ANGEL INVESTING SEEMS EASY BUT WHAT IS THE LEGAL PROCESS BEHIND IT ?
The standards for the global start-up community have been raised by the Indian start-up ecosystem. By providing financial backing to businesses and guiding and supporting them as they expand into the market, angel investors have had a significant impact. Although the process of angel investing for start-ups appears to be straightforward, it actually entails a number of difficult stages and formalities that both the fledgling company and the investor must fulfil. India today has more than 26,500 active angel investors, including private investors and successful entrepreneurs, up from just a few individuals more than ten years ago. Angel investment is a long-term endeavour, but it is currently becoming more and more popular in India, in large part due to a developing ecosystem and in part because firms have been successfully listed on the capital market. But the question which revolves around it is very simple that whether the legal process behind it is known to everyone and also is the process easy and speed. Legal process of angel investing is a long process which involves many steps to be taken and also people are less aware of it.
WHAT DO YOU MEAN BY ANGEL INVESTOR?
High-net-worth individuals who support tiny companies or entrepreneurs financially are referred to as angel investors or angel investors network (also known as private investors, seed investors, or angel funding). These individuals often do so in exchange for ownership stock in the start-up or entrepreneur’s business. Angel investors are frequently found among an entrepreneur’s friends and family. Angel investors may contribute one-time capital to help a firm get off the ground or continuing funding to help the business get through its challenging early phases.
LEGAL PROCESS BEHIND ANGAL INVESTING IN INDIA:
Angel investing requires following a long legal process in India which includes the following steps-
• NDA: NON DISCLOSURE AGREEMENT: In order to protect against idea theft and misuse under all circumstances, the investor and start-up both should sign a nondisclosure agreement. This agreement will guarantee the parties’ rights and safeguard their mutual exclusivity during the meeting and pitch. An NDA must be signed in order for an angel investor to have access to company information to analyse potential start-ups and invest in strong start-ups. The parameters of the investment and the amount of the investment that the start-up and the investor are discussing are also covered by the non-disclosure agreement.
• COMPANY VALUATION BY CHARTERED ACCOUNTANT: To go to the next step of investing in the business, one must ensure that the firm’s valuation has been assessed by a certified Chartered Accountant in order to determine the genuine equity value of the company. The price per share for the company will either be issued at par, a discount, or a premium once the company’s valuation has been established. This will help both the start-up and the investor to know the value of their investment and the mindset will be clear from the beginning.
• DUE DILIGENCE: Before moving forward with the funding process, the investor does what is basically an investigation by reviewing all the documentation related to the favoured start-up and assessing its future market potential. An investor must make sure he follows the due diligence procedure, which includes cross-questioning to confirm important hypotheses and identify avoidable errors.
• SUBSCRIPTION OR LOAN AGREEMENT: By signing the subscription agreement or loan agreement, an investor must describe how he is willing to put his angel investment into a firm. An angel investor can finance a firm by either purchasing stock in it through a Subscription Agreement or by lending it money through a Loan Agreement.
1. A subscription agreement: A subscription agreement outlines a shareholder’s intent to purchase shares as well as his eligibility to do so. It stipulates that in order for the subscriber to become a shareholder, the start-up must consent to selling a set number of shares at a specific time and price. In exchange, the subscriber consents to purchase the shares at a given time and price.
2. A loan agreement: A loan agreement is a legal document that outlines the pledges that the investment party and the start-up have made to one another in the form of debentures or other financial instruments. The investor obtains his investment returns by funding the money as a loan for a defined interest to be paid after a specified time period by signing a loan agreement.
• SHAREHOLDER’S AGREEMENT: The shareholder’s agreement and the subscription agreement are sometimes confused, but they have different purposes. A shareholder’s agreement outlines each shareholder’s rights in the corporation and establishes their relationship to one another. Along with other terms, the contract outlines the investor’s shareholder transfer rights.
• INVESTMENT TERMS AND NEGOTIATIONS IN TERMSHEET: at this stage of agreement the investor negotiates on the terms and conditions of the start-ups. Some main points are taken care of in the term sheet such as:
A) Liquidation Preferences: By requesting a specific liquidation preference that ensures his investment security, an investor can protect his investment when a start-up is looking to wind up or rearrange specific components of a company. A participating or non-participating liquidation preference is up to him.
B) Warrants coverage: In accordance with the terms of the agreement between the firm and the shareholder or investor, a warrant equal to a predetermined portion of the investment is issued by the company. It enables the investor to purchase shares at a specified cost.
C) Conversion Rights: A shareholder’s right to convert Series A preferred shares into shares of common stock at a predetermined conversion rate is outlined by the conversion rights.
D) Automatic Conversion: This provision permits the automatic conversion of the Investor’s Stock into Common Stock at the Applicable Conversion Rate at: closure of a publicly offered security with strong underwriting Rather, the majority of the holders of the outstanding preferred stock must agree in writing.
E) Anti-Dilution Rights: An anti-dilution clause in an option, security, or merger agreement allows the investor the right to keep his proportional ownership in the startup company by purchasing an equivalent number of shares of any subsequent issuance of the security.
F) Redemption Rights: A startup that issues preferred stock to angel investors may be required to buy back their shares from the company after a set amount of time.
G) Voting Rights: A shareholder’s rights on business policy are determined by their ability to vote. There are instances where the voting majority is necessary to conduct corporate action, and voting rights vary across different instruments.
H) Dividends: For an investor, dividends act as a return guarantee. In the early stages, dividend payments are frequently irregular. Investors frequently allow companies to develop to the preferred size over time in order to accumulate dividends. The preferred dividend would increase after the investment period, i.e., during the startup sale or IPO, benefiting the investor from the fixed return.
I) Board Participation: Through board participation, an individual investor or group of investors has the option of running for election to the company’s board of directors.
J) D&O Insurance: The directors and officers of the company are covered by this liability insurance. If an insured person experiences a loss as a result of legal action brought for alleged wrongdoing committed in their role as directors or officers, it is reimbursed as reimbursement for losses or an advance on defence costs.
K) Pro-rata/pre-emptive rights: These rights give investors the world best business opportunity, but not the obligation, to keep their current level of ownership during succeeding funding rounds.
L) Information Rights: As required by the information rights, the corporation must provide the following information to investors: 90 days after the conclusion of every fiscal year, the yearly financial accounts must be audited. Unaudited quarterly financial reports must be provided no later than 45 days after the end of each quarter, along with a comparison of the results to those forecasted in the company’s annual budget.
M) Letter Expiration: A letter’s expiration date specifies how long it is still valid. If the business fails to return the original copy or fax the signed copy to the investor before the deadline, the form is deemed void.
• After-investment assistance: You officially become an angel investor or a stakeholder of the company once the aforementioned processes are finished. Following that, the business is required to give the investor quarterly reports. As an investor, you must provide operating and management methods for the company to make it more viable.
For any said process of investment there’s a lot of process to follow as the investor has to see whether the company in which he/she is investing is worth it or not. It has the future market or not which is very important for any start-up to grow as a full-fledged business. The angel investing process might seem very lengthy and time taking but it has helped a lot of start-ups to grow and to become efficient with the funds and expertise given by the investors. It is crucial that the system functions within the goals of the legal domain for any industry to develop to the point where it benefits the economy and many other people’s lives. The aforementioned rights have been established to protect the investor and enable them to support start-ups and build a robust start-up ecosystem that will inevitably benefit start-ups, jobs, and the national economy.
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