Equity Funding Compliance for Startups in India
Equity funding is the famous source of funding for early-stage businesses in India. Equity funding is the exchange of partial ownership of the company for an amount of funding. We at Wazzeer advice our clients to give a serious thought on advantages and disadvantages associated with Equity funding reason being the compliances involved in this funding source invites the dilution of ownership of the company for the company’s founders. Now, had you assessed this source of funding, let’s look at the compliances involved in processing such funds for company’s use.
As you know receiving equity funds requires an exchange of shares in return, now the process of Issue of shares can be done in two ways Rights Issue, and Private Placement.
Rights Issue comes into picture If the Shares are to be issued to existing shareholders. Basically, the right to invest further in the company according to their existing shareholding has been incremented.
Private Placement comes into picture when the shares are to be issued to an investor who does not hold any shares in the company. According to Companies Act, at least shares worth Rs.20,000 in face value must be issued to one investor to do this. For e.g. if the face value of shares is Rs.10, at least 2,000 shares need to be issued to the investor to carry out Private Placement. If this is not the case, the shares can be issued through rights issue.
Compliance involved in processing equity funding:
Step 1: Authorized Share Capital Requirement
Authorized share capital: It is a limit up to which shares can be issued by the company. For eg. if the company issues shares at face value Rs.10 and the Authorized share capital of the company is Rs.10 Lac, the company can issue a maximum of 1 Lac equity shares
Paid Up Capital: It is the actual capital invested in the company in terms of face value i.e, while starting up, the company issues shares at face value and a paid up capital of 1 Lac in such a case means that 10,000 shares has been issued (If the face value is Rs.10)
Paid up capital cannot be more than Authorized share capital of the company. Hence if the Authorized share capital of the company is not sufficiently high it is required to be increased first before doing any other compliance to issue fresh shares
Step 2: Prepare draft of offer letter
In case of Private placement, offer letter (PAS-4) is sent either through post or electronic mode within thirty days of recording names of such people, along with the application form addressed to the person to whom the offer is made. In case of rights issue, offer letter must be dispatched to the shareholders at least three days before the opening of issue.
Step 3: Board Meeting
Board meeting must be conducted for approving ‘Letter of Offer’. According to Section 173(3) of Companies Act, a notice should be issued to every director at least seven days before conducting the meeting.
An Extraordinary General Meeting (EGM) is to be conducted in case of private placement. Also, a complete record for private placement must be prepared in form PAS-5. PAS-4 and PAS-5 must be filed with ROC within 30 days of issue of offer letter in GNL-2.
Step 4: Receive Application money
In case of rights issue, the application money can be paid in the form of cash also. In case of a Private placement though, the share application money should come to a separate Investment account of the company through banking channels only. After receiving application money, the second board meeting is held for approving allotment and issue of shares.
Step 5: Allotment of shares
In the case of Rights issue, the money can be transferred to either company’s main account or a separate investment account but in the case of Private placement, the fund should be transferred to a separate investment account of the company. File with Registrar a return of allotment in E-Form PAS-3 within 30 days of allotment of shares.
Step 6: Issue Share certificate
The company must issue share certificate to the investor within 60 days of allotment of shares. It cannot use the money until the certificate is issued. If the company doesn’t issue share certificate within the specified time, it will have to return the money to investors.
Note, Following documents need to be submitted to RBI in case of Foreign Investors:
- Advance Reporting Form: This form is to be filed within 30 days of receiving funds. This contains information relating to funds as KYC of Investors.
- FC-GPR Form: This form is required to be filed within 30 days from the date of issue of shares. In this form Certifications regarding the procedure, compliance needs to be certified from a CS. Along with this, valuation certificate certified by a CA must be submitted. Two documents are required to file this form-FIRC issued by the company’s bank and KYC issued by investor’s bank.