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MASTERCLASS ON THE NEW COMPANIES ACT. Special Focus on PE/VC and M&A Impact on Term Sheets & Investments. Khaitan & Co LLP. Background. Company: XYZ Limited (public unlisted) Investor: You (through Mauritius) Promoter: One Promoter with several family members holding shares

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Special Focus on PE/VC and M&A

Impact on Term Sheets & Investments

Khaitan & Co LLP

  • Company:XYZ Limited (public unlisted)
  • Investor:You (through Mauritius)
  • Promoter:One Promoter with several family members holding shares
  • Existing Investors:Angel investor and VC collectively holding 10%
  • Business:100% FDI permitted under the automatic route
  • Your Investment: 26%
  • Note: Language in this font indicates term sheet extracts
background what we are covering
Background – What we are covering
  • Pre-Investment Considerations:
    • Structuring your investment
    • Making the right choice of instrument
  • Conditions Precedent
    • Financial Assistance
    • Insider Trading
  • Management
    • Board Composition
    • Board Committees
    • Board Powers
    • Board Meetings
    • Reserved Matters
  • Further Funding
    • Further Issuances of Capital
    • Pre-emptive Rights
    • Anti-Dilution Rights
    • Conversion
    • Penal Ratchets
  • Exits & Transfer Restrictions
    • Term Sheet Issues
    • IPOs
  • Transaction Documentation
    • Enforceability
    • Entrenchment


  • Structuring your Investment
  • Making the Right Choice of Securities
structuring layered investments
Structuring – Layered Investments

New Restriction | Layered Investments

  • A company cannot make investments through more than 2 layers of investment companies [S 186 (1)]
  • “Investment company” means a company whose principal business is acquisition of shares, debentures or other securities [Explanation, S 186]
  • Whether the restriction is applicable only to ‘investment subsidiaries’?

Exemptions [Proviso, S 186 (1)]:

  • Offshore acquisition possible if the offshore target has investment subsidiaries beyond 2 levels, as per the laws of such country
  • Subsidiary can have investment subsidiary to meet regulatory requirements
structuring layered investments1
Structuring – Layered Investments

Workable Structure?

Permissible Structure

Workable Structure?

Investor Co

Investor Co

Investor Co




















structuring layered investments2
Structuring – Layered Investments


  • Takes away flexibility to structure investments
  • Genuine transactions will be severely impacted, in particular, investments in the Infrastructure sector
  • Ability of India Incto monetise at various subsidiary levels will be impaired
  • Companies will have to demonstrate operations in the subsidiaries | operation and compliance costs

Outbound Acquisitions

  • Statutory recognition of more than one layers for offshore acquisitions
structure differential rights
Structure – Differential Rights

Voting: The Series A Equity Shares shall carry voting rights equivalent to 26% (Twenty Six percent) of the Share Capital.


  • If a member holds 10% of the share capital with 51% voting rights, will he be deemed to have “control”?
  • Equity shares with differential rights as to dividend, voting or otherwise continue to be recognised[S 43(a)(ii)]
  • No differentiation between private and public companies:
    • Is the investee company public or private?
    • Will rules be enacted similar to the existing rules for issuance of shares with differential rights by public companies?
  • Shares with differential rights not to exceed 25% of the total post-issue paid up equity share capital [R 4.2(1)(c)]
  • Can differential voting rights arguably trigger “control” issues under FDI regulations?
  • Definition of “Control” under Press Note 4 of 2013 is wide and includes control by virtue of shareholding, management rights, shareholders agreements or voting agreements


  • Financial Assistance
  • Insider Trading
conditions precedent
Conditions Precedent
  • Conditions Precedent:
  • The Closing of the Transaction shall be subject to the fulfilment of the following conditions (“Conditions Precedent”) to the satisfaction of the New Investor:
  • Completion of legal, financial, environmental, technical and business due diligence processes to the satisfaction of the New Investor;
  • The Promoter shall purchase all securities held by the remaining members of the Promoter Group at a price to be determined inter-se the Promoter Group and the Promoter Group shall no longer have any legal or beneficial interest in the Company upon the conclusion of such purchase;
financial assistance
Financial Assistance

Expenses: The Company shall bear all costs and expenses relating to any due diligence exercise to be conducted in the course of the Transaction and any legal or other fees relating to the negotiation and finalization of the Transaction Documents and the Closing of the Transaction.

  • No financial assistance [S 67]
      • “No public company shall give, whether directly or indirectly and whether by means of a loan, guarantee, the provision of securityor otherwise, any financial assistance for the purpose of, or in connection with, a purchase or subscription made or to be made, by any person of or for any shares in the company or in its holding company.”
      • This section was present in the 1956 Act as well, but the interpretation may well be re-opened
  • Issues?
      • Payment of due diligence costs or advisor’s fees by target
      • Indemnity by target in the underwriting agreement
  • Any  exception?
      • Provisions not applicable to private companies
      • Financial assistance to subsidiary company not prohibited
  • Impact
      • One of the most severe consequences on default
      • To consider whether diligence costs should be pushed to the target
insider trading mop up transactions
Insider Trading – Mop-up Transactions

The Promoter shall purchase all securities held by the remaining members of the Promoter Group at a price to be determined inter-se the Promoter Group and the Promoter Group shall no longer have any legal or beneficial interest in the Company upon the conclusion of such purchase

New Concept [S 195]

  • Seems to be applicable to all companies
  • Prohibits persons, including directors and KMP from entering intoinsider trading (with exemption for communication in course of employment / profession, or under law)
    • “Insider trading” refers to the act of buying, selling, or otherwise dealing in securities by person who is reasonably expected to have access to non-public price sensitive information in respect of securities of the company
    • On contravention, person punishable with imprisonment upto 5 years or fine between INR 5,00,000 and INR 25,00,000 or 3x of profit made out of insider trading, whichever is higher, or both
insider trading mop up transactions1
Insider Trading – Mop-up Transactions
  • Impact | Unclear Concepts
    • There was no requirement for this legislation to legislate on insider trading since listed companies are already covered under SEBI Insider Trading Regulations
    • Defines “insider trading” which is not defined under SEBI Insider Trading Regulations
    • May apply even to unlisted companies, absurd consequences – clearly not intended!
  • Blind Spots
    • “Mop-up” transactions under cloud?
    • How will test of “published information” be met for unlisted companies?
    • What about subsequent rounds of funding?


  • Board Composition
  • Board Committees
  • Board Powers
  • Board Meetings
  • Reserved Matters
board composition
Board Composition
  • Board Composition:
  • On and from the Closing Date, the board of directors of the Company (the “Board”) shall comprise of 5 (Five) directors such that:
  • The Promoter will be entitled to nominate 2 (Two) directors; and
  • The Existing Investors shall jointly be entitled to nominate 1 (One) director (the “Existing Investor Director”); and
  • The New Investor shall be entitled to nominate 2 (Two) directors (the “NewInvestor Directors”);
  • The Existing Investor Director and the New Investor Directors shall hereinafter collectively be referred to as the “Investor Directors” and each shall individually be referred to as an “Investor Director”).
  • The Investor Directors shall be appointed to each committee of the Board.
board composition1
Board Composition
  • Check the following parameters against the matrices above:
    • Company’s net worth;
    • Company’s net profit;
    • Company’s turnover;
    • Company’s paid-up share capital; and
    • Company’s outstanding borrowings.
  • Restructure the Board and introduce committees to comply with requirements
  • Importance of proportionate representation instead of fixed number of directors
director s duties s 166
Director’s Duties [S 166]

The Investor Directors shall not be liable for any failure by the Company to comply with applicable law and shall not be considered as ‘officers in default’. The Company will indemnify the Investor Directors to the greatest extent permitted under applicable law and shall obtain directors and officers liability insurance to the satisfaction of the New Investor providing adequate insurance coverage to the Investor Directors.

  • To act in accordance with the articles of association of the company;
  • To act in good faith to promote the objects of the company for the best interests of the company and for the benefit of the members as a whole and in the best interests of the employees, shareholders, the community and the environment;
  • To exercise his duties with due and reasonable care, skill, diligence and independent judgment;
  • To avoid situations where he may have a direct or indirect interest which conflicts or may conflict with the interests of the company;
  • To avoid any undue gain to himself or his relatives, partners, or associate (if found guilty of this, the director may be required to pay an amount equal to such gain to the company);
board powers
Board Powers
  • Key Changes – Restrictions [S 179]

Addition to the list of powers which can be exercised only at a Board meeting:

    • Approval of financial statements and Board reports
    • Diversification of business
    • Approval of amalgamation, merger or reconstruction
    • Approval of takeoverof another company or acquisition of a substantial stake in another company
board meetings
Board Meetings

Attendance of Meetings: To the extent permitted under and in compliance with applicable Law, any Director may participate in and vote at a meeting of the Board by means of telephone, video conferencing or similar communications equipment which allows all persons participating in the meeting to hear each other and to record the deliberations. Where any Director participates in a meeting of the Board by any of the means described in the preceding sentence, the Company shall ensure that that Director is provided with a copy of all documents to be referred to during such meeting of the Board before the meeting of the Board commences.

  • Participation by video conference and other audio visuals as may be prescribed has been codified and permitted;
  • Procedure for participation in a Board meeting by video conference to be provided
  • Board Restructuring may be required for existing investments:
    • Independent directors may be required on private companies (CSR) – clarification awaited
    • Women Directors may be required on private companies (share capital threshold)
  • Directors’ Liability
    • Directors duties in direct conflict with investor interests
    • Increased risk of nominee director liability (lack of diligence; knowledge attributable through Board process; non-objection)
  • Insider Trading restrictions may extend to private companies [S 195]
reserved matters
Reserved Matters

Reserved Matters

Schedule [--] hereto contains a list of indicative affirmative vote items, to be finalized in the SHA (the “Reserved Matters”).

The Company shall not take any action in respect of any of the Reserved Matters (whether in a meeting of the Board, any committees or the Shareholders) without the consent of each Investor Director or each of the Existing Investor’s or New Investor’s representatives, as the case may be.

  • Check statutory special resolution items, where investor holds > 26%
  • Directors duties are now codified – reserved matters, if considered at Board level, may result in conflict with Director’s duties
  • Reserved matters to be provided for consideration on shareholder’s level
special resolution matters
Special Resolution Matters
    • Matters requiring special resolution under the CA2013 expanded:
  • change of registered office
  • alteration of charter documents
  • issue of ESOPs
  • variation of rights attached to a class of shares
  • preferential allotment of issue of shares, debentures or convertible instruments
  • buyback of shares or reduction of share capital
  • change of auditor
  • re-appointment of independent director after expiry of term
  • “related party” transactions, provided that “related party” shall not vote
  • director’s remuneration, if prescribed in the articles
  • winding up and appointment of liquidator
    • Impact
  • Reserved matter list may be shortened if the Investor has sufficient shareholding – to account for a dilution risk
  • List broadly the same as provided in CA1956 but applicable to private companies also
  • Amendment of charter documents should specifically be made subject to super majority vote

Further Funding

  • Further Issuances of Capital
  • Pre-emptive Rights
  • Anti-Dilution Rights
  • Conversion
  • Penal Ratchets
pre emptive rights further funding
Pre-emptive Rights; Further Funding
  • Pre-Emptive Rights:
  • In the event the Company proposes to offer Equity Shares, or other securities convertible into Equity Shares, to any person, the Investors and Promoter shall, within 30 (Thirty) calendar days after delivery of a notice from the Company describing such offering, have the right but not the obligation to offer to subscribe to any such instrument at the price mentioned in such notice in proportion to their shareholding in the Company to maintain their respective shareholding percentage in the Share Capital (the “Pre-emptive Right”)
  • Further Capital Issues:
  • If the Board determines that the Company requires additional funds, the additional funds shall be raised in the following order of priority:
  • loans from banks/financial institutions inside or outside India on a non-recourse basis on terms acceptable to the Board; or
  • subject to the Pre-emptive Right, if the Company is unable to procure non-recourse loan funds, then equity contribution by the shareholders of the Company pro-rata to their shareholding in the Company
further issue of capital
Further Issue of Capital
  • Watch Outs:
    • Preferential allotment process applicable to private companies now
    • Rules apply to both issue of shares and any other securities convertible into shares [R 4.11(2)]
    • Issues with upfront determination of conversion price
    • In preferential allotment, price of shares to be determined by the registered valuer | not applicable in case of preferential allotment by a listed company [S 62(1)(c), R 4.11]
    • There seems to be a conflict with FEMA – formula v. upfront “price”
    • Ensure that the identity of the registered valuer or the parameters to determine the registered valuer is agreed upfront
anti dilution conversion
Anti-Dilution & Conversion
  • Anti-Dilution:
  • If at any time after Closing, the Company issues to any Person (other than pursuant to the ESOP or bonus issue) any Equity Shares or other instruments that are convertible into Equity Shares or which confer a right to subscribe to Equity Shares at a later date, at a price per share that is lower than the Investment Price, then the New Investor shall be entitled to anti-dilution protection on a [broad based weighted average basis]. In such an event, the Company shall be bound to, and the Promoter shall be bound to cooperate with the Investor and the Company such that, the Company forthwith takes all necessary steps to either adjust the conversion ratio or issue additional equity shares to the Investor.
  • Conversion:
  • The CCPS shall compulsorily convert into Equity Shares on the earlier of:
  • Immediately prior to the filing of any offer document by the Company with SEBI in relation to an IPO; or
  • 20 years from the Closing Date; or
  • Voluntarily, at the sole discretion of the New Investor
  • The conversion of the CCPS into Equity Shares shall be at a price corresponding to the IRR Return unless conversion is in relation to an IPO. In the event of an IPO, conversion shall take place at the lower price of any price band conclusively determined for such IPO.
conversion anti dilution and penal ratchets
Conversion, Anti-Dilution and Penal Ratchets
  • Is a penal ratchet or other anti-dilution protection possible?
  • Price of resultant shares to be fixed upfront if CCPS/CCDs issued at preferential allotment [R 4.11(2)(h)]
  • May be structured as a rights issue! ?
  • Renunciation [S 62(1)(a)(ii)]:
    • In rights issue, unless the articles provide otherwise, the shareholder will have the right to renounce the shares offered to him in favour of any third person – applicable to private companies also
  • Is it enforceable?
  • Does it become a backdoor selective bonus issue?
  • Renunciation to be clarified in articles?

Promoter’s Waiver: The Promoter agrees and undertakes to waive and renounce his/her rights and entitlements to participate and subscribe to the Ratchet Securities in favour of the New Investor and the New Investor shall be solely entitled to participate and fully subscribe to the Ratchet Securities in accordance with their terms



  • Term Sheet Issues
  • IPOs
transfer restrictions
Transfer Restrictions
  • Lock-in of Promoter Shares
  • Except in the event of an IPO, there shall be a lock-in on the Equity Shares held by the Promoter for a period of 5 (five) years from the closing date (“Promoter Lock-in”) and the Promoter shall be restricted from transferring any Equity Shares without the prior written consent of the New Investor and subject to the Transfer Restrictions enumerated below..
  • Transfer Restrictions:
  • In the event that the Promoter transfers any Equity Shares in accordance with the terms of this Term Sheet and the Transaction Documents, the Promoters shall provide the New Investor with:
  • a “Right of First Refusal” to purchase any shares the Promoters may wish to sell to a third party (after obtaining the New Investor’s consent) at the price offered to the Promoters by such third party in writing; and
  • a corresponding “Tag-along Right” to any such sale permitting the New Investor to sell its shares to such third party alongside the Promoters at the same price and upon the same terms and conditions as offered to the Promoters.
exit rights
Exit Rights
  • Exit Rights:
  • The Company shall provide an exit to the New Investor, as per the following waterfall:
  • QIPO: A Qualified IPO (as identified in the SHA) on or before [●] (the “IPO Deadline”);
  • Buy-back / Put Option: If no Qualified IPO happens within the IPO Deadline, then the New Investor will have a right to call for the Company and/or the Promoters to purchase/buy-back the Investor Securities at Fair Market Value. Such purchase/buy-back will be completed within 12 months of expiry of the IPO Deadline;
  • Stake Sale: Upon expiry of the IPO Deadline, the Company will provide an exit to the New Investor via a sale to a financial/strategic investor at terms acceptable to the New Investor; and
  • Drag Along Right: In case the Company fails to provide an exit to the New Investor by all the above means at the end of 12 months after the expiry of the IPO Deadline, the New Investor shall be permitted to sell its stake to any financial/strategic investor. The New Investor shall have the right to drag-along the shareholding of the other shareholders (including the Existing Investors) to such third party financial/strategic investor at the same price as offered to the New Investor.
ipo offer for sale issues in documentation
IPO/Offer for Sale – Issues in Documentation
  • When should you convert?
    • Conversion is mandatory prior to IPO
    • Conversion should occur upon the actual filing of a prospectus
  • What price should you convert at?
    • Conversion should happen only once a price is determinate
    • Conversion should ideally be linked to the lower end of the price band when conclusively determined
  • What if the IPO does not go through?
    • Provision should be made to revert to convertible instruments
    • Mechanics of this require discussion


  • Enforceability
  • Entrenchment
transaction documents
Transaction Documents
  • Transaction Documents:
  • The following documents shall be executed or agreed pursuant to the Transaction contemplated under this Term Sheet:
  • a share subscription agreement (the “SSA”) for the subscription to the Investor Securities to be entered into among the Parties which will govern the terms on which the New Investor will subscribe to the Investor Securities in the Company;
  • a shareholders’ agreement (the “SHA”) to be entered into among the Parties which will govern the inter-se rights of the Parties;
  • an agreed form of the restated articles of association of the Company (the “Articles”) incorporating the relevant terms of the SHA;
  • Background
    • Under CA1956, share transfer restrictions in shareholders’ agreement between shareholders of a public company challenging (S 111A; no safe harbour for transfer restrictions inter-se existing shareholders)
  • Key Change
    • CA2013 recognises that arrangements in respect of transfer of securities (even in case of a ‘public company’) shall be enforceable as a contract [S 58(2), Proviso]
    • A public subsidiary will be treated as a public company regardless of whether it’s articles are in the nature of a private company [S 2(71), Proviso]
  • Impact
    • The change finally settles the position on enforceability of agreements providing for pre-emptive rights inter-se shareholders of a public company such as lock-in period, ROFR, ROFO, tag-along, drag-along

Articles of Association: The Articles of Association of the Company shall be amended and restated in order to reflect the provisions of the Transaction Documents at Closing.

Is this clause necessary?

  • What provisions should be entrenched?
  • Unanimous voting in Closing meetings
  • Additional post-closing filing, if provisions are entrenched
  • S 5
    • Flexibility to specify that certain provisions of the articles may only be altered if specified conditions or procedures more restrictive than a special resolution are complied with [S 5(3)]
    • For a private company, entrenchment provisions must be inserted at the time of formation or by a unanimous shareholders’ resolution [S 5(4)]
    • For a public company, entrenchment provisions must be inserted at the time of formation or by a special resolution [S 5(4)]
    • ROC will need to be notified of entrenchment provisions within 30 days of incorporation or amendment to articles [R 2.7]