A fund raising exercise is not an easy task, especially by startups. Therefore, we make a systematic plan to cover every legal aspect to raise investment from the potential investor.
We presented the whole exercise into the 4 steps.
Steps could be vary as per the size of the startups or nature of business but basic structure will remain the same as provided in the following points:
1. Approach Investor:
The first step in raising funds is to find and approach the potential investor. Your search can be begun with the help of the investment banker because investment bankers have a huge network of potential investors and they help the fast-growing startups with the investor.
At this stage, it is very important for the startups to have a concrete business plan to present before the investor. Once the investor is impressed by your business plan, then you have to proceed with the transaction, for this, you should execute the term sheet and non-disclosure agreement (NDA) with the potential investor to ensure that his business plan should not be shared with anybody.
2. Documentation stage:
Documentation stage is very important from a business point of view especially when you are entering into an investment deal. Followings are few of the important documents which should know to make the valid and secure to protect the business interest:
- Term Sheet:
The Term sheet is a document which addresses the legal or commercial issues in the form of a bullet point. Nature of the term sheet is not binding but if the parties then few clauses can be legally enforceable.
Term sheet outlines some material term and conditions, which eventually become the basis of preparing the final legal agreement such as share purchase agreement and shareholder agreement.
- Letter of Intent:
As such the nature is a concern; letter of Intent is same as the term sheet. Usually, letter of intent is used in merger and acquisition while term sheet is used in Venture capital or Private equity deals.
3. Due Diligence:
Due diligence is a most crucial stage not only from the startups point of few but from the potential investor point of view as well. Usually in the deal of merger or acquisition, all the liabilities of the old business become the liability of the new investor’s company. These liabilities could be any form like pending tax claims, product liability and so on and if these defects in the form of liabilities not detected before the finalising the deal, then there could have serious repercussion. Therefore, to minimise these risk, a due diligence exercise is carried out.
A due diligence is like a detailed checking of company’s documents to find out any irregularities and non-compliance of laws. Due diligence can be of different types, legal due diligence, financial due diligence, environmental due diligence, labour due diligence, factory due diligence, technology due diligence, tax due diligence and so on. Depending on the transaction, some of these due diligences may be carried out.
4. Execution of final Investment agreement:
Whenever the investment transaction is conducted, there are two components involved – subscription to the shares of the company or share purchase agreement. Subscription to new shares brings fresh capital in the company whereas purchasing shares from the existing shareholder does not infuse fresh funds in the company; it just provides an exit opportunity to the existing shareholder.
Normally in case of startups, there may be no purchase of shares because investor wants existing shareholder should remain in the company.
The most common investment documents are a share purchase agreement, shareholder agreement or a share subscription agreement, which are as follows:
- Share purchase agreement: A share purchasing agreement is executed between the existing shareholders and investor.
- Share subscription agreement: The shares subscription agreement is a document containing the terms for an investor to subscribe the shares of the company.
- Shareholders agreement: The shareholder agreement contains the term regarding the corporate governance, and some other rights for the protection of the investment and exit-related clause.
After execution of the documents, the money flows in the company and investor becomes the shareholder of the company.
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