Capital Structuring — Designing for the Exit, Not Just the Next Round

Most Indian companies do not design their capital structure. It accumulates — a founder loan here, a preference share issued to an uncle there, a convertible from an early investor on terms nobody has read since, a working capital facility secured on everything. By the time a serious transaction arrives, the cap table describes a history rather than a plan.

That matters because the structure constrains what can be done later. Promoter shareholding diluted below the minimum contribution threshold cannot be restored at the offer. Convertibles with conversion mechanics agreed years ago fix the dilution at the next round. Debt taken with covenants restricting further borrowing limits the funding options available when growth capital is needed. Almost every constraint a company hits at a transaction was created by a decision taken casually years earlier.

N D Savla & Associates advises companies across Mumbai, Navi Mumbai, Thane and Goa on capital structure design — the debt and equity mix, instrument selection, cap table planning against a listing or exit, and the regulatory and tax constraints that determine what is actually available. Where a funding round is in prospect, the structuring decisions taken before the term sheet matter more than the negotiation that follows it.

What Is Capital Structuring Actually Deciding?

Four questions, and they interact. Answering them in isolation is how structures end up internally inconsistent.

Equity Shares

The simplest instrument and the one everything else is measured against. Full voting and residual economic rights, no fixed return, no repayment obligation. Issued at a price supported by valuation where the issue is preferential, and subject to a pricing floor where the subscriber is non-resident.

Preference Shares

A fixed dividend entitlement ranking ahead of equity, with a redemption obligation where redeemable. Useful for investors wanting a preferential economic position without control. The mistake made constantly in closely held groups is issuing preference shares at a nominal coupon and carrying them at face value — an instrument yielding well below market is worth less than its face amount, and a financial asset valuation will say so when the shares eventually change hands.

Convertible Instruments

Compulsorily convertible preference shares and debentures dominate Indian venture and private equity investment. They give the investor downside protection until conversion while being treated as equity for foreign investment purposes, and the conversion ratio is where anti-dilution, milestone adjustment and valuation protection are implemented. The conversion mechanics deserve careful modelling, because they determine the founder's eventual holding far more than the headline valuation does.

Debt

Term loans, working capital facilities, non-convertible debentures and shareholder loans. Debt is cheaper than equity and does not dilute, and it brings covenants, security and a fixed servicing obligation. Interest deductibility is subject to limitation where the lender is a non-resident associated enterprise, and loans from a closely held company to a substantial shareholder can be treated as deemed dividend — both of which turn a funding decision into a tax question.

Employee Stock Options

A pool created before it is needed, diluting from the moment it is reserved. The design decisions — pool size, vesting, exercise price, and whether options survive a liquidity event — belong at scheme creation. ESOP advisory at that stage costs a fraction of remedial work when employees begin exercising and discover the perquisite tax position.

For most of independent India's history, companies did not structure their capital. The state did it for them, and the professional skill required was compliance rather than design.

The Capital Issues (Control) Act, 1947 established the Controller of Capital Issues, who determined whether a company could issue capital, in what amount, in what form and at what price. Pricing followed prescribed formulae rather than negotiation. Debt was largely institutional, channelled through development finance institutions on terms set by policy rather than by credit assessment. A company's capital structure was substantially an output of the licensing system, and the idea that it might be designed to optimise cost of capital or to prepare for an exit had very little room to operate.

Liberalisation dismantled that. The Act was repealed in 1992, the Controller's office abolished, and the Securities and Exchange Board of India took over the public issue market on a disclosure basis. Companies became free to price their own issues and to choose their own instruments. Foreign investment was progressively opened, and the Foreign Exchange Management Act, 1999 replaced the restrictive regime of the 1973 legislation with a framework built on management rather than prohibition.

What arrived next was the technique. Private equity and venture capital entered India through the 1990s and 2000s bringing instrument structures developed elsewhere — convertible preference with liquidation preference, anti-dilution ratchets, tranched investment linked to milestones, drag and tag arrangements. Indian company law had no vocabulary for much of this, and the early years produced a great deal of litigation about whether terms recorded only in a shareholders' agreement bound the company. The consistent lesson, eventually reflected in the entrenchment provisions of the Companies Act, 2013, was that rights not carried into the articles were materially weaker.

Regulation then reshaped what was structurally possible. Pricing guidelines under the exchange control framework moved from prescribed formulae to a requirement that issues and transfers involving non-residents be priced on an internationally accepted methodology at arm's length, certified by a specified professional. Tax provisions taxing transfers of unlisted shares below fair market value, and share premium above it, made valuation determinative of tax liability rather than merely evidential — the latter provision, widely known as angel tax, generated a decade of disputes for startups before being abolished with effect from assessment year 2025-26. An interest limitation rule was introduced following the international base erosion work, capping deductibility of interest paid to non-resident associated enterprises.

The listing end of the structure tightened most recently. Following SEBI's 208th Board Meeting on 18 December 2024, the ICDR Regulations were amended and notified in early March 2025, with the SME provisions applying to draft offer documents filed on or after 19 December 2024. Promoter lock-in on the minimum contribution was extended to three years with phased release of holdings above it, the offer for sale component was capped at twenty per cent of issue size with no seller offloading more than half their pre-issue holding, and proceeds may no longer be used to repay loans from promoters or related parties.

We structure against the exit, not the round. Almost every constraint a company hits at a listing or a sale was created by a funding decision taken years earlier. Modelling the endpoint first is what prevents the cumulative dilution and instrument overhang that closes options.

Regulatory constraints applied before terms are agreed. Pricing floors, promoter contribution, lock-in and interest limitation determine what is actually available. Negotiating a structure and then discovering it cannot be implemented wastes the negotiation.

Valuation and structuring in one practice. Instrument design depends on valuation, and valuation depends on the instrument terms. Having both in the same team means the conversion mechanics and the price support each other rather than being reconciled afterwards.

Current with the 2025 listing changes. The offer for sale cap, extended promoter lock-in and the restriction on repaying promoter loans from proceeds materially change how a company should fund itself in the years before an SME listing. Structuring advice given before December 2024 needs revisiting.

Six offices across Maharashtra and Goa. Andheri, Charni Road, Vashi, Thane, New Panvel and Panaji. Structuring decisions need conversations with founders, lenders and investors rather than documents, and the company law filings that implement them are handled by the same team.