WHAT NEXT ....Abhishek Khare, Senior Partner, Khare Legal Chambers

By Team YS|23rd Sep 2008
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Being there done that! This phase is one of the most difficult and also satisfying for all entrepreneurs. You have established the business model to suit you, created the required respect in the markets and still striving for more. Has to be! Entrepreneurs’ have to have this insatiable desire to grow, lead, change the orbit. Dhirubhai Ambani said - one must keep changing his orbit at regular intervals. Keep growing to grow more. But how? Most clichéd question; difficult to find a solution to fit your model; have asked this to zillions and gotten more than zillion ‘sabse fundu ideas’. Well, come to think of it, it’s not all that complex. It’s only as complex as you want to make it to be.

There are certain basic’s which one can keep in mind of the various main options available to an entrepreneur when he wants to take his enterprise from one orbit to the other.

A company seeking to raise capital may explore two essential options: equity financing and debt financing. Cost of such capital is a significant aspect that the company and its promoters / management must consider while choosing between the two, or a mix of the two. It is advisable to get advice from a qualified financial advisor on the optimum ratio of debt to equity (leverage/gearing); among other things, an acceptable leverage will depend on standards in the same industry.

Simply put, equity is when someone invests in your venture and gets a share in the venture. Equity is raised through an initial public offering, private equity, through the foreign direct investment route and the likes. Debt is simply a loan which you take with an obligation to repay a certain amount on a certain date and on certain other terms and conditions. Debt can be raised from within the family, friends, banks, private equity, financial institutions or through an offshore entity which would essential then comprise of an external commercial borrowing.

Private equity is a common tool for both equity and debt structure which is totally dependent on the intention of the promoter.


Debt may be short-term or long-term; it may be secured or unsecured. If unsecured by assets, the company’s promoters / directors will be required to issue personal guarantees or other third party guarantees acceptable to lenders. Loans may be secured through mortgage on land and building, hypothecation of assets (including receivables). Banks are conventionally the first lenders in line; they provide finance through term loans, working capital loans, overdraft facilities, facility and limits for letters of credit and bank guarantees. Companies may also avail debt through external borrowings, through issue of bonds, and project finance.

There are certain tax benefits in the debt route which ought to be explored.

Mezzanine Debt

Companies may also avail “mezz” debt or capital, where lenders provide debt that is subordinated to senior debt (of a primary lender) at higher interest rates. Lenders also acquire a portion of equity in the company through warrants or other convertible options. Typically promoters and the company are allowed to leverage on the mezzanine capital. Borrowing is usually through private placement.


Equity may be of many types depending on the business model and the future ideas of the entity. Lets briefly examine the main types of tools to raise equity.

  • Private Equity
  • Companies may raise capital through infusion of funds by private issue of securities; depending upon the stage at which the company receives investment, it is called angel funding, seed funding, venture capital investment or private equity investment.
  • Typically, investors provide finance and management expertise. In return for funding, investors acquire an agreed proportion of the equity of the company, usually in proportion to the risks and the amount of investment made by him.
  • Valuation of the company is usually an important discussion between the company’s promoters and investors. Valuation may be based on EBITDA or PAT.
  • Venture capital investment is generally a long-term investment and investors have exit options either at the time of merger or amalgamation or an initial public offering.
  • While accepting venture funding, promoters/directors of the company will also have to contend with restrictions on their employment and shareholding in the company.
  • Other rights investors will ask for to protect their investment are board seats, affirmative vote rights, liquidation preference, anti-dilution, pre-emption rights, valuation protection, and guaranteed exit.
  • Investment instruments are typically straight equity or other convertible (optionally or fully convertible) instruments, including preference shares, warrants, options, etc.


  • Initial Public Offering (IPO)
  • IPO is a form of public funding.
  • An IPO is when an unlisted company for the first time makes a fresh issue of securities or offers for sale of its existing securities or both to the public.

Lets discuss some details of Initial Public Offering (“IPO”) since that’s were most promoters want to head.

IPO is one of the easiest and the cheapest way to raise capital by a company. Banks and other institutional lenders may assist the company with debt capital to grow ones business in the early stages, however this is subject to payment of interest and providing collateral and personal guarantees. However there is no such financial obligation upon companies in case they raise money through IPO.

Eligibility criteria for IPO by unlisted companies

Securities and Exchange Board of India (Disclosure and Investor Protection) Guidelines, 2000 has laid down the following eligibility criteria for unlisted companies which intends to raise capital by means of public offer:

The unlisted companies must fulfill the following conditions:

  1. must have net tangible assets of at least Rs5 crore in the each of the preceding three years, of which more that 50% must be held in the form of monetary assets;
  2. must have distributable profit as per section 205 of the Companies Act, 1956 for the last three years out of the immediately preceding five years;
  3. must have a net worth of at least Rs1 crore in each of the preceding 3 full years;
  4. in case the company has changed its name in the last one year, at least 50% o the revenue for the preceding one year is earned by the company in its new name; and
  5. the aggregate of the proposed issue and all the previous issues made in the same financial year in terms of the size should not exceed five times its pre issue net worth as per the audited balance sheet of the last financial year.

If an unlisted company does not fulfill the aforesaid conditions, then the company can make a public issue if it fulfills the following conditions:

  1. the issue is to made through book building process, with at least 50% of the net offer to public to be allotted to the qualified institutional buyers; and
  2. the minimum post issue face value capital of the company shall be Rs10 crore.

In addition to fulfilling the aforesaid conditions, the number of allottees should not be less than 1000 in number.

Minimum public float requirement

As per Clause 40 A of the Listing Agreement, a company shall at all times maintain a public share holding of 25% of its total paid up capital. In other words, at least 25% of the post issue capital of a company must be issued to the public. However, if an issue is made under Section 19(2)(b) of Securities Contract (Regulations) Rules, 1957, then only 10 % of the post issue share capital can be held by public.

This issue is popularly called as the 19(2)(b) Issue and is the most popular method adopted by the companies coming out with IPO, which enables the company to offload only 10% of its shareholding to the public. The following conditions to be fulfilled for making an issue under Clause 19(2)(b):

  1. minimum of Rs20 lakh securities (excluding reservation, firm allotment and promoters contribution) to be offered to the public;
  2. the minimum size of the offer to the public should be Rs100 crore; and
  3. the issue must be made only through book building with allocation of 60% of issue to the qualified institutional buyers as specified by SEBI.

If a company does not fulfill the above-mentioned conditions, then it shall offer at least 25% to the securities for public subscription.

Other requirements

  1. No company shall issue its securities to public, if there are any outstanding financial instruments or any other right which would entitle the existing promoters or shareholders any option to receive equity capital after IPO.
  2. No company shall make public issue unless all existing partly paid share have been full paid or forfeited.
  3. Promoters must contribute at least 20% of the post issue capital, and the same shall be locked in for a period of 3 years. All other shares held by the promoters in excess of 20% shall be locked in for one year. All shares held by non promoters shall also be locked in for one year.

Some other important ‘tool’ to expand is strategic alliance, i.e. Mergers/Acquisitions/ Strategic Ventures:

  • Merger refers to the process of combination of two or more companies, whereby a new company is formed. Fresh infusion of capital takes place into the merged entity.
  • Acquisition is an act of acquiring effective control over assets or management of a company by another company without any combination.
  • In a substantial acquisition a company acquires substantial quantity of shares or voting rights. The acquiring entity usually provides the finance for further capital.
  • Both mergers and acquisition provide for financial synergies.
  • Companies may also form strategic alliances with partners in the industry / sector and raise capital through the joint venture / strategic partner. The partner will usually buy a stake in the company and sometimes, provide debt also.

These are some of the basic tools of finance and law to expand your enterprise. However, the most important ingredient to expand and grow is the will to grow and dream. Therefore, keep dreaming, keep growing and keep inspiring.

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