A startup can possess immense growth potential if harnessed correctly. This secret has been identified, evaluated, and even supported by GoI through various measures, as demystified here.
To run a startup efficiently and reach profitability, continuous cash flow is vital. Funds are required at different stages for different purposes. For instance, in the early stage of the startup, funds may be utilized for prototype creation or product development, whereas after the initial stability, marketing and sales may require the influx.
Other avenues which require funds include –
- Team hiring
- Working capital
- Legal & Consulting services
- Raw Material & Equipment
- Licenses & Certifications
- Office space & Admin expenses
FUNDING OPTIONS
There are three main types of funding options for working capital needs –
- Equity Financing – the co-founders sell a portion of equity for the capital, with no repayment requirement of the invested funds
- Debt Financing – the money is borrowed from institutions or private lenders and requires repayment with interest
- Grants – the financial award is given to the company for incentivizing performance and goal achievement, with no dilution of equity or repayment requirement.
The stage of operations of the startup plays a critical role in determining the funding source.
While delving deeper into the process, we have also identified and listed the necessary documents and agreements that must be executed for smooth execution.
At the ideation or Pre-seed stage, a startup does not necessarily have too many external options to raise funds. However, it may consider –
- Bootstrapping/Self-financing
- Raising funds from friends and family
- Avail grants/financial support/ prize money from Pitching Events
Once the prototype is ready, the startup will aim to perform market research to gauge the demand for the product. This market research is also called Proof of Concept (“POC”), post which the big launch is carried out.
To conduct free trials, product testing, onboard mentors, and build a team, a startup can raise funds during the Seed Stage by the following modes –
- Connecting with Incubators
- Reaching out to Angel Investors
- Availing of Government schemes and loans
- Opting for crowdfunding
Once the product is launched and has gained some traction, a startup can raise funds to further grow the user base, product offerings, expand to new geographies, etc., through Series A funding. Common sources for Series A include –
1. Venture Capital Funds
2. Debt from Banks/Non-Banking Financial Companies (NBFCs)
3. Venture Debt Funds
Series B, C, D, and E can be raised through Venture Capital Funds and Private Equity/Investment Firms.
LEGAL PROCESS & DOCUMENTATION
Essential documents involved during the process of raising capital that must be thoroughly evaluated by the legal team at the startup include –
- Letter of Intent: It is a primary document expressing VC’s intent to invest in the startup. This document forms the basis for due diligence and execution of the term sheet.
- Memorandum of Understanding: MoU is a document similar to a letter of intent but has a binding effect on both parties. It also specifies the initially agreed terms, which are later incorporated in the detailed term sheet.
- Term Sheet: The term sheet lays out all necessary details about the transaction, including information about the funds raised.
- Share Subscription Agreement: Share Subscription Agreement is a contract executed between the parties to subscribe to the shares against the consideration determined based on the startup’s valuation.
- Shareholders Agreement: SHA provides for the terms of shareholding and various warranties and covenants for each party. It also includes multiple rights of the shareholders viz., Pre-emption rights, Right of First Refusal or Right of First Offer, Tag-Along Right, Drag-Along Rights, and Lock-in-period for the investor or promoter holding, put and call options.
- Non-disclosure Agreement: As a startup, valuable assets include product/service information, technical know-how, financial information, etc. These details are shared with the investor during the pitch presentation. Still, they do not necessarily need to be shared with other uninterested parties. Hence, to protect confidential information, NDAs are executed. A breach of NDA generally entails a severe consequence, including punitive damages.
Other important documents for a startup include Agreements between co-founders, employees, consultants, etc., and HR Manual/Handbook.
Don’t forget to check this space for our next article – where we detail the nuances of a co-founder agreement and help you create an airtight agreement to safeguard your interests as a co-founder.
This is only for informational purposes. Nothing contained herein is, purports to be, or is intended as legal advice and you should seek legal advice before you act on any information or view expressed herein. Endeavoured to accurately reflect the subject matter of this alert, without any representation or warranty, express or implied, in any manner whatsoever in connection with the contents of this. This isn’t an attempt to solicit business in any manner.