Most startups, at some stage, decide to go for seed funding from various types of investors. At this stage, it’s important that you know the set of legal documents you might need once you find the right investors. Missing out on any of these documents or the knowledge can send a wrong impression to the investors, which might lead to an image that you are not quite prepared for the seed finance.
This blog lists down and introduces 5 basic documents required to seek funding for startups in India. These are a must-have, so let’s understand them properly.
Funding startup companies requires five documents
As an investor, you are likely to share a variety of information with them about your business plan, financials, pitch deck, presentation, and so forth. Signing a Non-Disclosure Agreement (NDA) limits the investors’ ability to share this information with third parties or use it for any other purpose.
By doing this, you can pitch your business idea to an unlimited number of investors without worrying about data or ideas being misused.
If you are seeking funding for your startup, a valuation report is a legal requirement. Companies Act, 2013 requires a valuer to conduct a valuation, and the Income Tax Act, 1961 requires a merchant banker to conduct a valuation.
In addition, it gives you an idea of the fair market value of your shares, as well as allows you to choose the price at which you plan to issue the shares.
However, if you are registered with DPIIT, you can take advantage of some exemptions as to valuation.
The term sheet is the pact between the investors and the promoters/founders about how they will cooperate in providing seed funding. As a non-binding document, the Share Subscription and Shareholders’ Agreement (see below) captures the most basic and important terms. A longer and more cumbersome contract will only be signed when both parties have agreed to the financial investment terms.
Funding, corporate governance, and liquidation provisions should be covered in the document.
Any seed financing must have this document. The document clearly outlines the Investors’ rights in regards to their shares. The SSHA contains the following provisions:
Capitalization Table: Known as the “Cap Table,” it should provide the number of shares issued, the issue price, and the percentage holding. Seed funding is not possible without this information.
Transfer Restrictions: In transfer restriction provisions, the investors and promoters may wish to have rights, such as first refusal, first offer, and pre-emptive rights. As a result, existing shareholders have the right to purchase shares first and equity of the company is not obtained by the wrong individuals.
Exit Rights: When investors invest in startup companies, they want a good exit at the right price at the right time. They might not be very interested in investing in your start-up without this information. It is crucial to ensure exit provisions from the investors’ perspective.
Amendment to Articles of Association (AOA) of the Company
Every company has a constitution in its charter document. The charter lays out rights and duties for the company. The provisions of SSHA may be difficult to enforce if they are not included in the AOA. It is therefore imperative to ensure that all the important aspects of the SSHA are reflected in the AOA to ensure there is no room for discrepancies.
The concept of seed funding transcends simply having large amounts of capital on your books. The key to negotiating good SSHA with your investors is to make sure you raise funds without losing much control over your company and have minimal investor intervention.