In the last 5 years, there has been a lot of seed and institutional venture capital (VC) money flowing into the Southeast Asian technology space. With a total population of 600m, and with a young and tech savvy consumer market, investors have spotted the potential for the rapid growth of disruptive tech companies in the region.
In this guide, we discuss the things Southeast Asian tech start-ups need to think about before they raise seed investment from sources such as seed focussed VC funds, 500 startups, high net worth individuals, government matching investment schemes and start-up accelerators.
If you are looking to raise series A or other follow-on financing, check out our guide to raising series A capital in southeast asia.
When starting a new tech business in Southeast Asia, one of the first things you need to think about is where to incorporate.
Whilst the VC market is increasingly global, investors prefer a safe place to invest their money. In Southeast Asia, that generally means Singapore – currently the regional leader in terms of infrastructure, respect for intellectual property and legal protections. For this reason, most Southeast Asian tech start-ups raising professional capital domicile (or redomicile – discussed below) out of Singapore (either to attract investment or as a requirement of their investors).
We suggest that Southeast Asian start-ups incorporate their holding company in Singapore from the outset, irrespective of the key market of the business.
Many start-ups want to focus on building their business and look to outsource supporting roles, such as company secretarial services. Appointing an ongoing company secretarial provider is a simple process, but don’t simply choose a provider on price. Because start-ups in Southeast Asia often grow rapidly, you could raise capital two or three times in the first 24 months. This is likely to require the company to issue different classes of shares to multiple international investors. You may also want to issue convertible debt or adopt an employee share option plan (ESOP). As a result, a large amount of company secretarial paperwork may be required, some of which can be quite complex. Therefore, look to work with a provider with a track record of working with tech and venture backed companies, such as Futurebooks.
Most start-ups will also need to engage an accountant to assist with their annual accounts and ongoing tax compliance and book-keeping.
redomiciling (flipping) your company
It’s not always possible to incorporate in Singapore from the outset, e.g. if you have received Government seed grants which require the recipient company to remain incorporated in the local jurisdiction for the period of the grant.
But, when the time comes to raise capital for your start-up, you will probably need to redomicile your company to Singapore to meet the requirements of investors (and this discussion assumes this is the case). This is commonly referred to as flipping your company.
Flipping to a new jurisdiction can be done by either a transfer of shares (see diagram 1) or a transfer of assets (see diagram 2).
Diagram 1 – flip by way of share transfer
Diagram 2 – flip by way of asset transfer
A share transfer is the simplest and most common approach. It involves a transfer of all of the shares in the existing company (ExistingCo) to a new holding company (NewCo). NewCo then immediately issues shares in NewCo to mirror the holdings that had been held in ExistingCo. These are separate corporate transactions in two different jurisdictions. As a result, it’s a good idea to get legal and tax advice on both of them. E.g., the share transfer may be a liquidity event in certain jurisdictions triggering a tax charge on the deemed capital gain. Separately, you will need to attribute a value to the ExistingCo shares being transferred for the purposes of appropriately recording the share issue at the Accounting and Regulatory Authority (ACRA).
A company flip involves an issue of shares for non-cash consideration. Section 63B of the Singapore Companies Act, (Cap.50) (Companies Act), requires an agreement to be filed with ACRA setting out the terms of the non-cash consideration. This agreement (commonly called a share exchange agreement) also gives ExistingCo shareholders comfort that they will receive the equivalent number of shares in NewCo once the transfer of shares in ExistingCo is completed. This is important as, in certain jurisdictions in Southeast Asia, share transfers are subject to regulatory approvals and can take some time to complete.
Our share exchange agreement is a great template to use to flip your company from a jurisdiction in Southeast Asia into Singapore by way of a share transfer and issue of new shares in a NewCo. You will need to have the agreement reviewed for local compliance by a lawyer in the jurisdiction of ExistingCo.
Flipping your company by way of an asset transfer is usually more complex and time consuming because it requires the sale of individual assets from ExistingCo to NewCo. Given this, asset transfer is usually only used if there is a significant legal, tax or commercial impediment to a share transfer.
An asset transfer involves the assignment or transfer of intellectual property, other key assets, contracts and employees. These assignments and transfers may require the consent of third parties. This process usually leaves ExistingCo without any assets other than either shares in NewCo or a debt from NewCo (the consideration for the asset transfer). However, if your company has a material liability (e.g. a customer threatening to sue ExistingCo), investors may require the liability and associated contract to remain with ExistingCo. In this case, it’s a good idea to chat to a lawyer about how to best structure the split.
You will need to carry out some due diligence on your own company before flipping it. Aside from local legal and taxation matters, check whether existing contracts and other arrangements will be impacted by the redomicile, e.g. a shareholders’ agreement will need to be mirrored and restated under the laws of NewCo’s jurisdiction.
For further information and tips on redomiciling your company in Southeast Asia, see e27’s blog post on flipping.
If, as a start-up, you are planning to raise capital in the near future, we suggest holding off entering into a shareholders’ agreement. Most incoming investors will want the company to adopt a new shareholders’ agreement to protect their interests, so work on an earlier shareholders’ agreement may be wasted time and cost.
However, founder vesting arrangements may be needed from an early stage. These arrangements protect the company if a founder moves on before you complete a capital raise (and, in any case, founder vesting arrangements sometimes remain in place post-investment), because investors don’t like departing founders retaining a large percentage of the equity.
Under a vesting arrangement, a founder who leaves the company within a set period (typically 2 or 3 years) forfeits a portion of his or her shares back to the company. These are increasingly common in Southeast Asian tech start-ups and generally follow the Silicon Valley model.
We have two examples of founder agreements on our website:
- in our short form co-founder agreement some or all of a founder’s shares vest progressively over a set period, either with or without an initial cliff. The company’s right to purchase unvested shares for a nominal sum applies where the co-founder ceases to work for the company. This is by far the most common arrangement
- our long form founder agreement takes a similar approach to the short form one, but the company also has the right to purchase unvested shares for a nominal sum if the company considers the founders has failed to make the required contribution to the business. This is useful if the founder doesn’t have an employment agreement or similar document setting out what is expected in terms of contribution to the business.
Where the vesting arrangement involves the buy-back of a leaver’s shares by the company (which is usual), the local jurisdiction of the company may restrict share repurchases. E.g. for Singapore companies, the Companies Act requires:
- the company’s articles of association or constitution (as applicable) to expressly permit share repurchases
- a buy-back agreement to be approved in advance, with the directors being satisfied that the company was solvent at the date of this agreement
- no more than 20% of the total issued share capital to be bought back in a 12 month period.
For these reasons, vesting agreements may provide that leavers transfer shares to other founders.
Many investments in Southeast Asia are made into a Singapore holding company, but you may have group companies in other countries in the region (e.g. where the business actually operates). Due to foreign ownership regulations, founders may still personally own shares in subsidiaries at the time of starting discussions on a proposed investment. Investors will want to see a clear group structure in terms of ownership and evidence of any local capital requirements having been satisfied. The more companies and jurisdictions involved in the group, the more extensive due diligence and pre-closing conditions you can expect.
Investment is often conditional on a group company in another jurisdiction completing a particular corporate action. E.g. foreign businesses operating in Indonesia may need to set up a PT PMA company (a foreign investment limited liability company) which can take up to 6 months to complete (of course, this is often worthwhile when you consider Indonesia’s vast and young population and rising consumption – it is an exciting country for entrepreneurs and investors, with a significant amount of capital being invested there).
Some markets or sectors may be closed to foreign investment too, e.g. Indonesia has a negative list administered by the local investment coordinating board (BKPM), and similar restrictions may apply in other Southeast Asia jurisdictions. Check with local counsel on what is required and understand the timing to execute, as it may add significantly to the deal timetable. It may be that certain actions need to be completed after the closing as it is simply impractical for them to be completed before funding occurs. Ensure you take advice on how long these actions may take and understand the investors’ remedies if you fail to complete them in time.
Be sure to read our next guide in this series where we discuss how to structure seed investment deals, the key terms and documentation to consider, and how to go about finding investors.