How a Company is Formed in India (2024): An Ultimate Success Guide

What is a Company

A company is a group of individuals formed under the supervision of law working together to operate a specific business and promote its growth. A company can be of three different types mentioned below:

1. Partnership
2. Proprietorship
3. Corporation

There are two structures of a company:

1. Private
2. Public

As we are focused on stock markets, we will discuss public companies and their formation. This information pertains to the Indian stock market, using data and examples of Indian companies.

How a Company is Formed

In order to go public or be listed on a stock exchange, the minimum valuation of a company must be worth Rs 5 crore for the issue of shares in the market, as per the SEBI (Securities Exchange Board of India) guidelines.

If a company is valued at Rs 5 crore, the founder can approach the BSE (Bombay Stock Exchange) or NSE (National Stock Exchange) to seek approval to get listed on the stock market or to invite shareholders publicly.

After successful submission of the required documents, the exchange will investigate to determine the actual net worth of the company. There have been instances where founders, unaware of the actual valuation, provide estimated data. Companies submitting documents with a valuation of Rs 10 crore may turn out to be Rs 100 crore companies after investigation, or vice versa.

Psychology of a Share Holder

An owner is someone who owns 100% of the company. Companies that issue shares in the market are not wholly owned by the original owners; they have shareholders. If you hold shares of a company, you are not only a shareholder but also a partner in the company. Any shareholder is considered a partner in the company. Let’s dive into an example.

A person named Rahul holds shares of multiple companies and travels to the USA. There, he meets a guy named Chris in a casino, and while playing at the same table, they interact. When Chris asks Rahul what he does for a living, Rahul replies that he owns big companies in India like Reliance Industries, Adani Enterprises, Hindustan Unilever, Bharti Airtel, IDFC First Bank, Jyoti Structures, Tata Steel, Gail, Olectra Greentech, and more. He also mentions owning shares in American companies like Microsoft, Apple, Alphabet Inc, Novavax, Tesla, and GameStop.

Chris is shocked and questions how Rahul owns these companies, knowing it is likely not true. Rahul explains that he has invested in shares of these companies and holds equity in the form of stocks. His mindset is that he is not only a shareholder but a partner in these companies.

This mindset brings conviction to invest in any company. When you decide to become a shareholder, your intent must be clear. You should think about what steps you would take to grow the business if you were in the chairman’s position. This is how one should understand a company before investing in it.

Board of Directors

Board of Directors are simply called the ‘decision-makers of the company.’ The Board of Directors can be appointed based on share distribution. The more shares you own, the higher the chances of becoming a board director.

SEBI Guidelines on Board of Directors

There should be a minimum of 3 and a maximum of 10 board directors as per company law. If a company has to appoint 10 board directors and 40% of its equity is public equity, it can appoint only 6 directors by itself. The remaining 4 will be selected from public shareholders based on their shareholding percentage. The higher the percentage of holding, the higher the priority for eligibility.

Example

Let’s understand this process with an example of a company named Rajan Ltd.

Title	Equity Holding	Board of Directors	Priority
Founders	60%	6 Mandatory	Confirmed
Ram	7%	1st Preference	High
Rahul	5%	2nd Preference	High
Abhishek	4.5%	3rd Preference	High
Rohan	4%	4th Preference	High
Rest of Public	19.5%	Last Preference	Low

In the above chart, it is clear that founders own 60% of the equity, so they have the right to appoint 6 Board Directors of their choice. For the 7th, 8th, 9th, and 10th Board Directors, they will contact Ram, Rahul, Abhishek, and Rohan respectively to invite them to become Board Directors. If any person refuses, the highest shareholder from the rest of the public will be contacted. As per SEBI guidelines, all remuneration, including travel, accommodation, and other related expenses, will be provided to the shareholders by the company. The Managing Director will be selected from the 60% equity holders, i.e., the founders.

Role of Board of Directors

The Board of Directors plays a crucial role in decision-making. For every decision, a vote is conducted, and a minimum of more than 50% is required to implement a decision. When a decision has 75% or more in favor, it is termed an EOD (Extraordinary Decision). All voting processes are recorded and later submitted to SEBI to avoid any hassles. Companies must also have an Investors section on their website, including an overview, roadmap, financials, corporate governance, regulations, investor resources, and investor support. When a company issues shares in the market, it also issues a prospectus (which includes the dividend policy).

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