Blog Content Overview
- 1 Treelife Resources
- 1.1 Explore our resources to fuel your success and propel your business forward.
- 1.2 Latest Posts
- 1.2.0.1 NIFTY 50: The Asset Class Killer – A 28-Year Journey…
- 1.2.0.2 Termination Clauses in a Contract – Definition, Types, Implications
- 1.2.0.3 Delhi High Court Upholds Tax Treaty Benefits for Tiger Global…
- 1.2.0.4 Major Boost for Reverse Flipping: Indian Startups Coming Home
- 1.2.0.5 IFSCA’s Single Window IT System (SWIT): A Game Changer for…
- 1.2.0.6 SEBI Regulations for Angel Fund Investments in India
- 1.2.0.7 Sovereign Green Bonds in the IFSC
- 1.2.0.8 Introducing BHASKAR: Transforming India’s Startup Ecosystem
- 1.3 Thought Leadership
- 1.4 When and Why to Shut Down a Startup?
- 1.5 Shutting Down a Startup -Step by Step Process
- 1.6 Retaining for Future Legal Compliance
- 1.7 Conclusion
- 1.8 FAQs on Shutting Down a Startup
- 1.8.0.1 1. What does it mean to shut down a startup?
- 1.8.0.2 2. What are the primary reasons startups may need to shut down?
- 1.8.0.3 3. What are the first steps to take when deciding to shut down a startup?
- 1.8.0.4 4. How should a startup handle its employees during the shutdown?
- 1.8.0.5 5. What legal requirements must be fulfilled to shut down a startup in India?
- 1.8.0.6 6. What is the difference between winding up and strike-off?
- 1.8.0.7 7. What financial obligations must a startup fulfill before shutting down?
- 1.8.0.8 8. What data security measures should be taken during a shutdown?
- 1.8.1 Related posts:
- 1.9 What is Spacetech and What does it comprise?
- 1.10 Key Regulatory Bodies of Spacetech in India
- 1.11 Key Legislations and Policies
- 1.12 International Treaties
- 1.13 Contractual Agreements for a Space Company in India
- 1.14 Intellectual Property (IP) for Space Tech Companies in India
- 1.15 India’s Foreign Direct Investment (FDI) Policy in the Space Sector
- 1.16 Gaps in the FDI Policy 2024 for Space-Tech
- 1.17 Concluding Thoughts
- 1.18 What are Small and Medium Enterprises (SME)?
- 1.19 What is an IPO?
- 1.20 Why should SMEs explore IPO?
- 1.21 What are IPO Listing Platforms?
- 1.22 Why IPO Listing Platforms?
- 1.23 Eligibility Criteria for Listing
- 1.24 Choosing the Right SME IPO Listing Platform
- 1.25 The SME Listing Process: A Step-by-Step Breakdown
- 1.26 Challenges and Considerations for SME IPOs
- 1.27 NSE Emerge – Criteria For Listing
- 1.28 BSE SME – Criteria For Listing
- 1.29 Conclusion
- 1.30 FAQs on SME IPO Listing
- 1.31 Introduction
- 1.32 Highlights of the CERT-IN Directions
- 1.33 Challenges Faced and Recommendations
- 1.34 Consequences for Non-compliance
- 1.35 Conclusion
- 1.36 Annexure
- 1.37 Understanding the Role of Board Observers
- 1.38 Board Observer Rights – How does it work?
- 1.39 Is a Board Observer an officer in default?
- 1.40 The Legal Perspective on Board Observers
- 1.41 Conclusion
- 1.42 FAQs on Board Observers
- 1.43 Understanding the Role of Board Observers
- 1.44 Board Observer Rights – How does it work?
- 1.45 Is a Board Observer an officer in default?
- 1.46 The Legal Perspective on Board Observers
- 1.47 Conclusion
- 1.48 FAQs on Board Observers
- 1.49 What is SaaS?
- 1.50 What are SaaS Agreements?
- 1.51 What are the types of Agreement in SaaS Industry
- 1.52 Conclusion
- 1.53 FAQs on Types of SaaS Agreements
- 1.54 Introduction
- 1.55 Relationship between a Shareholders’ Agreement and the Articles of Association (‘AOA’)
- 1.56 Incorporation of arbitration clauses
- 1.57 Navigating the landscape and concluding thoughts
- 1.58 What Is Equity Dilution?
- 1.59 When Does Equity Dilution Happen?
- 1.60 Working of Equity Dilution
- 1.61 Example of Equity Dilution
- 1.62 Effects of Equity Dilution
- 1.63 How to minimize equity dilution?
- 1.64 Pros of Equity Dilution:
- 1.65 Cons of Equity Dilution:
- 1.66 Conclusion
- 1.67 Frequently Asked Questions (FAQs) on Equity Dilution in India
- 1.68 What is Vesting?
- 1.69 What is a Vesting Period?
- 1.70 What are Vesting Schedules?
- 1.71 Types of Vesting Schedules
- 1.72 Examples of Vesting: Employee Stock Option Plans and Founder Vesting – Explained:
- 2 Frequently Asked Questions (FAQs) on Vesting in India:
- 2.1 MCA Streamlines Cross-border Mergers for Reverse Flipping
- 2.2 Understanding Sovereign Green Bonds
- 2.3 Key Features of the IFSCA’s SGrB Scheme
- 2.4 We Are Problem Solvers. And Take Accountability.
Latest Posts
September 30, 2024 | Legal
Termination Clauses in a Contract – Definition, Types, Implications
Read MoreSeptember 30, 2024 | Taxation
Delhi High Court Upholds Tax Treaty Benefits for Tiger Global…
Read MoreThought Leadership
Shutting Down a Startup – A Step by Step Guide
Blog Content Overview
- 1 When and Why to Shut Down a Startup?
- 2 Shutting Down a Startup -Step by Step Process
- 3 Retaining for Future Legal Compliance
- 4 Conclusion
- 5 FAQs on Shutting Down a Startup
- 5.0.1 1. What does it mean to shut down a startup?
- 5.0.2 2. What are the primary reasons startups may need to shut down?
- 5.0.3 3. What are the first steps to take when deciding to shut down a startup?
- 5.0.4 4. How should a startup handle its employees during the shutdown?
- 5.0.5 5. What legal requirements must be fulfilled to shut down a startup in India?
- 5.0.6 6. What is the difference between winding up and strike-off?
- 5.0.7 7. What financial obligations must a startup fulfill before shutting down?
- 5.0.8 8. What data security measures should be taken during a shutdown?
When and Why to Shut Down a Startup?
While the startup journey can be exhilarating, as with any business venture, there may come a time when the path forward is a dead-end. Causes such as unsustainable business models, unforeseen market shifts, funding challenges, or a change in vision can impact the lifespan of a startup, leading to the difficult decision to shut down the business.
Similar to setting up an enterprise, closing a business requires careful planning and execution, taking into account the applicable laws. This article aims to provide a quick reference guide to navigate the shutting down of an enterprise in compliance with the legal and regulatory framework in India.
Shutting Down a Startup -Step by Step Process
The shutting down of an enterprise is a complex and layered process that not only requires strict compliance with the applicable legal framework but also requires structuring such that personal assets are protected and losses during the closure process are minimized.
1. Stakeholder Management
Making the decision to shut down an enterprise requires a thorough evaluation of the company’s financial health and obligations, and consultation with key stakeholders (including shareholders and investors). Investors brought into the company as part of the funding process will typically have exit requirements that are contractually negotiated and recorded in the relevant transaction documents. The closure of the company will accordingly have to take into account any contractually agreed liquidation distribution preference.
2. Labour Law Compliance
Labour disputes in India are largely governed by the Industrial Disputes Act, 1947 (“IDA”). Subject to the applicability of the IDA to the concerned employee, the company will be required to adhere with strict conditions stipulated by IDA in the event of closure[1] of business. Accordingly, the company will be required to apportion for severance pay and settlement of any outstanding salary or social security contributions that are due and payable by the company. Compliance with the applicable labor laws may also impact the timelines set out for closure of the enterprise. For example, subject to the conditions set out in the IDA, the company may be required to obtain approval for the closure from the competent governmental authority and send prior notice of 60 days intimating employees of the intent of closure. Further, the amount of compensation payable to the employee is also impacted by the circumstances leading to closure.
3.Financial Management
In the event of closure, it is mandatory that the creditors of the company (both contractual and statutory) are apportioned for. In this regard it is critical to note that the Indian courts have previously held that funds raised through a share subscription agreement bore the nature of a commercial borrowing, making a claim for unachieved exit/buyback admissible under the Insolvency and Bankruptcy Code, 2016[2]. As such, a clear resolution plan that settles all statutory (including taxation and social security contributions) and contractual liabilities of the company will be required.
4. Closure Option under Company Law – Winding Up
The Registrar of Companies (“ROC”) maintains records of incorporation and closing of companies (considered “juristic persons” in law). As such, closure of an enterprise attracts certain statutory processes dependent on the circumstances leading up to the closure. For companies that are yet to settle all liabilities, and further to the introduction of the Insolvency and Bankruptcy Act, 2016 (“IBC”), the companies can close their businesses under the Companies Act, 2013 (“CA”), through a winding up petition submitted to the National Company Law Tribunal (“NCLT”). This process requires a special resolution of the shareholders approving the winding up of the company.
The company (and such other persons as expressly permitted by the CA) will need to file a petition before the NCLT under Section 272 along with specified supporting documentation such as a ‘statement of affairs’ (format prescribed in the law). The petition will be heard by the NCLT, during the process of which the company will be required to advertise the winding up[3]. Once the winding up is satisfied, the NCLT will pass a dissolution order, which dissolves the existence of the company and strikes off its name from the register of companies. This process is largely left up to the discretion of the NCLT, and the tribunal is empowered to appoint a liquidator for the company (through the IBC) or reject a petition on justifiable grounds. The company would be bound by the order of NCLT to complete the winding up and consequent dissolution.
5. Closure Option under Company Law – Strike Off
For companies that are not carrying on any business for the two preceding financial years or are dormant, an application can be made directly to the ROC for strike off, thereby skipping the winding up process. However, this is subject to the conditions that the company has extinguished all liabilities and obtained approval of 75% of its shareholders for the strike-off. A public notice is required to be issued in this regard, and unless any contrary reason is found, the ROC will thereafter publish the dissolution notice in the Official Gazette and the company will stand dissolved. Startups are able to avail of a fast-track model implemented by the Ministry of Corporate Affairs, which would allow these companies to close their business within 90 days of applying for the strike-off process. This allows companies to achieve closure quickly, save on unnecessary paperwork and filings and avoid prolonged expenses.
6. Closing Action
While the disposal of assets is often built into the resolution of creditor and statutory dues, it is crucial that the company also take steps to close all bank accounts maintained in its name, ensure that applicable registrations under tax and labor laws be canceled, and complete all closing filings with the ROC and competent tax authorities to record the closure and dissolution of the company. This will ensure that the company’s closure is sanctioned and appropriately recorded by the competent governmental authorities.
Retaining for Future Legal Compliance
Mere closure of the business does not alleviate data security obligations under the law. All sensitive data must be properly backed up, archived, or securely destroyed following data privacy regulations. Essential business records must be maintained for a specific period as required by law and in compliance with the NCLT orders.
Conclusion
Closure of an entity or startup has far-reaching implications, most critically of all, over its employees and its creditors (both contractual and statutory). As such, the legal framework mandates that the employees and creditors are taken care of in the closure process. Typically, where a plan has not been realized for settlement of these obligations, the company enters into the winding up stage, where such liabilities are settled. The final stage of this closure process is the dissolution of the entity itself, – akin to a “death” for the company as a juristic person. However, the framework is designed to ensure that the closure of the enterprise does not absolve the obligations of the company and its officers in charge to settle the outstanding liabilities.
As more and more entrepreneurs go on to build billion dollar companies, the Indian startup ecosystem has evolved to embrace failure. As PrivateCircle Research claims, “this isn’t just about success, it’s about resilience, learning from failure, and leveraging those experiences to scale greater heights. Serial entrepreneurs come into their second or third ventures with insights, experience and often better access to networks or capital.” This rings true in the trend of venture capitalists and investors looking for founders who have experienced failure and come back stronger, associating the difficult decision to declare a venture a failure as a mark of grit, adaptability and flexibility.
FAQs on Shutting Down a Startup
1. What does it mean to shut down a startup?
Shutting down a startup involves formally closing the business, which includes settling debts, complying with legal requirements, and ensuring proper stakeholder management.
2. What are the primary reasons startups may need to shut down?
Common reasons include unsustainable business models, market shifts, funding challenges, and changes in the founders’ vision or strategy.
3. What are the first steps to take when deciding to shut down a startup?
The first steps include evaluating the company’s financial health, consulting with stakeholders (like investors and employees), and developing a clear plan for the closure process.
4. How should a startup handle its employees during the shutdown?
Compliance with labor laws is crucial. This may include notifying employees, providing severance pay, and settling any outstanding salaries or benefits as per the Industrial Disputes Act, 1947.
5. What legal requirements must be fulfilled to shut down a startup in India?
Legal requirements include filing for winding up or strike-off with the Registrar of Companies (ROC), ensuring compliance with the Companies Act, and settling all statutory and contractual liabilities.
6. What is the difference between winding up and strike-off?
Winding up is a formal process for companies with outstanding liabilities, requiring a petition to the National Company Law Tribunal (NCLT). Strike-off is a quicker process available for dormant companies without liabilities, allowing them to be dissolved directly through the ROC.
7. What financial obligations must a startup fulfill before shutting down?
A startup must settle all outstanding debts, including those owed to creditors, employees, and statutory obligations (such as taxes and social security contributions).
8. What data security measures should be taken during a shutdown?
Companies must ensure sensitive data is backed up, archived, or securely destroyed in compliance with data privacy regulations. Essential business records should be maintained as required by law.
References
[1] “Closure” defined under Section 2(cc) of the Industrial Disputes Act, 1947 as the “permanent closing down of a place of employment or part thereof”.
[2] https://nclt.gov.in/gen_pdf.php?filepath=/Efile_Document/ncltdoc/casedoc/2709138051512024/04/Order-Challenge/04_order-Challange_004_172804362182744265066ffda65dd44f.pdf
[3] The NCLT winding up process under the earlier provisions required:
Three copies of the winding up petition will be submitted to NCLT in either Form WIN-1 or WIN-2, accompanied by a verifying affidavit in Form WIN-3. Two copies of the statement of affairs (less than 30 days prior to filing petition) will be submitted in Form WIN-4 along with an affidavit of concurrence of statement of affairs in Form WIN-5. NCLT will take the matter up for hearing and issue directions for advertisement. Accordingly, copy of petition is to be served on every contributory of the company and newspaper advertisement to be published in Form WIN-6 (within 15 days).
Spacetech in India: A Legal and Regulatory Overview
Blog Content Overview
- 1 What is Spacetech and What does it comprise?
- 2 Key Regulatory Bodies of Spacetech in India
- 3 Key Legislations and Policies
- 4 International Treaties
- 5 Contractual Agreements for a Space Company in India
- 6 Intellectual Property (IP) for Space Tech Companies in India
- 7 India’s Foreign Direct Investment (FDI) Policy in the Space Sector
- 8 Gaps in the FDI Policy 2024 for Space-Tech
- 9 Concluding Thoughts
What is Spacetech and What does it comprise?
Space technology, often shortened to spacetech, refers to the application of engineering and technological advancements for the exploration and utilization of space. It encompasses a vast array of disciplines, from designing and launching satellites to developing advanced propulsion systems for efficient space travel. Ground infrastructure, robotics, space situational awareness, and even life sciences for human spaceflight all fall under the umbrella of space-tech.[1]
Spacetech comprises:
- Upstream Segment: activities involving design, development and production processes necessary for creating space infrastructure and technology. This additionally encompasses material supply to the integration and launch of space vehicles, ensuring successful deployment and operation of spacecraft and satellites.
- Downstream Segment: activities involving utilization and application of space-based data and services, focusing on the development and deployment of satellite-based products for various sectors.
- Auxiliary Segment: activities related to space insurance services, space education, training and outreach programs, collaborations and technology transfers, and commercialization of spin-off products.
The space technology sector in India operates under a comprehensive legal and regulatory framework designed to promote innovation, facilitate private sector participation, and protect national interests. This framework is governed by several key regulatory bodies and policies that ensure the sector’s growth and compliance with both national and international standards. This handy overview aims to provide a quick reference guide to understand the complex legal and regulatory framework governing India’s space sector.
Key Regulatory Bodies of Spacetech in India
S. No. | Regulatory Body | Role |
1. | Department of Space (DoS) | 1. The apex body for space activities in India, DoS oversees policy formulation and implementation. 2. DoS coordinates between ISRO, other government agencies, and private entities to ensure policies are in line with national objectives. It also represents India in international space forums. |
2. | Indian Space Research Organisation (ISRO) | 1. As India’s premier space agency, ISRO is responsible for the planning and execution of space missions, satellite launches, and space research. 2. ISRO governs the operational aspects of space missions, including satellite deployment, mission planning, and research initiatives. It ensures adherence to safety protocols and technical standards. |
3. | Indian National Space Promotion and Authorization Center (IN-SPACe) | 1. IN-SPACe acts as a regulatory body to promote and authorize space activities by non-governmental entities. 2. Provides a single-window clearance for private sector space projects, ensuring they meet safety and compliance standards. IN-SPACe facilitates private sector participation by streamlining regulatory processes. |
4. | NewSpace India Limited (NSIL) | 1. The commercial arm of ISRO, NSIL is responsible for promoting Indian space capabilities globally. 2. Facilitates commercial satellite launches and space-related services, ensuring compliance with international trade laws. NSIL manages the commercialization of space products, technical consultancy services, and technology transfer. |
5. | Antrix Corporation Limited (ACL) | 1. The marketing arm of ISRO, Antrix Corporation Limited is responsible for promoting and commercially exploiting space products, technical consultancy services, and transfer of technologies developed by ISRO. 2. ACL deals with the commercialization of space products and services, including satellite transponder leasing, satellite launches through PSLV and GSLV, marketing of data from Indian remote sensing satellites, and the establishment of ground systems and networks. ACL ensures compliance with international trade and export control regulations. |
Key Legislations and Policies
S. No. | Statue | Purpose | Provision |
1. | ISRO Act (1969) | The ISRO Act was enacted to establish the Indian Space Research Organisation (ISRO) as the primary body responsible for India’s space program. | The Act defines ISRO’s mandate to conduct space research and exploration. It empowers ISRO to develop space technology, launch vehicles, and satellites, and to carry out research in space science. The Act also outlines the organizational structure and governance of ISRO, ensuring it operates under the guidance of the Department of Space. |
2. | Satellite Communication Policy (1997) | This policy aims to foster the growth of a robust domestic satellite communication industry. | The policy provides guidelines for satellite communication services, including licensing procedures, spectrum allocation, and operational standards. It promotes the use of satellite technology for telecommunications, broadcasting, and internet services. The policy encourages private sector participation and aims to enhance India’s capabilities in satellite communication. |
3. | Revised Remote Sensing Data Policy (RSDP) (2011) | The RSDP regulates the collection, dissemination, and use of satellite remote sensing data. | The policy mandates that remote sensing data with a ground resolution of 1 meter or less be acquired only through government channels. It sets guidelines for data acquisition, processing, and distribution to ensure national security and strategic interests. The policy aims to balance data accessibility with security concerns, promoting the use of remote sensing data for sustainable development and disaster management. |
4. | NRSC Guidelines (2011) | Issued by: ISRO’s National Remote Sensing Centre (NRSC) These guidelines focus on regulating the acquisition and dissemination of remote sensing data. | The guidelines set standards for data handling, including data quality, accuracy, and security. They outline the procedures for data licensing, usage, and dissemination, ensuring that remote sensing data is used responsibly and in compliance with national policies. |
5. | ISRO Technology Transfer Policy and Guidelines (2020) | To establish a framework for transferring technologies developed by ISRO and the Department of Space (DoS) to industry partners. | The policy facilitates the commercialization of ISRO’s technologies, promoting their wider application in various industries. It includes guidelines for licensing, royalty agreements, and intellectual property rights. The policy aims to foster innovation and support the growth of the Indian space technology ecosystem by enabling industry access to advanced space technologies. |
6. | Geospatial Guidelines, 2021 | The Geospatial Guidelines aim to liberalize the geospatial data sector in India, promoting ease of access and utilization of geospatial data and private sector participation. | The Geospatial Guidelines, 2021, largely permit foreign investments up to 100% under the automatic route with limited foreign investment restrictions. These guidelines are relevant to satellite-generated data, a key component of the space-tech sector. Additionally, the guidelines remove specific restrictions on satellite-generated data, promoting the wider use of satellite imagery. The provisions also ensure alignment with national privacy laws and international treaties. |
7. | Foreign Direct Investment (FDI) Policy | Allow for higher FDI limits (up to 74% for satellites, 49% for launch vehicles, and 100% for components). | The policy sets guidelines for foreign investments in space-related activities, encouraging international partnerships and collaboration. It aims to enhance the competitiveness of the Indian space industry by facilitating access to global markets and advanced technologies. However, clarification is needed on the definitions of “satellite data products” and the categorization of launch vehicle sub-components to ensure smooth implementation. |
8. | Constitution of India (Articles 51 & 73) | Upholds India’s obligations under the Vienna Convention on the Law of Treaties. | These articles ensure that India complies with established legal principles for peaceful space exploration. Article 51 promotes international peace and security, while Article 73 extends the executive power of the Union to the exercise of rights under international treaties and agreements. |
9. | Telecommunications Act (Upcoming) | To clarify regulations for satellite communication. | The Act will streamline processes for obtaining licenses and spectrum allocation for satellite communication services. It aims to enhance regulatory clarity, reduce bureaucratic hurdles, and promote the efficient use of satellite communication technology in India. |
10. | Indian Space Policy (2023) | A transformative policy allowing private companies to offer satellite communication services using their own satellites or leased capacity. | The policy permits private entities to operate in both Geostationary (GSO) and Non-Geostationary (NGSO) orbits. It simplifies the approval process by designating IN-SPACe as the single nodal agency for all approvals, promoting ease of doing business and fostering innovation in the private space sector. |
11. | Department of Telecommunications (DoT) – Satcom Reforms (2022) | To complement the 2023 Space Policy by expediting application processing times and simplifying procedures. | The reforms lower compliance requirements for private companies, establish a clear roadmap for obtaining necessary clearances, and streamline regulatory processes. They aim to create a more conducive environment for the growth of the satellite communication industry. |
12. | Foreign Exchange Management (Non-Debt Instruments) Rules (2019; amended 2024) | To complement the 2023 Space Policy by recognising the Space sector and liberalizing the foreign direct investment thresholds. | The reform liberalizes the thresholds for automatic entry of foreign direct investment through the space sector, reducing the burden of obtaining governmental approval for such investments. |
International Treaties
India is a signatory to several key space treaties, ensuring compliance with international norms for peaceful space exploration:
S. No. | Treaty | Provision |
1. | Outer Space Treaty (1967) | The treaty includes guidelines on the non-appropriation of outer space, liability for space activities, and the prohibition of nuclear weapons in space. It promotes the peaceful use of outer space and international cooperation. |
2. | Agreement on the Rescue of Astronauts (1968) | This agreement obligates countries to assist astronauts in distress and return them to their country of origin. It establishes protocols for the rescue and safe return of astronauts. |
3. | Convention on International Liability for Damage Caused by Space Objects (1972) | The convention establishes a legal framework for liability and compensation for damages caused by space objects. It outlines procedures for resolving liability claims and determining compensation amounts. |
4. | Agreement Governing the Activities of States on the Moon and Other Celestial Bodies (1979) | The agreement regulates activities on the Moon and other celestial bodies, emphasizing their use for peaceful purposes. It promotes international cooperation and prohibits the establishment of military bases on celestial bodies. |
5. | Convention on Registration of Objects Launched into Outer Space (1975) | The convention mandates the registration of space objects launched by countries, ensuring transparency and accountability. It requires countries to provide details of their space objects, including orbit parameters and launch information. |
Contractual Agreements for a Space Company in India
Establishing and operating a space company in India involves various contractual agreements [2] to protect intellectual property, and manage commercial relationships effectively.
S. No. | Name of the Legal Agreement | Description |
Regulatory Compliance | ||
1. | Licensing Agreements | These agreements ensure compliance for satellite launches and operations. They must include clauses for adherence to regulatory guidelines, renewal terms, and compliance with any changes in regulations. |
2. | Launch Service Agreements | These contracts outline terms for satellite launches using Indian vehicles, covering payload specifications, launch schedules, costs, risk allocation, insurance, and liability for launch failures or delays. |
Intellectual Property (IP) Protection | ||
3. | Technology Transfer Agreements | These agreements govern technology transfers from ISRO or other entities, defining the technology, IP ownership, usage rights, confidentiality, sublicensing, and further development. |
4. | Non-Disclosure Agreements (NDAs) | NDAs protect trade secrets and confidential information, defining confidential information, duration of obligations, and permitted disclosures. |
5. | IP Licensing Agreements | These agreements allow the use of patented technologies, trademarks, or copyrighted materials, specifying the license scope, usage rights, territorial limitations, royalty payments, and mechanisms for addressing infringement. |
Commercial Contracts | ||
6. | Satellite Lease Agreements | These contracts specify terms for leasing satellite transponders or entire satellites, including lease periods, payment terms, service levels, maintenance, upgrades, and liability for interruptions. |
7. | Service Level Agreements (SLAs) | SLAs establish performance metrics and service quality standards for satellite communication services, defining KPIs, penalties, service monitoring, reporting, and dispute resolution mechanisms. |
8. | Joint Venture (JV) Agreements | JV agreements define roles, responsibilities, and contributions in joint projects, including profit sharing, management structure, exit strategies, IP ownership, confidentiality, and dispute resolution. |
Risk Management | ||
9. | Insurance Contracts | These contracts cover risks associated with satellite launches and operations, providing comprehensive coverage for pre-launch, launch, and in-orbit phases, including claim procedures. |
10. | Indemnity Clauses | Indemnity clauses allocate risk and liability, defining the scope of indemnity, covered events, third-party claims, defense obligations, and mutual indemnity arrangements. |
Operational Agreements | ||
11. | Ground Station Agreements | These contracts govern the use and operation of ground stations, defining access rights, maintenance, operational support, payment terms, service levels, and liability for interruptions. |
12. | Data Sharing and Usage Agreements | These agreements outline terms for sharing and using satellite data, defining data access rights, usage limitations, data security, privacy, compliance, ownership, licensing, and monetization. |
Intellectual Property (IP) for Space Tech Companies in India
The legal framework for Intellectual Property Rights (IPR) in India provides robust protection for space tech companies by protecting innovations, fostering creativity, and encouraging investment. The Indian government has established a legal framework to safeguard IPR in the space industry, ensuring that companies can secure and monetize their innovations.
S. No. | Types of IP | Description | Example |
1 | Trademark | Function: Companies can register trademarks for their brands, logos, and other identifiers. This helps in building brand recognition and protecting against unauthorized use or infringement. Registration: Trademarks registration is optional but advisable, and once granted will be valid for 10 years, renewable every decade. | |
2 | Copyright | Function: Space tech companies can protect their software, technical manuals, and marketing materials under copyright law. Prevents unauthorized reproduction and distribution of proprietary content. Registration: The creator owns the copyright 60 years from creation before the work becomes public. | Software code, satellite imagery, technical documentation, mission designs, manuals, and more. Example – Satellite mission documentation, control software |
3 | Patent | Function: Space tech companies can file patents for new inventions related to space technology, including satellite components, launch vehicles, and software algorithms. Registration: The Act provides protection for 20 years from the date of filing, allowing companies to exclusively exploit their inventions. | Rocket designs, propulsion systems, satellite components, drastically unique or different technology, and more. Example – ISRO’s cryogenic engine patents |
4 | Design | Function: Companies can register designs for components and products used in space technology, such as satellite bodies and ground station equipment. Registration: The Designs Act offers protection for registered designs enumerated as follows: Initial validity: A registered design certificate is valid for 10 years from the date of registration. Extension: The protection can be extended for an additional 5 years by filing an application and paying the prescribed fee. | Satellite structures, rocket exterior designs, space module configurations, and more. Example – Exterior design of the GSLV Mk III rocket |
5 | Trade Secret | Function: Trade secrets are confidential, commercially valuable information known to a limited group and protected by the rightful owner through reasonable measures, typically including confidentiality agreements. Provisions: Although there is no specific legislation for trade secrets in India, they are protected under common law principles of confidentiality and contract law. Companies can use non-disclosure agreements (NDAs), confidentiality clauses, and other contractual arrangements to protect their trade secrets. | Manufacturing processes, proprietary algorithms, satellite data processing techniques, and more. Example- Proprietary algorithms for satellite data compression and transmission |
India’s Foreign Direct Investment (FDI) Policy in the Space Sector
In line with the vision of the Indian Space Policy 2023 and further to the Union Budget 2024-25, the Foreign Exchange Management (Non-Debt Instrument) Rules, 2019 (“NDI Rules”) were amended by way of Gazette notification dated 16 April 2024[3] to prescribe liberalized FDI thresholds for various sub-sectors/activities in India’s spacetech ecosystem. This is seen as a welcome change as the erstwhile policy was restrictive, requiring significant government oversight and limiting avenues for private sector participation.
FDI Policy and amendment to NDI Rules, 2024
Existing foreign investment limits in the space sector are provided under Chapter 5 of the Consolidated FDI Policy Circular of 2020[4], which are yet to be updated to reflect the amendment to the NDI Rules. The NDI Rules recognize “space” as a sector in itself in Schedule I, and the crux of the policy lies in the categorization of space-related activities and the corresponding FDI thresholds. Here’s a breakdown of the key categories and their investment limits:
Activity | FDI Threshold and Route |
Satellites – manufacturing & operation; satellite data products, ground segment & user segment | Up to 74% automatic, beyond 74% up to 100% under government route |
Launch vehicles and associated systems or subsystems, creation of spaceports for launching and receiving spacecraft | Up to 49% automatic, beyond 49% up to 100% under government route |
Manufacturing of components and systems or sub-systems for satellites, ground segment and user segment | Up to 100% automatic |
The investee entity is required to adhere to sectoral guidelines issued by the Department of Space from time to time. The amended NDI Rules also incorporate definitions for the purpose of identifying the applicable FDI threshold and route:
(i) “Satellites – Manufacturing and Operation”: end-to-end manufacturing and supply of satellite or payload, establishing the satellite systems including control of in-orbit operations of the satellite and payloads;
(ii) “Satellite Data Products”: reception, generation or dissemination of earth observation or remote sensing satellite data and data products including Application Interfaces (API);
(iii) “Ground Segment”: supply of satellite transmit or receive earth stations including earth observation data receive station, gateway, teleports, satellite Telemetry, Tracking and Command (TTC) station and Satellite Control Centre (SCC), etc.;
(iv) “User Segment”: supply of user ground terminals for communicating with the satellite, which are not covered in Ground Segment;
(v) “Launch Vehicles and Associated Systems or Sub-systems”: vehicle and its stages or components that is designed to operate in or place spacecraft with payloads or persons, in a sub-orbital trajectory, or earth orbit or outer space;
(vi) “Manufacturing of components and systems or sub-systems for satellites Ground Segment and User Segment”: comprises the manufacture and supply of the electrical, electronic and mechanical components systems or sub-systems for satellites, Ground Segment and User Segment.
Gaps in the FDI Policy 2024 for Space-Tech
The amendments to the NDI Rules proposed to also be carried out to the existing FDI Policy 2020 aim to liberalize the spacetech sector, but certain gaps and ambiguities still exist that need to be addressed for it to be fully effective.
- Requirement to Comply with Sectoral Guidelines: The policy mandates that investee entities must comply with sectoral guidelines issued by the Department of Space, which counteracts the intended liberalization.
- Clarity on “Satellites – Manufacturing & Operation”: The term “satellites – manufacturing & operation” does not explicitly cover spacecrafts that may not be categorized as satellites, creating potential ambiguity.
- Definition of “Satellite Data Products”: The term “satellite data products” conflicts with the Geospatial Guidelines, which allow up to 100% foreign investment under the automatic route for similar data products, which might lead to regulatory overlaps and conflicts.
- Overlapping Activities: Companies engaged in activities spanning multiple categories (e.g., manufacturing components for both satellites and launch vehicles) must restrict foreign investments to the stricter category thresholds. This may necessitate business restructuring to comply with the new regulations.
- Grandfathering Existing Investments: The policy does not clearly address how existing investments, made under previous interpretations of the FDI rules, will be treated. Companies that received investments without explicit government approval may require post-facto government approval.
Concluding Thoughts
Given the national contribution advancements in space tech bring about, it is natural that a degree of government oversight is still built into the legal and regulatory framework. While the amendments to the NDI Rules signify an exciting turn of events for the space tech sector in India, the significant nature of it is still required to be captured across applicable legislations. Further, the proposed 2024 FDI policy does not completely do away with the requirement to comply with sectoral guidelines, or provide complete clarity on critical terms commonly used in the industry. Further, the nature of overlapping business activities could trigger restructuring of businesses, with no clarity provided on grandfathering existing investments. These are likely to be the subject of any clarificatory orders from the Ministry of Finance (Department of Economic Affairs).
References:
[1] https://it.telangana.gov.in/initiatives/spacetech
[2] In addition to the above agreements, space companies may also need to enter into other agreements, such as marketing agreements, sponsorship agreements, and international collaboration agreements. The specific agreements that a space company needs to enter into will depend on its specific business model and operations.
[3] https://egazette.gov.in/WriteReadData/2024/253724.pdf
[4] https://dpiit.gov.in/sites/default/files/FDI-PolicyCircular-2020-29October2020_0.pdf
SME IPO Listing in India – Platforms, Eligibility, Process
Blog Content Overview
- 1 What are Small and Medium Enterprises (SME)?
- 2 What is an IPO?
- 3 Why should SMEs explore IPO?
- 4 What are IPO Listing Platforms?
- 5 Why IPO Listing Platforms?
- 6 Eligibility Criteria for Listing
- 7 Choosing the Right SME IPO Listing Platform
- 8 The SME Listing Process: A Step-by-Step Breakdown
- 9 Challenges and Considerations for SME IPOs
- 10 NSE Emerge – Criteria For Listing
- 11 BSE SME – Criteria For Listing
- 12 Conclusion
- 13 FAQs on SME IPO Listing
In recent years, the SME IPO listing in India has emerged as a vital avenue for small and medium enterprises (SMEs) to access capital and enhance their market presence. With a growing number of platforms facilitating these listings, SMEs can now tap into public funding more easily than ever. This blog will explore the various platforms available for SME IPOs, the eligibility criteria that businesses must meet, and the step-by-step process involved in listing on the stock exchange. Understanding these elements is crucial for entrepreneurs looking to leverage the benefits of going public and drive their growth in a competitive landscape.
What are Small and Medium Enterprises (SME)?
Small and Medium enterprises (SMEs) are classified as such through the Micro, Small and Medium Enterprises Development Act, 2006, wherein eligibility thresholds are prescribed for enterprises engaged in manufacture or production of goods in specified industries; or enterprises providing or rendering of services, as captured below:
Category | Small Enterprise | Medium Enterprise |
Engaged in manufacture or production of goods in specified industries | Investment in plant and machinery is more than INR 25,00,000 but does not exceed INR 5,00,00,000. | Investment in plant and machinery is more than INR 5,00,00,000 but does not exceed INR 10,00,00,000. |
Engaged in providing or rendering of services | Investment in equipment is more than INR 10,00,000 but does not exceed INR 2,00,00,000. | Investment in equipment is more than INR 2,00,00,000 but does not exceed INR 5,00,00,000. |
Note: When calculating the investment in plant and machinery, the cost of pollution control, research and development, industrial safety devices and such other items as may be specified, by notification, shall be excluded.
What is an IPO?
Initial Public Offering (IPO) is the first invitation by a company to have their equity securities purchased by the general public. This allows the company to raise capital by inviting public investment into the company. Given that the general public is involved in the fund raising process, the IPO is subject to strict scrutiny and exhaustive regulatory compliances. This is typically undertaken by companies that have a large and established presence, and with a paid up share capital of at least INR 10,00,00,000. Such companies would be traded directly on the platforms hosted by the Bombay Stock Exchange (BSE) and the National Stock Exchange (NSE), and are required to strictly comply with regulations prescribed by the Securities and Exchange Board of India (SEBI) from time to time.
Why should SMEs explore IPO?
SMEs are the backbone of the Indian economy and play a crucial role in job creation, innovation, and overall economic growth. These companies often face challenges when it comes to raising capital for growth as they have limited access to capital. In this context, an IPO is extremely beneficial to an SME:
- Capital Injection: Public offerings attract a broader pool of investors, enabling SMEs to raise significant funds for growth initiatives like expanding operations, investing in research and development, or acquiring new technologies.
- Enhanced Credibility: A successful listing serves as a public validation of a company’s financial health and governance practices. This newfound credibility can attract valuable partnerships, potential acquisitions, and a wider customer base.
- Increased Liquidity: Listing on an exchange creates a secondary market for the company’s shares. This allows existing investors to easily exit their positions and attracts new investors seeking participation in the company’s future. Improved liquidity benefits both the company and its shareholders.
What are IPO Listing Platforms?
Traditional listing platforms India as hosted on the BSE and NSE are subject to exhaustive regulatory compliances, including multiple layers of approval by SEBI, BSE and/or NSE (as chosen by the company). This can contribute to the inaccessibility of capital leading to the emergence of SME IPO Listing Platforms as a game-changer.
As on date, two IPO Listing Platforms are hosted in India exclusively for SMEs:
- BSE SME Platform: Established by the Bombay Stock Exchange (BSE), this platform offers a dedicated marketplace for SMEs to list their shares. It provides a comprehensive support system, including guidance on regulatory requirements and listing procedures.
- NSE Emerge: This platform, operated by the National Stock Exchange of India (NSE), caters specifically to the needs of growing companies. It offers a transparent and efficient listing process, along with educational resources and investor outreach programs.
Operating in accordance with relaxations on IPO processes prescribed for SMEs by SEBI, these platforms create an opportunity for SMEs to take advantage of the expedited process and increase their access to capital.
Why IPO Listing Platforms?
To avail the core advantages of going for an IPO, SME IPO Listing Platforms offer a more streamlined and cost-effective path to going public compared to the traditional IPO route. Reduced regulatory requirements and simplified processes make it easier for promising SMEs to access the capital markets.
In the following sections, we’ll delve deeper into the specifics of these platforms, exploring the eligibility criteria for listing and also address potential challenges and considerations for SMEs contemplating this exciting funding option.
These platforms operate on leading stock exchanges and provide a streamlined process for SMEs to go public. By listing their shares on these platforms, SMEs can:
- Raise capital: Public investors can purchase shares in the company, injecting much-needed funds for expansion and development.
- Enhanced credibility: A public listing demonstrates a company’s financial transparency and stability, potentially attracting more business opportunities and partnerships.
- Increased liquidity: Shareholders can easily buy and sell shares, providing greater liquidity for the company’s stock.
Eligibility Criteria for Listing
To be eligible for listing on an SME IPO Platform, companies must meet specific criteria established by the Securities and Exchange Board of India (SEBI) and the respective stock exchange. Here’s a general overview:
- Company Type: The company must be a Public Limited Company incorporated under the Companies Act, 1956 or 2013.
- Track Record: A minimum track record of operations, typically 3-5 years, is often required.
- Financial Performance: The company must demonstrate consistent profitability and a healthy financial position. Specific requirements for minimum net worth and positive cash flow may apply.
- Post-Issue Capital: The paid-up capital of the company after the IPO should typically fall within a specific range, often between Rs. 1 crore and Rs. 25 crore.
Choosing the Right SME IPO Listing Platform
While both BSE SME and NSE Emerge offer avenues for SME growth, selecting the optimal platform requires careful consideration of several factors:
- Industry Focus: A platform with a strong presence in the target sector can provide access to more targeted investors, potentially leading to a more successful IPO.
- Investor Base: Analyze the existing investor base of each platform. If the company caters to a niche market, choose the platform that attracts investors interested in similar sectors. This increases the likelihood of finding investors who understand your business model and are more likely to invest.
- Listing Fees: Compare the listing fees and ongoing maintenance charges associated with each platform. While cost shouldn’t be the sole deciding factor, understanding the financial implications is crucial. Choose the platform that offers a competitive fee structure while aligning with the budget.
- Support Services: Evaluate the level of support and guidance offered by each platform. Some platforms provide comprehensive assistance with the listing process, regulatory compliance, and investor outreach. Choose the platform that offers the level of support that best suits the needs of the company and internal resources.
By carefully considering these factors, SMEs can make an informed decision about which platform best positions them for a successful IPO and sustainable growth.
The SME Listing Process: A Step-by-Step Breakdown
The process of listing on an SME IPO Platform involves several crucial steps:
1. Appointment of Advisors:
- Merchant Banker: This financial institution acts as the lead manager, handling the entire IPO process, from pre-IPO planning to investor outreach and post-listing activities.
- Legal Counsel: An experienced lawyer ensures compliance with all legal and regulatory requirements throughout the listing process.
- Statutory Auditor: An independent auditor conducts a thorough audit of the company’s financial statements to provide an impartial assessment of its financial health.
2. Preparation of Documents:
- Draft Red Herring Prospectus (DRHP): This comprehensive document outlines the company’s financial position, business plan, future prospects, and details of the proposed IPO. It serves as a crucial information source for potential investors.
3. Regulatory Approvals:
- SEBI: The Securities and Exchange Board of India is the primary regulator for the Indian stock market. Seeking approval from SEBI ensures compliance with all relevant regulations and protects investor interests.
- Stock Exchange: After receiving SEBI approval, the company must obtain approval from the chosen SME IPO Platform (BSE SME or NSE Emerge) for listing.
4. Pre-IPO Due Diligence:
- An appointed intermediary, typically the merchant banker, conducts a thorough due diligence process to verify the information provided in the DRHP and assess the company’s financial health and future prospects. This protects investors and ensures accurate information dissemination.
5. IPO Launch and Marketing:
- Once all approvals are obtained, the IPO is officially launched. This involves intensive marketing efforts to attract potential investors. Roadshows, presentations, and targeted marketing campaigns are all essential during this stage.
6. Listing and Trading:
- Upon successful completion of the IPO, the company’s shares begin trading on the chosen SME platform. This marks a significant milestone, providing the company with access to public capital and increased visibility.
Challenges and Considerations for SME IPOs
While SME Listing Platforms offer a promising route for growth, navigating the process and maintaining success requires careful consideration of potential hurdles:
- Market Volatility: The stock market is inherently volatile. Fluctuations in market sentiment can significantly impact the success of an IPO. Careful timing and a well-defined marketing strategy can help mitigate these risks.
- Regulatory Compliance: Maintaining ongoing compliance with SEBI regulations requires expertise and dedicated effort. Partnering with experienced legal counsel ensures adherence to all regulations and protects the company from potential penalties.
- Investor Relations: Building and nurturing strong relationships with investors is crucial for long-term success. Regular communication, transparent reporting, and addressing investor concerns are key to fostering trust and confidence. Strong investor relations can lead to continued support and enhanced share value.
NSE Emerge – Criteria For Listing
Parameter | Criteria for listing – SMEs | Criteria for listing – Technology Startups* | |
1. | Incorporation | Incorporated under Companies Act 1956/2013 | Incorporated under Companies Act 1956/2013 |
2. | Post Issue Paid-up Capital | Post issue paid up capital (face value)<= INR 25 cr. | Post issue paid up capital (face value)<= INR 25 cr. |
3. | Track Record | •Positive EBITDA in at least 2 out of the last 3 financial years preceding the application •Positive Net Worth | • Annual Revenue >= INR 10 cr. • Annual growth (users/revenue/customer base) >= 20%• Positive Net Worth |
4. | Shareholding conditions | No specific shareholding condition | • At least 10% of its pre-issue capital to be held by qualified institutional buyer(s) (QIB) as on the date of filing of draft offer document. • At least 10% of its pre-issue capital should be held by a member of the angel investor network or Private Equity Firms and Such angel investor network or Private Equity should have had an Investment in the start-up ecosystem in 25 or more start-ups their aggregate investment is more than 50 crores as on the date of filing of draft offer document |
5. | Other Conditions | • The applicant company has not been referred to erstwhile Board for Industrial and Financial Reconstruction (BIFR) • No proceedings have been admitted under Insolvency and Bankruptcy Code against the issuer and Promoting companies • The company has not received any winding up petition admitted by a NCLT / Court. • No material regulatory or disciplinary action by a stock exchange or regulatory authority in the past three years against the applicant company. | The applicant Company has not been referred to erstwhile Board for Industrial and Financial Reconstruction (BIFR) • No petition for winding up is admitted by a Court of competent jurisdiction against the applicant Company. • No material regulatory or disciplinary action by a stock exchange or regulatory authority in the past three years against the applicant company. |
6. | Disclosure Requirements | • Any material regulatory or disciplinary action by any authority in past one year • Any defaults in respect of payments • Litigation against the promoters • Track record of directors with respect to any cases filed or ongoing investigations , etc. | • Any material regulatory or disciplinary action by any authority in past one year • Any defaults in respect of payments • Litigation against the promoters • Track record of directors with respect to any cases filed or ongoing investigations , etc. |
BSE SME – Criteria For Listing
Parameter | Criteria For Listing – SMEs | |
1. | Incorporation | Incorporated under Companies Act 1956/2013 |
2. | Post Issue Paid-up Capital | Post issue paid up capital (face value)<= INR 25 cr. |
3. | Track Record | •Positive Net Worth •Net Tangible Assets should be INR 1.5 crores •Company must have distributable profits for at least two out of the last three financial years, excluding extraordinary income. •The company or the partnership/proprietorship/LLP Firm or the rm which have been converted into the company should have a combined track record of at least 3 years. OR •In case it has not completed its operation for three years then the company/ partnership/ proprietorship/ LLP Firm should have been funded by Banks or financial institutions or Central or state government or the group company should be listed for at least two years either on the main board or SME board of the Exchange. |
4. | Other Conditions | •It is mandatory for a company to have a website. •It is mandatory for the company to facilitate trading in demat securities and enter into an agreement with both the depositories. •There should not be any change in the promoters of the company in preceding one year from date of filing the application to BSE for listing under SME segment |
5. | Disclosure Requirements | • A certificate from the Applicant Company / Promoting Company stating that the Company has not been referred to the Board for Industrial and Financial Reconstruction (BIFR).•There is no winding up petition against the company, which has been admitted by the court or a liquidator has not been appointed. |
Conclusion
In India, SME IPO listing platforms have become a game-changer for small and medium enterprises (SMEs) seeking to scale new heights. These platforms act as launchpads, providing SMEs with much-needed capital to fuel innovation, expand operations, and achieve their full potential. This, in turn, injects fresh dynamism into the Indian economy. Investors also benefit immensely, gaining access to a pool of promising young companies with the potential for explosive growth. The Indian government’s active support for SME IPOs, coupled with the continuous refinement of these listing platforms, paints a very optimistic picture for the future. However, navigating this exciting space isn’t without its challenges. SME IPOs often come with stricter listing requirements and lower liquidity compared to established main boards. Additionally, for investors, careful due diligence is paramount before venturing into these potentially volatile, yet highly rewarding, investment opportunities. By fostering a responsible investment culture and addressing existing challenges, India can ensure that its SME IPO market continues to thrive, propelling the nation’s economic growth for years to come.
FAQs on SME IPO Listing
1. What is an SME IPO?
An SME IPO is an Initial Public Offering specifically for Small and Medium Enterprises. It allows SMEs to raise capital by inviting public investment, helping them expand, improve liquidity, and enhance credibility.
2. What are SME IPO listing platforms?
SME IPO listing platforms are specialized stock exchange segments in India—like the BSE SME Platform and NSE Emerge—that cater specifically to SMEs. These platforms offer a more streamlined and cost-effective way for smaller companies to go public.
3. Why should an SME consider going public?
Going public through an IPO allows SMEs to:
- Access a broader pool of capital
- Increase brand visibility and credibility
- Provide liquidity for existing investors
- Open up new avenues for partnerships and growth
4. How do SMEs benefit from listing?
SMEs gain easier access to capital, increased visibility, and potentially higher valuations.
5. What benefits do investors gain from SME IPOs?
Investors in SME IPO benefit by:
- Accessing early-stage investment opportunities in high-growth companies
- Potentially realizing higher returns if the SME succeeds post-listing
- Diversifying their portfolios with promising companies in various sectors
6. Are there any challenges in SME IPO Listing?
SME IPOs often have stricter listing requirements, lower liquidity, and involve higher risk due to the young companies.
7. Are there any specific requirements for technology startups listing on NSE Emerge?
Yes, technology startups on NSE Emerge must:
- Have positive annual revenue of at least INR 10 crore
- Show annual growth in users, revenue, or customer base of at least 20%
- Ensure that 10% of pre-issue capital is held by qualified institutional buyers or a recognized angel investor network
8. How does the government support SME IPOs?
The government establishes regulations, offers tax benefits, and promotes awareness for both SMEs and investors.
9. What should investors consider before investing?
Conduct thorough due diligence on the company, understand the inherent risks, and invest within their risk tolerance and long-term goals.
Blog Content Overview
Introduction
Reason for these Cyber Security Directions
In an increasingly digital world, the threats posed by cyberattacks have become a significant concern for organizations worldwide. Recognizing the urgency of the situation, on April 28, 2022, the Indian Computer Emergency Response Team (“CERT-IN”) introduced new directives that mandate all cybersecurity incidents be reported within a stringent timeframe. This move marks a significant shift in India’s approach to cybersecurity, underscoring the need for rapid response and heightened vigilance.
Scenario before these Directions
Prior to these directives, many organizations struggled with limited visibility into cybersecurity threats, leading to incidents that were either inadequately reported or overlooked altogether. The lack of comprehensive analysis and investigation of these incidents often left critical gaps in understanding and mitigating cyber risks. With the implementation of this directive, organizations are now compelled to reassess their internal cybersecurity protocols, ensuring that robust measures are in place to meet these new reporting requirements.
Highlights of the CERT-IN Directions
Applicability
These directions cover all organisations that come within the purview of the Information Technology Act, 2000.
Individuals, Enterprises, and VPN Service Providers are excluded from following these directions.
Types of Incidents to be Reported
The directions provide an exhaustive list of incidents that need to be reported within the timeframe mentioned (refer Annexure I). In addition to these directions, the entities to whom these directions are applicable also need to continue following Rule 12 of the Information Technology (The Indian Computer Emergency Response Team and Manner of Performing Functions and Duties) Rules, 2013, and report the incidents as elaborated therein.
Timelines and How to Report
Timeline. All incidents need to be reported to CERT-IN within 6 (Six) hours from the occurrence of the incident or of the incident being brought to the respective Point of Contact’s (“POC”) notice.
Reporting. Incidents can be reported to CERT-IN via Email at ‘[email protected]’, over Phone at ‘1800-11-4949’ or via Fax at ‘1800-11-6969’. Further details regarding reporting and the format to be followed are uploaded at ‘www.cert-in.org.in’.
Designated Point of Contact (POC)
The reporting entities are mandated to designate a POC to interface with CERT-IN. All communications from CERT-IN seeking information and providing directions for compliance shall be sent to the said POC.
Maintenance of Logs
The directions mandate the reporting entities to enable logs of all their information and communications technology systems (“ICT”) and maintain them securely for a period of 180 days. The ambit of this direction is broad and has potential of bringing in such entities who do not have physical presence in India but deal with any computer source present in India.
ICT Clock Synchronization
Organizations are required to synchronize the clocks of all their ICT systems by connecting to the Network Time Protocol (“NTP”) Server provided by the National Informatics Centre (“NIC”) or the National Physical Laboratory (“NPL”), or by using NTP servers that can be traced back to these sources.
The details of the NTP Servers of NIC and NPL are currently as follows:
NIC – ‘samay1.nic.in’, ‘samay2.nic.in’
NPL – ‘time.nplindia.org’
However, the government has provided some relief, that not all companies are required to synchronize their system clocks with the time provided by the NIC or the NPL. Organizations with infrastructure across multiple regions, such as cloud service providers, are permitted to use their own time sources, provided there is no significant deviation from the time set by NPL and NIC.
Challenges Faced and Recommendations
Challenges
- Limited Infrastructure and Resources: Many companies, especially tech startups may struggle to develop the necessary capabilities for large-scale data collection, storage, and management needed to report incidents within a six-hour timeframe.
- Stringent Guidelines compared to International Standards: For example, Singapore’s data protection laws require cyber breaches to be reported within three days, which aligns with the General Data Protection Regulation (GDPR).
- Increasing complexity of Cybercrime Detection: Identifying cybersecurity breaches can take days or even months. Additionally, the new guidelines have expanded the list of reportable incidents from 10 to 20, now including attacks on IoT devices. Currently, many organizations do not have an integrated framework that can monitor breaches across different platforms and devices, making it even more challenging to detect and report incidents.
Recommendations to comply with the 6 hours Timeframe
- Reassess Practices and Procedures: Organisations, especially tech startups should review and update their breach reporting protocols to align with CERT-IN directions. This includes evaluating breach severity, clarifying reporting responsibilities among involved parties, and planning for non-compliance risks.
- Enhance Organizational Capabilities: Startups need to strengthen their ability to quickly identify and report cyber breaches. This includes training staff, conducting regular security audits, and managing personal device use. Given their limited resources, robust cybersecurity practices are vital for startups to protect against attacks and ensure their growth.
- Enable and Maintain Logs: CERT-IN requires organizations to enable and maintain logs. Startups should carefully select which logs to maintain based on their industry to ensure they can promptly identify and report cyber incidents, staying compliant with the reporting timeframe.
Consequences for Non-compliance
- Failure to comply with the directions can result in imprisonment for up to 1 year and/ or a fine of up to INR 1 Crore (approximately USD 1,20,000).
- Other penalties under the IT Act may also apply, such as the confiscation of the involved computer or computer system.
- If a company commits the offence, anyone responsible for the company’s operations at the time will also be liable. Furthermore, if the contravention occurred with the consent, involvement, or neglect of a director, manager, secretary, or other officer, that individual will also be considered guilty and subject to legal action.
Conclusion
The CERT-IN Directions issued on 28th April 2022 mark a significant step towards strengthening India’s cybersecurity framework. These directions introduce stringent reporting timelines, enhanced data retention requirements, and new compliance obligations for service providers, intermediaries, and other key entities. By mandating swift reporting of cyber incidents within 6 hours and enforcing strict penalties for non-compliance, CERT-IN aims to bolster the security and trustworthiness of India’s digital infrastructure. The intention behind the introduction of these measures is laudable but from a compliance point of view, the direction can be overreaching and may not be the most efficient manner of dealing with cybersecurity threats.
Annexure
Types of Incidents to be reported include:
- Attacks or malicious/suspicious activities affecting systems/servers/software/applications related to Artificial Intelligence and Machine Learning.
- Targeted scanning/probing of critical networks/systems.
- Compromise of critical systems/information.
- Unauthorised access of IT systems/data.
- Defacement of website or intrusion into a website and unauthorised changes such as inserting malicious code, links to external websites etc.
- Malicious code attacks such as spreading of virus/worm/Trojan/Bots/Spyware/Ransomware/ Cryptominers.
- Attack on servers such as Database, Mail and DNS and network devices such as Routers.
- Identity Theft, spoofing and phishing attacks.
- Denial of Service (DoS) and Distributed Denial of Service (DDoS) attacks.
- Attacks on Critical infrastructure, SCADA and operational technology systems and Wireless networks.
- Attacks on Application such as E-Governance, E-Commerce etc.
- Data Breach.
- Data Leak.
- Attacks on Internet of Things (IoT) devices and associated systems, networks, software, servers.
- Attacks or incident affecting Digital Payment systems.
- Attacks through Malicious mobile Apps.
- Fake mobile Apps.
- Unauthorised access to social media accounts.
- Attacks or malicious/suspicious activities affecting Cloud computing systems/servers/software/applications.
- Attacks or malicious/suspicious activities affecting systems/servers/networks/software/applications related to Big Data, Blockchain, virtual assets, virtual asset exchanges, custodian wallets, Robotics, 3D and 4D Printing, additive manufacturing, Drones.
Blog Content Overview
In the complex world of corporate governance, the role of board observers has emerged as a key component, especially in the wake of increased investor scrutiny, particularly in the private equity (PE) and venture capital (VC) sectors. With growing financial uncertainty, investors are looking for ways to maintain a closer watch on companies without assuming directorial risks. One such method is by appointing a board observer, a role that, although devoid of statutory voting power, can wield significant influence.
A board observer’s position in the intricate realm of corporate governance is crucial and varied. With increased distress particularly in the private equity sector, we may see investors deploying various tools to keep a closer eye on the company’s financial performance. Appointing a board observer is one such tool.
Despite not having statutory authority or the ability to vote, board observers have a special position of influence and can provide productive insights.
Board observers quite literally are individuals who are fundamentally appointed with the task to ‘observe’. They act as representatives typically from major investors, strategic partners, or key stakeholders, and are granted access to board meetings.
Understanding the Role of Board Observers
Board observers are not formal members of the board, nor do they hold the power to vote on corporate decisions. However, their presence in board meetings is a tool used primarily by major investors, strategic partners, and other key stakeholders to monitor the company’s strategic direction and financial health. These individuals are entrusted with providing valuable insights without the direct legal responsibilities that directors typically face.
Although board observers do not have a formal vote, their influence can shape company strategies. This unique role enables them to represent the interests of investors or stakeholders while remaining free from the direct obligations of fiduciary duties.
Board Observer Rights – How does it work?
Investors involved in the venture capital (VC) and private equity (PE) spaces often negotiate for a board seat with the intent to contribute to the decision-making process and protect their interests by having representation on the board. A recent trend, however, indicates that these investors are reluctant to formally exercise their nomination rights owing to the possible risks/liabilities associated with directorships, such as fiduciary duties and vicarious liability that is often intertwined in the acts and omissions of the company, which can lead to such directors being identified as “officers in default”.
The rights and responsibilities of a board observer are distinct from those of a nominee director, primarily due to the lack of formal voting authority. Accordingly, board observers are relieved from the direct fiduciary duties that are normally connected with board membership since their position is specified contractually rather than by statutory board responsibilities.
Is a Board Observer an officer in default?
The Act provides a definition for the term “Officer” which inter alia includes any person in accordance with whose directions or instructions the board of directors of the company or any one or more of the directors are accustomed to act. Additionally, the term “Officer in Default” states that an Officer of the company who is in default will incur liability in terms of imprisonment, penalties, fines or otherwise, regardless of their lack of an official position in the company.
Accordingly, any person who exercises substantial decision-making authority on the board of the company may be covered as an Officer in Default.
While board observers may not be equivalent to formal directors, the litmus test lies in determining where the decision-making power truly resides, leading to potential liabilities that may surpass the protections sought by investors.
Observers are not subject to a company’s breach of any statutory provisions because their appointment is based on a contractual obligation rather than a statutory one, unlike nominee directors who are permitted to participate in board meetings.
Even though board observers are not designated as directors, they run the risk of being seen as “Shadow Directors” if they have a significant amount of authority or influence over the decisions made by the company.
The Legal Perspective on Board Observers
Unlike nominee directors, who are formally appointed and legally bound to fulfill statutory responsibilities, board observers are appointed through contractual obligations. This shields them from liabilities tied to breaches of statutory provisions. However, as their influence grows, so does the risk of being classified as shadow directors, particularly if they are perceived as playing a significant role in decision-making.
Conclusion
Corporate Governance is an evolving concept, especially in the context of active investor participation. In order to foster a corporate environment that is legally robust, it will be imperative to strike a balance between active investor participation and legal prudence. That being said, as businesses continue to navigate complex and evolving landscapes, the value of a well-integrated board observer cannot be overstated. A board observer can bring clarity to the business and operations of an investee company without attaching the risk of incurring statutory liability for acts/omissions by the company. This is a significant factor that makes the option of a board observer nomination more attractive to PE and VC investors, vis-a-vis the appointment of a nominee director.
FAQs on Board Observers
- What is a board observer in corporate governance?
A board observer is an individual appointed by investors or key stakeholders to attend board meetings without having formal voting power. They offer insights and monitor the company’s performance, primarily to protect the interests of those they represent. - How do board observers differ from directors?
Unlike board directors, board observers do not have the authority to vote on decisions or take on fiduciary duties. Their role is more about observation and providing feedback rather than participating in the decision-making process. - What are the rights of a board observer?
A board observer has the right to attend board meetings and access key company information, but they do not hold any voting rights. Their responsibilities and rights are typically outlined in a contractual agreement between the company and the observer’s appointing party. - Can board observers influence corporate decisions?
Yes, board observers can provide valuable insights and advice that may influence corporate decisions, but they do not have direct decision-making power. Their influence comes from their ability to offer expert advice and represent investors’ interests. - Are board observers liable for company decisions?
Generally, board observers are not legally liable for company decisions as they are not formal board members. However, if their influence over board decisions becomes significant, they could be viewed as shadow directors, which might expose them to certain legal liabilities. - Why do investors appoint board observers instead of directors?
Investors often prefer appointing board observers because it allows them to monitor company performance and offer guidance without taking on the fiduciary duties and potential liabilities associated with being a formal board member. - What is the risk of being considered a shadow director as a board observer?
If a board observer has significant influence over board decisions, they could be classified as a shadow director. Shadow directors can be held liable for the company’s actions, similar to formally appointed directors, especially in cases of misconduct or financial mismanagement. - How does a board observer benefit private equity and venture capital investors?
Board observers allow PE and VC investors to maintain oversight of their portfolio companies, ensuring the company’s strategic direction aligns with their interests. This role provides investors with valuable insights without the risk of statutory liabilities that come with directorship.
Blog Content Overview
In the complex world of corporate governance, the role of board observers has emerged as a key component, especially in the wake of increased investor scrutiny, particularly in the private equity (PE) and venture capital (VC) sectors. With growing financial uncertainty, investors are looking for ways to maintain a closer watch on companies without assuming directorial risks. One such method is by appointing a board observer, a role that, although devoid of statutory voting power, can wield significant influence.
A board observer’s position in the intricate realm of corporate governance is crucial and varied. With increased distress particularly in the private equity sector, we may see investors deploying various tools to keep a closer eye on the company’s financial performance. Appointing a board observer is one such tool.
Despite not having statutory authority or the ability to vote, board observers have a special position of influence and can provide productive insights.
Board observers quite literally are individuals who are fundamentally appointed with the task to ‘observe’. They act as representatives typically from major investors, strategic partners, or key stakeholders, and are granted access to board meetings.
Understanding the Role of Board Observers
Board observers are not formal members of the board, nor do they hold the power to vote on corporate decisions. However, their presence in board meetings is a tool used primarily by major investors, strategic partners, and other key stakeholders to monitor the company’s strategic direction and financial health. These individuals are entrusted with providing valuable insights without the direct legal responsibilities that directors typically face.
Although board observers do not have a formal vote, their influence can shape company strategies. This unique role enables them to represent the interests of investors or stakeholders while remaining free from the direct obligations of fiduciary duties.
Board Observer Rights – How does it work?
Investors involved in the venture capital (VC) and private equity (PE) spaces often negotiate for a board seat with the intent to contribute to the decision-making process and protect their interests by having representation on the board. A recent trend, however, indicates that these investors are reluctant to formally exercise their nomination rights owing to the possible risks/liabilities associated with directorships, such as fiduciary duties and vicarious liability that is often intertwined in the acts and omissions of the company, which can lead to such directors being identified as “officers in default”.
The rights and responsibilities of a board observer are distinct from those of a nominee director, primarily due to the lack of formal voting authority. Accordingly, board observers are relieved from the direct fiduciary duties that are normally connected with board membership since their position is specified contractually rather than by statutory board responsibilities.
Is a Board Observer an officer in default?
The Act provides a definition for the term “Officer” which inter alia includes any person in accordance with whose directions or instructions the board of directors of the company or any one or more of the directors are accustomed to act. Additionally, the term “Officer in Default” states that an Officer of the company who is in default will incur liability in terms of imprisonment, penalties, fines or otherwise, regardless of their lack of an official position in the company.
Accordingly, any person who exercises substantial decision-making authority on the board of the company may be covered as an Officer in Default.
While board observers may not be equivalent to formal directors, the litmus test lies in determining where the decision-making power truly resides, leading to potential liabilities that may surpass the protections sought by investors.
Observers are not subject to a company’s breach of any statutory provisions because their appointment is based on a contractual obligation rather than a statutory one, unlike nominee directors who are permitted to participate in board meetings.
Even though board observers are not designated as directors, they run the risk of being seen as “Shadow Directors” if they have a significant amount of authority or influence over the decisions made by the company.
The Legal Perspective on Board Observers
Unlike nominee directors, who are formally appointed and legally bound to fulfill statutory responsibilities, board observers are appointed through contractual obligations. This shields them from liabilities tied to breaches of statutory provisions. However, as their influence grows, so does the risk of being classified as shadow directors, particularly if they are perceived as playing a significant role in decision-making.
Conclusion
Corporate Governance is an evolving concept, especially in the context of active investor participation. In order to foster a corporate environment that is legally robust, it will be imperative to strike a balance between active investor participation and legal prudence. That being said, as businesses continue to navigate complex and evolving landscapes, the value of a well-integrated board observer cannot be overstated. A board observer can bring clarity to the business and operations of an investee company without attaching the risk of incurring statutory liability for acts/omissions by the company. This is a significant factor that makes the option of a board observer nomination more attractive to PE and VC investors, vis-a-vis the appointment of a nominee director.
FAQs on Board Observers
- What is a board observer in corporate governance?
A board observer is an individual appointed by investors or key stakeholders to attend board meetings without having formal voting power. They offer insights and monitor the company’s performance, primarily to protect the interests of those they represent. - How do board observers differ from directors?
Unlike board directors, board observers do not have the authority to vote on decisions or take on fiduciary duties. Their role is more about observation and providing feedback rather than participating in the decision-making process. - What are the rights of a board observer?
A board observer has the right to attend board meetings and access key company information, but they do not hold any voting rights. Their responsibilities and rights are typically outlined in a contractual agreement between the company and the observer’s appointing party. - Can board observers influence corporate decisions?
Yes, board observers can provide valuable insights and advice that may influence corporate decisions, but they do not have direct decision-making power. Their influence comes from their ability to offer expert advice and represent investors’ interests. - Are board observers liable for company decisions?
Generally, board observers are not legally liable for company decisions as they are not formal board members. However, if their influence over board decisions becomes significant, they could be viewed as shadow directors, which might expose them to certain legal liabilities. - Why do investors appoint board observers instead of directors?
Investors often prefer appointing board observers because it allows them to monitor company performance and offer guidance without taking on the fiduciary duties and potential liabilities associated with being a formal board member. - What is the risk of being considered a shadow director as a board observer?
If a board observer has significant influence over board decisions, they could be classified as a shadow director. Shadow directors can be held liable for the company’s actions, similar to formally appointed directors, especially in cases of misconduct or financial mismanagement. - How does a board observer benefit private equity and venture capital investors?
Board observers allow PE and VC investors to maintain oversight of their portfolio companies, ensuring the company’s strategic direction aligns with their interests. This role provides investors with valuable insights without the risk of statutory liabilities that come with directorship.
Types of Agreements used in SaaS Industry
Blog Content Overview
In the ever-evolving landscape of the SaaS industry, understanding the various types of agreements is crucial for businesses to operate effectively and legally. From customer contracts to partner agreements, these legal documents form the backbone of SaaS operations. By navigating the intricacies of these agreements, businesses can protect their intellectual property, establish clear terms of service, and mitigate potential risks. In this comprehensive guide, we will explore the key types of agreements used in the SaaS industry, providing valuable insights for both established companies and startups.
What is SaaS?
Software as a Service (“SaaS”), is a way of delivering software applications over the internet. Instead of purchasing and installing software on your computer, you access it online through a subscription. This makes it easier to use and manage, as updates, security, and maintenance are handled by the service provider. Examples of SaaS include tools like Google Workspace or Microsoft 365, where everything is accessible from a web browser. This model is convenient for businesses because it reduces upfront costs and offers scalability based on their needs.
What are SaaS Agreements?
However, beneath the surface of this convenient access lies a complex web of agreements that govern the relationship between SaaS providers and their customers, which are essential to ensuring a smooth and secure experience for all parties involved. These agreements outline the terms of using a cloud-based software service. These agreements specify the rights and responsibilities of both parties, covering aspects such as subscription fees, data privacy, service availability, support, and usage limitations.
This article delves into the various types of agreements that form the backbone of the SaaS industry and it will explore their key components, importance, and how they work together to create a win-win situation for both SaaS providers and their subscribers.
What are the types of Agreement in SaaS Industry
In the SaaS industry, various types of agreements are commonly used to establish the terms of service, licensing, and other legal arrangements between the SaaS provider and its customers. Here are some key types of agreements used in the SaaS industry:
Terms of Service (ToS) or Terms of Use (ToU)
These agreements outline the terms and conditions under which users are allowed to access and use the SaaS platform. They typically cover aspects such as user obligations, limitations of liability, intellectual property rights, privacy policies, and dispute resolution procedures.
Key Components: User obligations, limitations of liability, intellectual property rights, privacy policies, dispute resolution procedures.
Importance: Provides clarity and sets apt expectations for users regarding acceptable use of the SaaS platform, protecting the provider from misuse and establishing guidelines for resolving disputes.
Service Level Agreement (SLA)
SLAs define the level of service that the SaaS provider agrees to deliver to its customers, including uptime guarantees, response times for support requests, and performance metrics. SLAs also often outline the remedies available to customers in the event that service levels are not met.
Key Components: Uptime guarantees, response times for support requests, performance metrics, remedies for breaches.
Importance: Defines the quality of service expected by customers, establishes accountability for the SaaS provider, and offers assurances to customers regarding system reliability and support responsiveness
Master Services Agreement (MSA)
An MSA is a comprehensive contract that governs the overall relationship between the SaaS provider and the customer. It typically includes general terms and conditions applicable to all services provided, as well as specific terms related to individual transactions or services.
Key Components: General terms and conditions, specific terms related to individual transactions or services, payment terms, termination clauses.
Importance: Forms the foundation of the contractual relationship between the SaaS provider and the customer, streamlining the process for future transactions and ensuring consistency in terms across multiple agreements.
Subscription Agreement:
This agreement outlines the terms of the subscription plan selected by the customer, including pricing, payment terms, subscription duration, and any applicable usage limits or restrictions.
Key Components: Pricing, payment terms, subscription duration, usage limits, renewal terms.
Importance: Specifies the terms of the subscription plan selected by the customer, including pricing and payment obligations, ensuring transparency and clarity in the commercial relationship.
Data Processing Agreement (DPA)
DPAs are used when the SaaS provider processes personal data on behalf of the customer, particularly in relation to data protection regulations such as GDPR. These agreements specify the rights and obligations of both parties regarding the processing and protection of personal data.
Key Components: Data processing obligations, data security measures, rights and responsibilities of both parties regarding personal data as laid down in India’s Digital Personal Data Protection Act 2023, and GDPR compliance.
Importance: Ensures compliance with data protection regulations, establishes safeguards for the processing of personal data, and defines the roles and responsibilities of each party in protecting data privacy.
Non-Disclosure Agreement (NDA)
NDAs are used to protect confidential information exchanged between the SaaS provider and the customer during the course of their relationship. They prevent either party from disclosing sensitive information to third parties without consent.
Key Components: Definition of confidential information, obligations of confidentiality, exceptions to confidentiality, duration of the agreement.
Importance: Protects sensitive information shared between parties from unauthorized disclosure, fostering trust and enabling the exchange of confidential information necessary for business collaboration.
End User License Agreement (EULA)
If the SaaS platform includes downloadable software or applications, an EULA may be required to govern the use of that software by end users. EULAs specify the rights and restrictions associated with the use of the software.
Key Components: Software license grant, permitted uses and restrictions, intellectual property rights, termination clauses.
Importance: Establishes the rights and obligations of end users regarding the use of software, ensuring compliance with licensing terms and protecting the provider’s intellectual property rights.
Beta Testing Agreement
When a SaaS provider offers a beta version of its software for testing purposes, a beta testing agreement may be used to outline the terms and conditions of the beta program, including feedback requirements, confidentiality obligations, and limitations of liability.
Key Components: Scope of the beta program, feedback requirements, confidentiality obligations, limitations of liability.
Importance: Sets the terms for participation in beta testing, manages expectations regarding the beta software’s functionality and stability, and protects the provider from potential risks associated with beta testing activities.
These are some of the most common types of agreements used in the SaaS industry, though the specific agreements required may vary depending on the nature of the SaaS offering and the requirements of the parties involved.
Conclusion
In conclusion, the Software as a Service (SaaS) industry relies on a variety of agreements to establish and govern the relationships between SaaS providers and their customers. Each agreement plays a crucial role in defining the terms of service, protecting intellectual property, ensuring data privacy and security, and mitigating risks for both parties involved. From Terms of Service outlining user responsibilities to Service Level Agreements guaranteeing performance standards, and from Data Processing Agreements ensuring compliance with regulations like GDPR to Non-Disclosure Agreements safeguarding confidential information, these agreements collectively form the legal backbone of the SaaS ecosystem. By clearly delineating rights, obligations, and expectations, these agreements promote transparency, trust, and effective collaboration in the dynamic landscape of cloud-based software delivery. As the SaaS industry continues to evolve, these agreements will remain essential tools for fostering mutually beneficial partnerships and driving innovation in the digital economy.
FAQs on Types of SaaS Agreements
Q. What is the significance of agreements in the SaaS industry?
Agreements play a crucial role in defining the legal relationships between SaaS providers and their customers, outlining rights, obligations, and terms of service.
Q. What are the key types of agreements used in the SaaS industry?
Common agreements in the SaaS industry include Terms of Service (ToS), Service Level Agreements (SLAs), Master Services Agreements (MSAs), Subscription Agreements, Data Processing Agreements (DPAs), Non-Disclosure Agreements (NDAs), End User License Agreements (EULAs), and Beta Testing Agreements.
Q. What is the purpose of a Terms of Service (ToS) agreement in the SaaS industry?
ToS agreements establish the rules and guidelines for using the SaaS platform, including user responsibilities, intellectual property rights, and dispute resolution procedures.
Q. How do Service Level Agreements (SLAs) benefit customers in the SaaS industry?
SLAs define the level of service that the SaaS provider commits to delivering, including uptime guarantees, support response times, and performance metrics, offering assurances to customers regarding service quality.
Q. What does a Master Services Agreement (MSA) encompass in the SaaS industry?
MSAs serve as comprehensive contracts governing the overall relationship between SaaS providers and customers, covering general terms, specific transaction details, payment terms, and termination clauses.
Q. What is the purpose of Non-Disclosure Agreements (NDAs) in the SaaS industry?
NDAs protect confidential information exchanged between parties during the course of their relationship, preventing unauthorized disclosure and fostering trust in business collaborations.
Q. How do End User License Agreements (EULAs) affect users of SaaS platforms?
EULAs define the terms of use for software provided by SaaS platforms, including permitted uses, restrictions, and intellectual property rights, ensuring compliance and protecting the provider’s interests.
Q. What is the role of Beta Testing Agreements in the SaaS industry?
Beta Testing Agreements establish terms for participating in beta programs, outlining feedback requirements, confidentiality obligations, and limitations of liability for both parties involved in testing new software releases.
Q. How can businesses ensure they are effectively using these agreements in the SaaS industry?
Businesses should carefully review, customize, and regularly update these agreements to reflect evolving legal requirements, industry standards, and the specific needs of their SaaS offerings and customer base.
Dispute Resolution in the Articles of Association (AOA)
Blog Content Overview
Introduction
As part and parcel of a transaction, companies seeking investment provide their investors with certain rights, which are contractually negotiated. These range from receiving periodic reports on the business and financials of the company to representation on the board of directors and the right to be involved in certain key decisions required to be taken by the company in the course of their growth. Such rights are typically requested by investors based on factors such as the nature of the investment (i.e., financial or strategic) and the level of insight into the business, operations and management of the company required. In such transactions, these rights (and the extent) are agreed upon and captured in a shareholders’ agreement (“SHA”) between the parties, whereas the rights and obligations pertaining to the fundraising itself are governed by the investment agreement.
Typically, investors (especially foreign) and companies/founders agree to arbitrate any disputes arising from the investment agreement or the SHA. However, referring a dispute to arbitration is often not as clear-cut as a contractual agreement between parties. Indian courts have repeatedly been required to provide rulings on whether or not arbitration can be invoked by the parties to a SHA. This issue is complicated further by conflicting judicial precedents which have ultimately resulted in an unclear understanding of the law forming the basis of how parties can agree to arbitrate any disputes.
In this article Dispute Resolution in the Articles of Association (AOA), we have provided an overview of the contested legal position and our suggestions for navigating the murky landscape, with the fundamental goal of ensuring the parties’ contractually documented intent is protected and legally enforceable.
What is the AOA?
Similar to how the constitution of India forms the basis of Indian democracy, the memorandum of association (‘MOA’) and AOA form the basis for a company’s legal existence. The MOA can be seen as the constitutional document that lays down the fundamental elements and broad scope within which the company, business, and operations will typically operate. However, it is the AOA that puts in place a ‘rulebook’, prescribing the regulations and by-laws that govern the company and in effect, enshrining and giving effect to the principles of the MOA.
It is crucial to understand that because a company is seen as a separate legal person, the AOA is a critical document that establishes the legal relationship between the shareholders of the company inter se and with the company. In order to lay the framework for the operations of the company, an AOA will include provisions (in accordance with applicable laws) that:
(i) regulate internal affairs and operations of the company;
(ii) provide clarity on procedures the company must follow;
(iii) govern the issue/buyback of securities and clarify the legal rights and obligations of shareholders holding different classes of securities; and
(iv) legitimize the authority of the board of directors and their functions.
It is, therefore, a reasonable presumption that any action undertaken by a company must be authorised by the AOA/MOA. Any amendment or alteration to these documents would not only require the assent of the board, but also of the shareholders (i.e., members of the company), and requires filing with the competent Registrar of Companies under the Companies Act, 2013. While these procedures are in place primarily to protect the shareholders from mischief by the company, the lengthy process involved in altering the AOA serves to highlight how essential a document it is for a company’s action to hold legal justification.
Often in transaction documents, a critical mechanism that enables the enforcement of the investor rights agreed in the SHA is captured in the investment agreement, where as part of the conditions required to be satisfied upon receipt of the investment amount by the company, the company, and founders must also ensure that the AOA is suitably amended to codify the investor rights.
However, the legal justification for this action in itself finds a conflict between two different schools regarding the enforceability of provisions from the SHA that have not been incorporated into the AOA:
(i) The “incorporation” view – the prominent authority for this view is the ruling of the High Court of Delhi in World Phone India Pvt. Ltd. & Ors. v. WPI Group Inc. USA (the “World Phone Case”)[1], where it was held that a board resolution passed without considering an affirmative voting right granted to a shareholder under a joint venture agreement, was legally valid in light of the company’s AOA, which contained no such restriction. Relying on the decision of the Supreme Court in V.B. Rangaraj v. V.B. Gopalakrishnan (the “Rangaraj Case”)[2] and subsequent decision of the Bombay High Court in IL&FS Trust Co. Ltd. v. Birla Perucchini Ltd. (the “Birla Perucchini Case”)[3], the Delhi High Court was of the view that the joint venture agreement could not bind the company unless incorporated into the AOA.
The Rangaraj Case is of particular interest in this school of thought because while the issue dealt with share transfer restrictions, the Supreme Court held that it was evident from the provisions of the erstwhile Companies Act, 1956 that the transfer of shares is a matter regulated by the AOA of the subject company and any restriction not specified in the AOA was not binding on the company or its shareholders. Crucially, the World Phone Case poses a problem in the legal interpretation of the “incorporation” view because the Delhi High Court has carried the ratio of the Rangaraj Case to a logical conclusion and observed that even where the subject company is party to an SHA, the provisions regarding management of affairs of the company cannot be enforced unless incorporated into the AOA.
(ii) the “contractual” view – the prominent authority for this view is the ruling of the Supreme Court in Vodafone International Holdings B.V. v Union of India (the “Vodafone Case”)[4], where the Supreme Court disagreed with the ratio in the Rangaraj Case, without expressly overruling it, and held that freedom of contract includes the freedom of shareholders to define their rights and share-transfer restrictions. This was found to not be in violation of any law and therefore not be subject to incorporation within the AOA. This has also been supported by the Delhi High Court in Spectrum Technologies USA Inc. v Spectrum Power Generation[5] and in Premier Hockey Development Pvt. Ltd. v Indian Hockey Federation[6]. In fact, in the latter case, the Delhi High Court was of the view that the subject company, being party to both an SHA and a share subscription and shareholders agreement containing an obligation to modify the AOA to incorporate the SHA, was conclusive in binding the subject company to the same despite an absence of incorporation into the AOA.
How can this fundamental disagreement be reconciled?
It is difficult to reconcile the issues caused by conflicting rulings from the same judicial authority. Given that the circumstances of each case provide scope for situation-specific reasoning, we cannot conclusively say one view is preferred, or more appropriate, over the other. Further, where the courts have stopped short of conclusively overruling previous judgments (for instance the Supreme Court on the Vodafone Case only disagreed with the ratio of the Rangaraj Case), the result is an unclear understanding of the legal position regarding the enforceability of SHA without incorporation in the AOA.
It is also pertinent to note that the issues in the above rulings also deal with the enforceability of certain shareholder rights that have been contractually agreed upon (such as affirmative votes or share transfer restrictions). By contrast, dispute resolution is a mechanism contractually agreed upon between the parties in the event of any dispute/breach of the SHA and cannot be characterized as a “right” of any shareholder(s), in the true sense of the word. However, in light of the conflicting principles guiding the “incorporation” and “contractual” views, the lack of clarity extends to the inclusion of dispute resolution in the AOA simply to make the intent of parties to approach arbitration, enforceable.
Incorporation of arbitration clauses
Flowing from the “incorporation” view, the Delhi High Court, relying on the Rangaraj Case, World Phone Case, and the Birla Perucchini Case, held in Umesh Kumar Baveja v IL&FS Transportation Network[7] that despite the subject company being a party to the SHA, it was the AOA that governed the relationship between the parties and that since they did not contain any arbitration provision, the parties could not be referred to arbitration. A similar ruling was passed by the Company Law Board, Mumbai in Ishwardas Rasiwasia Agarwal v Akshay Ispat Udyog Pvt. Ltd.[8], where it was held the non-incorporation of the arbitration clause into the AOA of the subject company was fatal to the request for a reference to arbitration, despite findings that the dispute was contractual in nature and arbitrable.
A second line of reasoning flowing from the “contractual” view has attempted to uphold the contractual intent of the parties reflected in an SHA. In Sidharth Gupta v Getit Infoservices Pvt. Ltd.[9], the Company Law Board, Delhi was required to rule on the reference to arbitration. Relying on the facts that the SHA had been incorporated verbatim into the AOA and the subject company was a party to the SHA, the Company Law Board rejected the argument from an “incorporation” view and remarked on the importance of holding shareholders “to their bargain” when significant money had been invested on the basis of the parties’ understanding recorded in the SHA. It is pertinent to note in this case, that the Company Law Board had been directed by the Supreme Court to dispose of the case without being influenced by the decisions of the Delhi High Court. This led the Company Law Board to not consider the ruling of the Delhi High Court in the World Phone Case as binding.
An unusual third line of reasoning has also been provided by the High Court of Himachal Pradesh in EIH Ltd. v State of Himachal Pradesh & Ors.[10]. In this case, a dispute regarding a breach of AOA was referred to arbitration under the arbitration clause of the constitutive joint venture agreement to which the resultant company was not a party. The High Court held that the joint venture agreement and the AOA of the subject company were part of the same transaction, where the primary contractual relationship was contained in the joint venture agreement, and that the AOA functioned as a “facilitative sister agreement” to the same. Given the critical nature of the AOA to the internal governance of the subject company as a juristic person however, this line of reasoning where the AOA is relegated to a “sister agreement” is likely to not stand the test of a comprehensive judicial review of this issue.
The startup growth trajectory continues to contribute significantly to the Indian economy, with funding crossing USD 5.3 billion in the first six months of 2024 and over 915 investors participating in funding deals[11]. This will see a proportional rise in investor-company disputes, and when reference to arbitration is contractually agreed but not enshrined in the SHA, this can lead to further delays at the stage of dispute resolution, where the competent court would be required to first rule on whether the reference to arbitration can even be enforced. However, the conflicting judicial precedents are only the tip of this murky iceberg; party autonomy is a fundamental guiding principle to any reference to arbitration. Where judicial precedent sets the grounds for formal incorporation into the AOA as a condition to enforcing this party intent, however, a question of whether the parties’ contractually documented intent is being ignored, is raised.
Further, the legal basis for the “incorporation” view is itself under question. A key component from the Rangaraj Case is that the Supreme Court based its ruling on the issue of share transfer restrictions and basis the provision of Companies Act, 1956 that stated a company’s shares are “transferable in the manner provided by the articles of the company”. This position has also been questioned by a larger bench of the Supreme Court in the Vodafone Case and by academics and has been distinguished and disregarded by lower High Courts on slim grounds. Consequently, the judicial precedent has been applied to a non-share transfer context as well, forming the basis for the incorporation view on arbitration clauses.
In conclusion, while it is our opinion that a contract-centric approach is more reflective of party intent, especially with reference to arbitration, the insistence on incorporating provisions of the SHA into the AOA would pose a potential roadblock in the event the parties are required to approach dispute resolution. Pending clarity from the judiciary on this issue, the best approach to dealing with this situation is adopting a conservative approach of incorporating dispute resolution provisions within the AOA, preventing delays in the event of a dispute between the parties.
[1] World Phone India Pvt. Ltd. v. WPI Group Inc. USA 2013 SCC OnLine Del 1098.
[2] V.B. Rangaraj v. V.B. Gopalakrishnan (1992) 1 SCC 160.
[3] IL&FS Trust Co. Ltd. v. Birla Perucchini Ltd. 2002 SCC OnLine Bom 1004
[4] Vodafone International Holdings B.V. v. Union of India (2012) 6 SCC 613.
[5] Spectrum Technologies USA Inc. v. Spectrum Power Generation, 2000 SCC OnLine DEL 472
[6] Premier Hockey Development Pvt. Ltd. v. Indian Hockey Federation, 2011 SCC OnLine Del 2621
[7] Umesh Kumar Baveja v. IL&FS Transportation Network, 2013 SCC OnLine Del 6436
[8] Ishwardas Rasiwasia Agarwal v. Akshay Ispat Udyog Pvt. Ltd., C.A. 328/2013 in CP 117/2013 (Compay Law Board, Mumbai Bench) (Unreported).
[9] Sidharth Gupta v. Getit Infoservices Pvt. Ltd., C.A.128/C-II/2014 in CP No. 64(ND)/2014 (Company Law Board, New Delhi Bench) (Unreported).
[10] EIH Ltd. v. State of Himachal Pradesh, Arb Case 60/2005 (H.P. H.C.) (Unreported).
Equity Dilution in India – Definition, Working, Causes, Effects
Blog Content Overview
- 1 What Is Equity Dilution?
- 2 When Does Equity Dilution Happen?
- 3 Working of Equity Dilution
- 4 Example of Equity Dilution
- 5 Effects of Equity Dilution
- 6 How to minimize equity dilution?
- 7 Pros of Equity Dilution:
- 8 Cons of Equity Dilution:
- 9 Conclusion
- 10 Frequently Asked Questions (FAQs) on Equity Dilution in India
Equity dilution is a critical concept in the realm of finance, particularly in the context of corporate structures and investments. In the dynamic landscape of India’s burgeoning economy where businesses constantly seek avenues for growth and expansion, understanding the intricacies of equity dilution becomes paramount for entrepreneurs, investors, and stakeholders alike.
This article delves into the multifaceted aspects of equity dilution providing a comprehensive overview of its definition, mechanics, underlying causes, and real-life examples. By unraveling the complexities surrounding this phenomenon, the article will give valuable insights into its implications for companies, shareholders, and the broader market dynamics.
What Is Equity Dilution?
Equity dilution refers to the reduction in ownership percentage and/or value of existing shares in a company as a result of any circumstance resulting in either a drop in the valuation of the shares itself or upon new securities being issued, causing a decrease in the overall stake. Equity dilution is a mathematical consequence of commonly undertaken corporate decisions such as raising funding, incentivizing employees through stock options, or acquisition/liquidation of any businesses. While equity dilution is a common phenomenon in corporate finance, its implications can be far-reaching and have significant effects on the company’s stakeholders.
In the context of India, where innovation, entrepreneurship and investment in the startup ecosystem are thriving, equity dilution plays a pivotal role in shaping the trajectory of businesses across industries. Founders often resort to equity dilution as a means to access much-needed capital for growth and expansion. By selling a portion of their ownership stake to investors, founders can infuse funds into the business, fueling innovation, scaling operations, and penetrating new markets.
However, equity dilution is not without its challenges. For existing shareholders, the prospect of their ownership stake being diluted can be concerning, as it can dilute not only the impact of their voting rights and stake on future earnings, but also the value of the shares themselves, potentially triggering disagreements between shareholders and founders regarding the company’s worth.
When Does Equity Dilution Happen?
Equity dilution or share dilution is a is caused by any of the following actions:
- Conversion by holders of optionable securities: Holders of optionable securities (i.e., securities they have a right to purchase and hold title in their name once successfully purchased) may convert their holdings into common shares by exercising their stock options, which will increase the company’s ownership stake. This includes employees, board members, and other individuals.
- Mergers and acquisitions: In case of a merger of corporate entities or amalgamation/acquisition thereof, the resultant entity may buy out the existing shareholders or have a lower valuation, leading to a lower price per share and an economic dilution of the equity stake.
- Issue of new stock: A company may issue new securities as part of a funding round. Where any equity shares or equity securities are issued, the existing shareholders’ would see a dilution to their shareholding on a fully diluted basis (i.e., all convertible securities are converted into equity shares for the purpose of calculation).
Working of Equity Dilution
Given the nuanced commercial terms involved, a company may opt to pursue any of the following in the ordinary course of business, and as a result experience equity dilution:
- Issuing New Shares for Capital: This is the most common cause of dilution. Companies raise capital by issuing new securities to investors. The more shares issued, the smaller the percentage of ownership held by existing shareholders ultimately becomes. Economic dilution happens here when the shares are issued at a lower price than the one paid by the existing shareholders.
- Employee Stock Options (ESOPs): When companies grant employees stock options as part of their compensation package, they are essentially creating a pool of shares that will only be issued in the future to employees. The right to purchase these securities (at a discounted price) is first granted to an employee, creating an option. Upon fulfillment of the conditions of the ESOP policy, employees exercise their options and purchase these shares in their name. The creation or increase of an ESOP pool will lead to a mathematical dilution in the overall percentage distribution, affecting a shareholder’s individual stake in the company.
- Convertible Debt: Some debt instruments, such as convertible notes or compulsorily convertible debentures, can be converted into equity shares at a later date and on certain predetermined conversion terms. This conversion leads to an increase in the total number of equity shares, leading to dilution of the individual percentage stakes. Depending on the terms of the convertible debt securities, there could also be an economic dilution of the value of the equity shares held by existing shareholders.
- Stock Splits: While a stock split doesn’t technically change the total value of a company’s equity, it does increase the number of outstanding shares. For example, a 2-for-1 stock split doubles the number of shares outstanding, which dilutes ownership percentages without affecting the overall company value.
- Acquisitions Using Shares: When a company acquires another company using its own shares as currency, it issues new shares to the acquired company’s shareholders. This increases the total number of outstanding shares and dilutes existing shareholders’ ownership. This is commonly seen with schemes of arrangement between two sister companies under common ownership and control.
- Reacquired Stock Issuances: If a company repurchases or buys back its own shares (reacquired stock) and then issues them later, it can dilute the existing shareholders’ ownership. This impact can be both stake-wise and economic, especially if the shares are essentially reissued at a lower price than the original price.
- Subsidiary Formation: When a company forms a subsidiary and issues shares in that subsidiary, it technically dilutes its own ownership stake. However, this is usually done for strategic reasons and doesn’t necessarily impact the value of the parent company.
Example of Equity Dilution
Infographic Illustration
Fundamentally, each company is made of 100% shares (remember the one whole of something is always 100%). Let’s understand this with an example to get clarity.
- 2 Founders viz. A and B are holding 5,000 shares each with 50% of ownership in the Company.
- An investor, C comes with an investment of 1Mn dollars considering the valuation of 3Mn dollars
Now have a look at the figures in below table to understand this quickly:
Here, the number of shares has been increased basis the ratio to post investment i.e. 25% (1Mn/4Mn). The investor can keep any ratio post investment basis the agreement.
We can understand that post investment round, the holding % of founders are getting diluted and their controlling interest has been reduced from the original scenario.
There are various types of dilution, including dilution of shares in a private company. It’s also important to know the equity dilution meaning and examples of equity dilution in startups.
There is no exact solution to how much equity to dilute; it depends on the stage of the business you are at. Too much dilution can be of concern to a future incoming investor and too little dilution concerns investors as they should have skin in the game. The ultimate goal is to grow the business. So even if the dilution numbers are skewed from the expected dilution you have in mind, the growth of the business is primary, and investment helps you get closer to that goal.
Pre-money valuation is the value of the company prior to receiving the investment amount. It is derived through various internationally accepted valuation methods like the discounted cash flow method. Investors offer equity based on pre-money valuation; however, the percentage sought is based on post-money valuation.
Understanding dilution and cap tables are pertinent metrics for fundraising and talking to investors. Founders often neglect it due to a lack of clarity of these concepts. A grasp on concepts like dilution and the cap table enables the founder to have better control of the startup equity.
Effects of Equity Dilution
During share dilution, the amount of extra shares issued and retained may impact a portfolio’s value. Dilution affects a company’s EPS (earnings per share) in addition to the price of its shares. For instance, a company’s earnings per share or EPS could be INR 50 prior to the issuance of new shares, but after dilution, it might be INR 18. However, if the dilution dramatically boosts earnings, the EPS might not be impacted. Revenue may rise as a result of dilution, offsetting any increase in shares, and earnings per share may remain constant.
Public companies may calculate diluted EPS to assess the effects of share dilution on stock prices in the event of stock option exercises. As a result of dilution, the book value of the shares and earnings per share of the company decline.
Equity dilution, a fundamental consequence of issuing new shares, is a double-edged sword for companies. While it unlocks doors to growth capital, it also impacts existing shareholders’ ownership and potential control. Understanding the effects of dilution is crucial for companies navigating fundraising rounds and strategic decisions.
Example: If a company having 100 shares issued, paid up and subscribed, each representing 1% ownership, issues 20 new shares, the total number of issued, paid up and subscribed shares becomes 120. Consequently, the existing shareholders’ ownership stake is diluted post-issue, as each share now represents only 0.83% (100/120) of the company. This translates to a decrease in:
- Ownership Percentage: Existing shareholders own a smaller portion of the company.
- Voting Power: Their voting rights are proportionally reduced, potentially impacting their influence on company decisions.
- Earnings Per Share: If company profits remain constant, EPS might decrease as profits are spread over a larger number of shares. This can affect short-term stock price performance.
How to minimize equity dilution?
Companies can employ various strategies to minimize dilution and maximize the benefits of issuing new shares:
- Strategic Valuation: A higher valuation during fundraising allows the company to raise the target capital while offering fewer shares. However, maintaining a realistic valuation is crucial to attract investors without inflated expectations.
- Debt Financing: Exploring debt options like loans or convertible notes can provide capital without immediate dilution. However, debt carries interest payments and other obligations.
- Structured Equity Instruments: Utilizing options like preferred shares can offer different rights and value compared to common shares, potentially mitigating the dilution impact on common shareholders.
- Phased Funding with Milestones: Structuring investments in tranches tied to achieving milestones allows the valuation to climb incrementally, reducing dilution in later rounds.
- Focus on Organic Growth: Prioritizing revenue and profit growth naturally leads to higher valuations. This requires less equity dilution to raise capital in the future.
Pros of Equity Dilution:
Equity dilution, while often viewed with apprehension by existing shareholders, can also bring several advantages to a company. By issuing new shares and thereby diluting existing ownership, companies can access capital and unlock opportunities for growth and expansion:
- Access to Capital: Equity dilution allows companies to raise funds by selling shares to investors. This infusion of capital can be instrumental in financing expansion projects, funding research and development initiatives, or addressing financial challenges.
- Diversification of Shareholder Base: Bringing in new investors through equity dilution can diversify the company’s shareholder base. This diversification can enhance liquidity in the stock, broaden the investor pool, and potentially attract institutional investors or strategic partners.
- Alignment of Interests: Equity dilution can align the interests of shareholders and management, particularly in startups or early-stage companies. By offering equity stakes to employees, management can incentivize them to work towards the company’s long-term success, fostering a culture of ownership and commitment.
- Reduced Financial Risk: Diluting ownership through equity issuance can reduce the financial risk for existing shareholders. By sharing the burden of ownership with new investors, shareholders may benefit from a more diversified risk profile, particularly in cases where the company’s prospects are uncertain.
Cons of Equity Dilution:
While equity dilution offers certain advantages, it also presents challenges and drawbacks that companies and shareholders must carefully consider. From the perspective of existing shareholders, dilution can erode ownership stakes and diminish control over the company. Let’s delve into some of the key drawbacks of equity dilution:
- Loss of Ownership and Control: One of the primary concerns associated with equity dilution is the loss of ownership and control for existing shareholders. As new shares are issued and ownership is spread among more investors, the influence of individual shareholders over corporate decisions may diminish.
- Dilution of Earnings Per Share: Equity dilution can lead to a reduction in earnings per share for existing shareholders. This dilution occurs when the company’s profits are spread across a larger number of shares, potentially decreasing the value of each share and impacting shareholder returns.
- Potential for Share Price Decline: The issuance of new shares through equity dilution can signal to the market that the company is in need of capital or that its growth prospects are uncertain. This perception may lead to a decline in the company’s share price, adversely affecting shareholder wealth.
- Strain on Shareholder Relations: Equity dilution can strain relations between existing shareholders and management, particularly if the dilution is perceived as unfair or detrimental to shareholder interests. Managing investor expectations and communicating the rationale behind equity issuances is crucial to maintaining trust and credibility.
Conclusion
Equity dilution poses a significant impact on the ownership stakes of founders and investors alike. Whether you are already implementing a corporate equity plan or considering setting one up, equity dilution is a critical aspect to consider. Understanding the fundamentals of equity dilution and how it functions, particularly in the context of stock option dilution, is essential for informed decision-making.
Share dilution, occurring whenever a corporation issues new shares to investors, can significantly affect the value of your financial portfolio. During this process, the corporation must adjust its earnings-per-share and share price ratios accordingly. While share dilution is often viewed unfavorably, it can also signify potential acquisitions that may enhance stock performance in the future. To mitigate any potential surprises, it is prudent to remain vigilant for indicators of stock dilution. By staying informed and proactive, stakeholders can navigate the complexities of equity dilution with confidence and clarity.
Frequently Asked Questions (FAQs) on Equity Dilution in India
1. What is equity dilution?
Equity dilution refers to the reduction in ownership percentage of existing shareholders in a company due to the issuance of new shares. This dilution can occur during fundraising rounds, employee stock option plans (ESOPs), mergers, acquisitions, or other corporate actions.
2. How does equity dilution work in Indian companies?
Equity dilution typically occurs when a company issues additional shares, either through primary offerings to raise capital or secondary offerings for employee incentives or acquisitions. This issuance increases the total number of shares outstanding, reducing the ownership percentage of existing shareholders.
3. What are the primary causes of equity dilution in India?
Equity dilution in India can be caused by various factors, including fundraising activities such as initial public offerings (IPOs), follow-on offerings, private placements, or debt conversions. Additionally, the implementation of ESOPs, mergers, acquisitions, and convertible securities can also contribute to equity dilution.
4. Can you provide examples of equity dilution in Indian companies?
Examples of equity dilution in India include IPOs of startups or established firms where new shares are issued to the public, leading to dilution for existing shareholders. Similarly, when companies offer ESOPs to employees or acquire other businesses through stock issuance, equity dilution occurs.
5. What are the implications of equity dilution for shareholders in India?
Equity dilution can impact shareholders in India by reducing their ownership percentage and voting rights in the company. It may also lead to dilution of earnings per share (EPS) and share price, potentially affecting shareholder value and returns on investment.
6. How can companies minimize equity dilution in India?
Companies in India can minimize equity dilution by carefully managing their capital structure, negotiating favorable terms during fundraising rounds, implementing efficient ESOP schemes, and exploring alternative financing options such as debt financing or strategic partnerships.
7. Are there any regulatory considerations related to equity dilution in India?
Yes, companies in India must comply with regulatory requirements set forth by the Securities and Exchange Board of India (SEBI) and other relevant authorities when issuing new shares or implementing equity-related transactions. Compliance with disclosure norms and corporate governance standards is essential to ensure transparency and accountability.
Vesting in India: Definition, Types, Periods, Options & Schedules
Blog Content Overview
What is Vesting?
“Vesting” is a contractual structure to facilitate gradual transfer of ownership. It is a legal term referring to the process in which a person secures his ownership of (legally referred to as “title to”) certain assets over a period of time.
What is a Vesting Period?
Vesting is a typical construct built around ownership of shares, and also refers to the process by which conditional ownership of such shares is converted to full ownership (including rights of transferability) over a fixed period of time. A critical feature of vesting is that the person will only have conditional ownership of such shares until the fixed period (legally referred to as the “Vesting Period”) is completed.
What are Vesting Schedules?
Depending on the needs of the contractual relationship and subject to applicable laws, vesting can adopt many forms. However, a common element found in most forms of vesting is the “Vesting Schedule”, i.e., the breakdown showing how the relevant assets/shares will be transferred to the ownership of the person over the Vesting Period.
Types of Vesting Schedules
(i) Uniform or Linear Vesting – a simple process through which the person receives a percentage of their shares over a fixed period of time. Eg: if an employee is granted 10,000 options with 25% of them vesting per year for 4 years, then the employee will have vested 2,500 shares after 1 year and can exercise the rights to the same in accordance with the applicable policies.
(ii) Bullet Vesting – usually employed on a need-based circumstance in the event of any operational delay impacting the Vesting Schedule, bullet vesting works in one shot, completing the vesting in one instance.
(iii) Performance-based Vesting – tied typically to the performance of an employee in relation to stock option grants, performance based vesting will depend on the satisfaction of a performance condition. This can be in the nature of milestones to be achieved by the employee or revenue goals to be achieved by the company. The critical feature here is that there is no fixed Vesting Period in such a model, and the vesting is instead directly tied to the achievement of performance goals.
(iv) Hybrid Vesting – usually a combination of linear and performanced-based vesting, this type of vesting will often require the fulfillment of tenure and performance requirements. Eg: an employee is required to complete a four year tenure in addition to satisfying certain key performance indicators in order to receive the full set of options/benefits.
(v) Cliff Vesting – in such a model, no benefits are vested in a person until a certain predetermined point in time is reached. Once that time is met, all options/benefits become fully vested at once. Eg: if a 1-year cliff vesting is employed for grant of employee stock options, the employee will receive 100% of the options only once the full year has been completed with the company.
Examples of Vesting: Employee Stock Option Plans and Founder Vesting – Explained:
Vesting is largely relevant to startups in two main areas: (i) employee stock option plans (“ESOP”); and (ii) lock-in of founder shares:
1. Employee Stock Option Plans:
ESOPs are a vital component of modern employee compensation structures and prove a great tool for employee motivation and retention. Through an ESOP scheme, an employee is: (i) given the right to purchase certain shares in his name through the ESOP pool formulated by the employer company (“Grant of Option”); (ii) required to complete the Vesting Period during which the shares will vest in his name; and (iii) exercise the right to purchase the shares upon completion of the Vesting Schedule at a predetermined price (as per terms of the ESOP scheme).
It is important to note here that under Indian law, the Securities Exchange Board of India (Share Based Employee Benefits) Regulations, 2014 (applicable to listed public companies) and the Companies (Share Capital and Debentures) Rules, 2014 (applicable to private and unlisted public companies) both prescribe a mandatory minimum Vesting Period of 1 year from the date of Grant of Option. As such, any ESOP scheme formulated by an Indian company will need to comply with this requirement.
ESOPs typically see use of any of the above described Vesting Schedules. This is because Vesting Schedules primarily serve as a great tool to employee motivation and retention, as when ESOPs are granted to employees, they become part owners of the company and consequently, aligning their performance and goals with those of the company over the Vesting Schedule proves beneficial for overall growth. Further, employee turnover is a huge cost incurred by a company and grant of ESOPs acts as a means to dissuade employees from leaving until their options/grants have fully vested.
2. Founder Vesting:
In a funding round – especially where an institutional investor is brought onto the capitalisation table of a company for the first time, much of the trust forming the basis of the investment is rooted in the demonstrated results, passion, experience and skillset of the founders. Consequently, in order to secure the investment for a minimum period and to ensure the founders do not exit the company prematurely, the parties will typically agree to a lock-in of the founders’ shares, which will give them conditional ownership until completion of a Vesting Schedule, at which point in time the unconditional ownership of all their shares is restored to the founders.
Founder Vesting typically sees use of linear, bullet or cliff vesting. Given that the founders are originally shareholders of the company who voluntarily accept restrictions on their shares for a fixed period of time, performance-based or hybrid vesting would not typically be accepted for release of these locked shares. Consequently, a clear Vesting Schedule that employs the linear, bullet or cliff vesting options provides greater clarity to the parties and offers a modicum of flexibility when determining the Vesting Schedule.
Frequently Asked Questions (FAQs) on Vesting in India:
- How long does a typical Vesting Period last?
According to the Securities Exchange Board of India (Share Based Employee Benefits) Regulations, 2014 (applicable to listed public companies) and the Companies (Share Capital and Debentures) Rules, 2014 (applicable to private and unlisted public companies) both prescribe a mandatory minimum Vesting Period of 1 year from the date of Grant of Option and consequently companies/parties are free to determine the upper limit. However, we see that Vesting Periods typically last between 3 and 5 years.
- Can a Vesting Schedule be accelerated?
Yes, however this would be possible in limited, predefined circumstances. For example, in the event that an employee is permanently incapacitated or dies during the Vesting Period, companies will typically accelerate the Vesting Period in order to ensure that the employee (or their legal heirs/executors of estate) is able to exercise the rights on the options that would have otherwise vested in accordance with the schedule, but for the extenuating circumstance. Similarly, the same principle can be applied to vesting of founders’ shares, in the event of the mutually agreed departure of a founder (also known as a good leaver situation). This is ultimately dependent on the terms of the applicable policy/agreement between the parties.
- Can a Vesting Schedule be changed?
Generally, altering a Vesting Schedule is not permitted, but there are specific situations where changes can be made. For example, in the case of ESOPs, if the company must amend its ESOP policy to comply with applicable laws, the Vesting Schedule can be modified accordingly. Additionally, if the alteration benefits the employee or enhances the effectiveness of the ESOP scheme, changes may be allowed, provided they comply with legal guidelines.
For founder shares, where the Vesting Schedule is part of a contractual agreement, modifications can be made if they adhere to applicable laws and are mutually agreed upon by all parties involved.
- How does ESOP vesting work for a startup?
For example, if a startup employee is granted 10,000 stock options with a 4-year vesting schedule and a 1-year cliff, the employee must remain employed with the company for at least 1 year before any options vest. After the cliff period (i.e., once the 1-year mark is reached), 25% of the options (2,500 shares) will vest. The remaining options will then vest evenly at a rate of 25% per year over the next 3 years.
- How does vesting work in case of lock in of founder shares?
For example, according to the contractual agreement between the parties, 80% of the founders’ shares will be locked in for a period of 4 years, allowing the founders to retain 20% of their shares for immediate liquidity. The locked-in shares will then vest at a rate of 20% per year over the 4-year period, meaning the founders will achieve full (100%) ownership of their shares only at the end of the fourth year.
IFSCA releases consultation paper seeking comments on draft circular on “𝑷𝒓𝒊𝒏𝒄𝒊𝒑𝒍𝒆𝒔 𝒕𝒐 𝒎𝒊𝒕𝒊𝒈𝒂𝒕𝒆 𝒕𝒉𝒆 𝑹𝒊𝒔𝒌 𝒐𝒇 𝑮𝒓𝒆𝒆𝒏𝒘𝒂𝒔𝒉𝒊𝒏𝒈 𝒊𝒏 𝑬𝑺𝑮 𝒍𝒂𝒃𝒆𝒍𝒍𝒆𝒅 𝒅𝒆𝒃𝒕 𝒔𝒆𝒄𝒖𝒓𝒊𝒕𝒊𝒆𝒔 𝒊𝒏 𝒕𝒉𝒆 𝑰𝑭𝑺𝑪”
IFSCA listing regulations requires debt securities to adhere to international standards/principles to be labelled as “𝐠𝐫𝐞𝐞𝐧”, “𝐬𝐨𝐜𝐢𝐚𝐥”, “𝐬𝐮𝐬𝐭𝐚𝐢𝐧𝐚𝐛𝐢𝐥𝐢𝐭𝐲” 𝐚𝐧𝐝 “𝐬𝐮𝐬𝐭𝐚𝐢𝐧𝐚𝐛𝐢𝐥𝐢𝐭𝐲-𝐥𝐢𝐧𝐤𝐞𝐝” 𝐛𝐨𝐧𝐝.
As of September 30, 2024, the IFSC exchanges boasted a listing of approximately USD 14 billion in ESG-labelled debt securities, a significant chunk of the total USD 64 billion debt listings in a short period. This rapid growth highlights the growing appetite for sustainable investments among global investors.
Certain investors, particularly institutional ones like pension funds and socially responsible investment (SRI) funds, explicitly state in their investment mandates that they can only invest in ESG-labeled securities. To encourage and promote ESG funds, the IFSCA has waived fund filing fees for the first 10 ESG funds registered at GIFT-IFSC, to incentivise fund managers to launch ESG-focused funds.
However, this rapid growth also comes with a significant risk of “greenwashing” where companies or funds exaggerate or falsely claim their environmental and sustainability efforts.
𝐖𝐡𝐚𝐭 𝐢𝐬 “𝐆𝐫𝐞𝐞𝐧𝐰𝐚𝐬𝐡𝐢𝐧𝐠”?
However, with this rapid growth comes a significant risk: greenwashing. Greenwashing occurs when companies or funds exaggerate or fabricate their environmental and sustainability efforts to project a greener image and attract investors. It’s essentially a deceptive marketing tactic that undermines the true purpose of sustainable investing.
IFSCA’s Consultation Paper: Mitigating Greenwashing
Recognizing the threat of greenwashing, the IFSCA has released a consultation paper seeking public comment on a draft circular titled “Principles to Mitigate the Risk of Greenwashing in ESG labelled debt securities in the IFSC.” This circular outlines principles that companies and funds issuing ESG-labelled debt securities on the IFSC platform must adhere to.
Refer link for consultation paper: https://ifsca.gov.in/ReportPublication?MId=8kS3KLrLjxk=
Karnataka’s Global Capability Centres Policy: A Game Changer for India’s Tech Landscape
Karnataka, a state in India known for its vibrant tech industry, has recently unveiled its Global Capability Centres (GCC) Policy 2024-2029. This ambitious policy aims to solidify Karnataka’s position as a leading hub for GCCs in India and propel the state’s tech ecosystem to even greater heights.
What are Global Capability Centres (GCCs)?
For those unfamiliar with the term, GCCs are specialized facilities established by companies to handle various strategic functions. These functions can encompass a wide range of areas, including:
- Information Technology (IT) services
- Customer support
- Research and development (R&D)
- Analytics
By setting up GCCs, companies can streamline operations, reduce costs, and tap into a pool of talented professionals. This allows them to achieve their global objectives more efficiently.
Why is Karnataka a Major Hub for GCCs?
India is a powerhouse for GCCs, boasting over 1,300 such centers. Karnataka takes the lead in this domain, housing nearly 30% of India’s GCCs and employing a staggering 35% of the workforce in this sector. Several factors contribute to Karnataka’s attractiveness for GCCs:
- Vast Talent Pool: Karnataka is home to some of India’s premier educational institutions, churning out a steady stream of highly skilled graduates in engineering, technology, and other relevant fields.
- Cost-Effectiveness:India offers a significant cost advantage for setting up and operating GCCs, compared to other global locations.
Key Highlights of Karnataka’s GCC Policy 2024-2029
The recently unveiled GCC Policy outlines a series of ambitious goals and initiatives aimed at propelling Karnataka to the forefront of the global GCC landscape. Here are some of the key highlights:
- Establishment of 500 New GCCs: The policy sets a target of establishing 500 new GCCs in Karnataka by 2029. This aggressive target signifies the government’s commitment to significantly expanding the state’s GCC footprint.
- Generating $50 Billion in Economic Output: The policy envisions generating a staggering $50 billion in economic output through GCCs by 2029. This substantial economic contribution will be a boon for Karnataka’s overall development.
- Creation of 3.5 Lakh Jobs: The policy aims to create 3.5 lakh (350,000) new jobs across Karnataka through the establishment and operation of new GCCs. This significant job creation will provide immense opportunities for the state’s workforce.
- Centre of Excellence for AI in Bengaluru: Recognizing the growing importance of Artificial Intelligence (AI), the policy proposes establishing a Centre of Excellence for AI in Bengaluru. This center will focus on driving research, development, and innovation in the field of AI, fostering a robust AI ecosystem in Karnataka.
- AI Skilling Council: The policy acknowledges the need to equip the workforce with the necessary skills to thrive in the AI-driven future. To address this, the policy proposes the creation of an AI Skilling Council. This council will be responsible for developing and delivering AI-related training programs, ensuring Karnataka’s workforce is well-prepared for the jobs of tomorrow.
- INR 100 Crore Innovation Fund: The policy establishes an INR 100 crore (approximately $12.3 million) Innovation Fund. This fund will support joint research initiatives between academia and GCCs, fostering a collaborative environment that fuels innovation and technological advancements.
The GCC Policy has a clear and ambitious goal: for Karnataka to capture 50% of India’s GCC market share by 2029. Read more about the policy here.
Major Boost for Reverse Flipping: Indian Startups Coming Home
In recent years, a significant number of Indian startups have chosen to incorporate their businesses outside India, primarily in locations like Delaware, Singapore and other global locations. This trend, known as “flipping,” offered advantages like easier access to foreign capital and tax benefits. However, the tide is starting to turn. We’re witnessing a growing phenomenon of “reverse flipping,” where these startups are now shifting their bases back to India.
This shift back home is driven by several factors, including a booming Indian market, attractive stock market valuations, and a desire to be closer to their target audience – Indian customers. To further incentivize this homecoming, the Ministry of Corporate Affairs (MCA) has recently introduced a significant policy change.
MCA Streamlines Cross-border Mergers for Reverse Flipping
The MCA has amended the Companies (Compromises, Arrangements, and Amalgamations) Rules, 2016, to streamline the process of cross-border mergers. This move makes it easier for foreign holding companies to merge with their wholly-owned Indian subsidiaries, facilitating a smooth transition for startups seeking to return to their roots.
Key Takeaways of the Amended Rules
Here’s a breakdown of the key benefits for startups considering a reverse flip through this streamlined process:
- Fast-Track Mergers: The Indian subsidiary can file an application under Section 233 read with Rule 25 of the Act. This rule governs “fast-track mergers,” which receive deemed approval if the Central Government doesn’t provide a response within 60 days.
- RBI Approval: Both the foreign holding company and the Indian subsidiary need prior approval from the Reserve Bank of India (RBI) for the merger.
- Compliance with Section 233: The Indian subsidiary, acting as the transferee company, must comply with Section 233 of the Companies Act, which outlines the requirements for fast-track mergers.
- No NCLT Clearance Required: This streamlined process eliminates the need for clearance from the National Company Law Tribunal (NCLT), further reducing time and complexity.
The Road Ahead
The MCA’s move represents a significant positive step for Indian startups looking to return home. This policy change, coupled with a thriving domestic market, is likely to accelerate the trend of reverse flipping. This not only benefits returning companies but also strengthens the overall Indian startup ecosystem, fostering innovation and entrepreneurial growth within the country.
IFSCA’s Single Window IT System (SWIT): A Game Changer for Businesses in GIFT City
Prime Minister Narendra Modi’s recent launch of the IFSCA’s Single Window IT System (SWIT) marks a significant milestone for businesses looking to set up operations in India’s International Financial Services Centre (IFSC) at GIFT City. This unified digital platform promises to revolutionize the ease of doing business in this burgeoning financial hub.
What is the IFSC and Why is SWIT Important?
The International Financial Services Centres Authority (IFSCA) was established to develop a world-class financial center in India. Located in Gujarat’s GIFT City, the IFSC aims to attract international financial institutions and businesses by offering a global standard regulatory environment. However, setting up operations in the IFSC previously involved navigating a complex web of approvals from various regulatory bodies, including IFSCA itself, the SEZ authorities, the Reserve Bank of India (RBI), the Securities and Exchange Board of India (SEBI), and the Insurance Regulatory and Development Authority of India (IRDAI). This process could be time-consuming and cumbersome for businesses.
SWIT: Streamlining the Application Process
The SWIT platform addresses this challenge by creating a one-stop solution for all approvals required for setting up a business in GIFT IFSC. Here’s how SWIT simplifies the process:
- Single Application Form: Businesses no longer need to submit separate applications to various authorities. SWIT provides a unified form that captures all the necessary information.
- Integrated Approvals: SWIT integrates with relevant regulatory bodies – RBI, SEBI, and IRDAI – for obtaining No Objection Certificates (NOCs) seamlessly.
- SEZ Approval Integration: The platform connects with the SEZ Online System for obtaining approvals from the SEZ authorities managing GIFT City.
- GST Registration: SWIT facilitates easy registration with the Goods and Services Tax (GST) authorities.
- Real-time Validation: The system verifies PAN, Director Identification Number (DIN), and Company Identification Number (CIN) in real-time, ensuring data accuracy.
- Integrated Payment Gateway: Applicants can make payments for various fees and charges directly through the platform.
- Digital Signature Certificate (DSC) Module: The platform enables users to obtain and manage DSCs, a crucial requirement for online submissions.
Benefits of SWIT for Businesses
The introduction of SWIT offers several advantages for businesses considering the IFSC:
- Reduced Time and Cost: By consolidating the application process into a single platform, SWIT significantly reduces the time and cost involved in obtaining approvals.
- Enhanced Transparency: SWIT provides a transparent and user-friendly interface that allows businesses to track the progress of their applications in real-time.
- Improved Ease of Doing Business: This makes GIFT City a more attractive proposition for global investors and businesses.
Looking Ahead: The Future of GIFT City
The launch of SWIT is a significant step forward in positioning GIFT City as a leading international financial center. By streamlining the application process and promoting ease of doing business, SWIT paves the way for increased investment and growth in the IFSC. This, in turn, will contribute to India’s ambition of becoming a global financial hub.
Sovereign Green Bonds in the IFSC
Blog Content Overview
In recent years, the global investment landscape has shifted dramatically, with sustainability becoming a central theme in financial markets. As nations and corporations commit to net-zero emissions, innovative financial instruments are emerging to facilitate this transition. One of the most promising of these instruments is Sovereign Green Bonds (SGrBs). Recently, the International Financial Services Centres Authority (IFSCA) in India introduced a scheme for trading and settlement of SGrBs in the Gujarat International Finance Tec-City International Financial Services Centre (GIFT IFSC), marking a significant step towards attracting foreign investment into the country’s green infrastructure projects.
Understanding Sovereign Green Bonds
SGrBs are debt instruments issued by a government to raise funds specifically for projects that have positive environmental or climate benefits. The proceeds from these bonds are earmarked for green initiatives, such as renewable energy projects, energy efficiency improvements, and sustainable infrastructure development. As global awareness of climate change grows, SGrBs are gaining traction as a viable investment option for those seeking to align their portfolios with sustainable development goals.
The Role of IFSCA
The IFSCA’s initiative to facilitate SGrBs in the GIFT IFSC is a strategic move that aligns with India’s commitment to achieving net-zero emissions by 2070. The GIFT IFSC has been designed as a global financial hub, offering a regulatory environment that supports international business and financial services. By introducing SGrBs, the IFSCA aims to create a robust platform for sustainable finance in India.
Key Features of the IFSCA’s SGrB Scheme
1. Eligible Investors
The IFSCA’s scheme allows a diverse range of investors to participate in the SGrB market. Eligible investors include:
- Non-residents investors from jurisdictions deemed low-risk can invest in these bonds.
- Foreign Banks’ International Banking Units (IBUs): These entities, which do not have a physical presence or business operations in India, can also invest in SGrBs.
2. Trading and Settlement Platforms: The IFSCA has established electronic platforms through IFSC Exchanges for the trading of SGrBs in primary markets. Moreover, secondary market trading will be facilitated through Over-the-Counter (OTC) markets.
3. Enhancing Global Capital Inflows: One of the primary objectives of introducing SGrBs in the GIFT IFSC is to enhance global capital inflows into India. With the global community increasingly prioritizing sustainable investment opportunities, India stands to benefit significantly from the influx of foreign capital. The availability of SGrBs provides a unique opportunity for investors looking to contribute to environmental sustainability while achieving financial returns.
The IFSCA’s introduction of SGrBs in the GIFT IFSC is a forward-thinking initiative that aligns with global sustainability goals. By facilitating access for non-resident investors and creating robust trading platforms, India is positioning itself as a leader in sustainable finance. As the world moves toward a greener future, the role of SGrBs will become increasingly important. For investors, these bonds not only represent a chance to achieve financial returns but also to make a meaningful impact on the environment.