What is a Subscription Agreement?

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  • 13 Dec 2023
What is a Subscription Agreement?

Key Highlights

  • Subscription agreement meaning refers to formal agreements between companies and investors to buy shares of a company for a set price.
  • The document contains all the details of an agreement, including outstanding shares, share ownership, and payouts.
  • An agreement ensures that the company receives adequate funds while private investors can realise profits on the invested capital.

Companies that aren't listed on the stock exchanges are privately owned by the current partners. This type of company may be registered as a limited partnership firm, a startup, or a small business. These companies go to private investors to raise capital without listing on the stock exchanges.

As limited partners, these private investors use the subscription agreement to present their applications. As part of the agreement, the general partner of the company brings in limited partners (private investors). When a private investor is approved to be a limited partner, the company receives a certain amount of capital, and the investor becomes a silent partner.

Silent partners invest a one-time amount and are not involved in the business operations. Due to their non-involvement in company decision making, they are less exposed to risk than general partners. In addition, private investors' liability is limited to their investment capital amount.

There is usually a guaranteed return rate associated with share subscription agreements for private investors. However, some subscription agreements reward investors with a percentage of profits. Moreover, silent patterns have the right to hold the stocks and sell them at the IPO.

Subscription agreements allow general partners to ensure that the company receives adequate funds, while private investors can profit from their investments. An agreement has the following advantages:

  • Limited Liability: Private investors who become silent partners have limited liability under the subscription agreement. In the event that the company goes bankrupt, the limited partners are not liable to repay the lenders or any other entity with their wealth. They are only responsible for the amount they invested.
  • One-time Investment: The silent partners are required to invest a predefined amount as a one-time payment and not make payments over time. With this agreement, it is a great way for investors to invest a lump sum and get returns.
  • Investment Growth: This agreement allows investors to invest in companies during their early growth stages. The amount invested by private investors can multiply by a huge margin as businesses grow to be worth billions. Thus, allowing investors to get high returns from their investments.
  • Easier Funding: Some companies do not want to list on a stock exchange in order to raise funds because it may be unsuccessful based on the condition of the company. Thus, general partners of the company raise funds by using subscription agreements instead of offering shares to the general public.

A subscription agreement has many advantages for both general and silent partners, but it also has some disadvantages. Here are the disadvantages:

  • Lack of Rights: Silent partners do not receive internal rights such as voting rights and are not allowed to participate in day-to-day activities or the company's decision-making process. As a result, the silent partners are prevented from participating and can lose their investment.
  • Huge Amount: A subscription agreement requires private partners to invest a large lump-sum amount without the option to spread the investment over several securities. Due to this, some investors prefer to buy equities on the secondary market.
  • No Liquidity: Through the subscription agreement, the private investor becomes a silent partner in the company and holds the funds. However, it can be very difficult for the silent partners to realise cash for their shares unless someone else buys them out.
  • Lack of regulation: As the subscription agreement is not regulated by a governing body like SEBI, it may result in a lack of transparency.

Conclusion

A share subscription agreement is a legal document that a company which is not looking to list on the stock exchange can utilise. The company uses this legal document to raise funds and add silent partners to its company structure. In addition, private investors, also known as silent partners, can use this agreement to invest in the company before anyone else and see their investment grow over time. While there are advantages to this type of investment, there are a few downsides, such as a lack of rights and regulation, no liquidity and a huge amount. Therefore, it is wise to do your research and invest as per your risk appetite and financial goals.

FAQs on Share Subscription Agreement

The subscription agreement refers to the shareholders' agreement. Usually, they are signed at the same time. Also, sometimes, these documents may be merged into one big document (investment agreement). However, for clarity, these agreements are usually separated.

The subscription agreement is required to keep track of outstanding shares and share ownership. In addition, it mitigates any potential legal disputes in the future regarding share payout.

Share subscription is necessary when a company wants to raise capital and seek investors without listing on a stock exchange.

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