Statute or modification of the Company's objectives; transfer of fabric assets, etc., should require the affirmative vote of the Investor.

• Block for the promoter group.

Investors generally ask the promoter group of the Company not to transfer in any way (whether by sale, pledge, mortgage, etc.) Part or part of the respective shareholdings in the Company. This restriction can be or up to the dilution of the share held by the investor in a specific percentage of the issued, subscribed and paid-in share capital of the Company, or for a predetermined period of time ("Lock-in period"). . Compliance with this provision is a suspensive condition for the registration of any transfer of shares of the promoter group by the Company. After the expiration of the Lock-In Period, any transfer of shares to a strategic buyer requires a notice of pre-emption right for the Investor. generally investors apply this obligation only to the promoter group and not to themselves and may also retain the right to co-sell their shares (of the investor) to the strategic buyer in similar terms and conditions. The obligation for the promoter group not to sell its shares to a strategic buyer in the absence of selling the investor's rights becomes an onerous and sometimes difficult obligation to implement.

• Exit options.

Also discussed in the Investment Documents, are issues relating to the exit from the Investor from the Company. All the above terms and conditions are subject to agreed and agreed terms and conditions. generally an investor negotiates for the combination of more than one alternative option to exit the Company, typically one of the following options:

• Public offer.

The investor may request the Company to obtain a public offer and to obtain the listing of its shares on any stock exchange recognized in India or abroad that provides the right and / or capacity to do so. investor to express or sell his shares at the end of a term agreed from the closing date of the investment.
For the purpose of a public offer, the promoters generally accept and undertake to offer their actions to limit their transfer, as relevant to the "promoters" pursuant to the relevant guidelines of the India and the protection Council of India ("SEBI") and to ensure that the shareholding of Investor is not subject to such restrictions. In the case of a public offer, the parties will have to modify the investment documents to facilitate the public offer and make it comply with the SEBI guidelines or relevant laws.

• order of shares.

In the event that the Company is unable to undertake the Public Offer, the Investor may negotiate the option (to be exercised at its discretion) to request the Company to repurchase part or all of the stock shares of the Investor at a cost that can be pre-agreed or at the prevailing fair market cost. generally the investor negotiates for a cost that can be a multiple of the subscription cost for his shares, plus all dividends declared but not paid in this regard or therefore the relevant fair market cost, which is higher. In the case of foreign investors, the cost should also be ascertained in terms of the calculation methods prescribed by the Reserve Bank of India ("RBI") from time to time.

• Put Option.

In the event that the Company is unable to make a repurchase as stated above, the Investor may require the promoters to acquire all the shares of the Investor and on the exercise of this option, the promoters would be are obliged to order and acquire the investor's shares at a cost that can be based on an internal rate of return of the X% capitalized annually on the value of the total amounts invested by the Investor towards the subscription / order of Investor actions, or fair market value, whichever is the higher (subject to the RBI guidelines in the case of foreign investors).

• Strategic sale with drag-and-drop rights.

The investor can also try to go out by buying a strategic buyer to buy his shares. whether the buyer wishes, as part of the same transaction, to also acquire the entire share capital (100%) of the Company, the Investor may negotiate the right to require the promoters to sell to such buyer in relation to to that sale, such number of shares as the buyer may specify.

• Mandatory Put option for investors.

whether the promoter (s) fail to order all the shares held by the investor and in the event that the company is unable to implement the repurchase option and the investor fails to find a strategic buyer wishing to acquire the Investor's shares, sometimes the investor negotiates for a clause that entitles him to a Put Put option mandatory for investors & # 39; and obtain specific services to enforce the obligations of the promoter (s) to ensure the exit of the Investor. This is an option that must be avoided for the Company as it imposes burdensome contractual obligations on the promoters.

• Liquidation / liquidation of the company.

In the event that the promoters are unable to supply an exit to the investor as mentioned above, the parties may agree that the Company would immediately liquidate and no party would thing to such liquidation, and the proceeds of the liquidation would have been attributed to the then existing shareholders, including the investor (subject to any legal liability and payments). The investor can negotiate which will be paid by the proceeds of the liquidation first and preferably with respect to any distribution of other shareholders.

As is evident from preceding discussions, although funding is needed to bring the franchise trade to the next level of growth, any Investor Financing Agreement should be carefully structured and subjected to legal control to ensure that it does not take absent the management powers of the promoter group and takes strict and mandatory exit options on the group of promoters.

By Seema Jhingan
Seed Funding

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