Why startup founders should not buy an “off the shelf company”

Setting up a company can be costly, especially for many bootstrapped founders. Of course, you are trying to save money and all, and that’s understandable. Bootstrapped founders do this by buying a shelf company or ‘off the rack’ shell company offered by corporate secretarial firms which I don’t think is a good idea. Let me explain why purchasing an off the shelf company may not be a good idea for your startup.

What is a shelf or shell company?

A shelf company or a ‘shell company’ is a dormant entity without any active business or assets—no bank account. No business activity has commenced too.

Please don’t get me wrong. A shelf company works the same as any other new or fresh company. The only difference is that they have been dormant after being formed by the initial founders and now left to the corporate secretarial firms. Some of these companies may get started by these corporate secretarial firms themselves. These shelf companies will be ready if some business owners need to get an entity prepared for some corporate exercises.

If the company ended up being dormant, you might decide to close it down or strike it off (a process where a company gets dissolved and only works if it has no asset). So some corporate secretarial firms may get the previous owners’ permission to takeover these entities. Companies are formed and used for so many reasons like special purpose vehicles, or ‘SPVs’, which act as entities for specific reasons and purposes to achieve particular commercial objectives. So that could be the reasons why these shelf companies exist in the first place.

Setting up a company is cheaper nowadays

Due to the competitive nature of the corporate secretarial firms in Malaysia, it is cheaper to set up a company nowadays! The usual incorporation fee range is between RM1,500 to RM2,5000 depending on which corporate secretarial firm you choose to onboard as your company secretary.

You may have to pay the same amount or even more if you buy a shelf company. So I don’t see a significant difference in terms of costs on why you should be bothered about buying a shelf company.

You don’t know if the shelf company is really “empty” or “dormant”

You should not buy a shelf company because they may have ‘legacy issues’. To be honest, there’s no way of knowing if the company is actually “dormant”. If the company was incorporated ten years ago, God knows what that company may have inherited like outstanding penalties or fines or even lawsuits by creditors or other third parties.

If you still want to proceed to buy a shelf company, you may want to conduct some checks like CTOS and court searches on the company. You can even get the company secretary to give you an indemnity (if the company secretary is so willing) if anything goes wrong after the entity purchase to compensate you for potential troubles and costs. But who’s got the time and money to go through all that hassle and trouble?

You may get into trouble with your startup fundraising

Most funding and grant agencies like Cradle Fund have a condition that the company must apply for the funding within three years of their incorporation date. If your company is older than three years, you will most likely have to form a new entity and incur new incorporation costs by getting a company secretary.

I can understand why funding agencies impose this condition. If your company is older than three years, they may also tend to have more issues too. Before investing in a company sophisticated and institutional investors like Cradle Fund and venture capitals appoint legal firms to conduct the necessary legal due diligence on your company.

So usually, when it comes to legal due diligence, the review will start from the company’s incorporation date. You got that right. If your company got formed in 2000, we would get all your secretarial documents from that year to the current business year. It can be a messy affair.

So if you may have qualified for funding or grant by a government agency, you may need to form a new fresh company to get the letter of award from the funding agency. It can be time-wasting and ended up being more costlier, especially when your company has been operating under a shelf company. For instance, all the assets and contracts that the earlier shelf company entered may need to be novated or assigned to the newly formed entity, so there’s also a cost attached in that exercise. Additionally, you may also need to capitalise the shares to issue the correct number of shares to the new company’s shareholders and cofounders.

For all these reasons above, it may be a good idea to start your entrepreneurial journey by forming a new entity instead. There are so many corporate secretarial firms nowadays offering ‘startup-friendly’ packages as they try to get into this space. Ask around for some referrals from other seasoned entrepreneurs. And I am confident you will find a good one to help you with your entity formation.