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Updated 30 Sep 2020

Selling equity to raise funds

Need to raise funds to expand your business? Have you considered selling equity in your company?

Entrepreneur Magazine, 02 April 2012  Share  0 comments  Print

All the answers to your unique business lifestage questions

The private sale of stock could hold the key for a low-cost source for growth capital and expertise.

Public vs. Private

Entrepreneurs are often lured by the appeal of selling stock on the open market: Instant cash realisation with no debt to repay - think AltX or the JSE.

But most are not in a position to go public with the complexities of a public offering-especially in an uncertain market, when a successful initial public offering is far from guaranteed.

A more practical option is selling private equity stock to a few people who have confidence in your product.

There are no investment bankers or financial consultants to worry about, and you can maintain the control associated with a privately held company, all while reaping the advantages of instant cash and no debt.

An added bonus is the potential to bring others' expertise to your venture.

In addition to raising expansion capital, selling stock to private individuals can allow business owners to tie the investors tightly to the company and benefit from their advice and counsel on growing the business.

Why would an investor choose your private stock over a hot IPO? Their direct access to you and your company puts them in a much better position to effectively evaluate the risks and rewards of their investment.

To sell or not to sell

You should ask yourself two questions to determine whether a private equity sale is right for your company. First, is there any market for your stock?

Understand that investors will want to know specifically how you intend to use the money and what type of return to expect, as well as a timeline.

Selling stock is a great way for a growing company to raise money it needs to succeed, but your company must be in a growth position in order to attract private investors.

Plans to inflate your own salary or pay off old debts with investors' money will not snag any investors. Rather, you must first bring the company to a level where the investor will have confidence in the potential rewards from the investment.

Second, are you willing to give up a little control in exchange for equity? Selling private stock also carries responsibilities for your new shareholders.

They will have the right to elect directors of the corporation, inspect books and records, and, depending on the set agreements, vote on major corporate decisions, such as selling assets.

Bear in mind, raising money sets certain expectations about future company growth and plans. Once outside investors are involved, it is no longer a personal lifestyle business - the owner now has fiduciary responsibilities to the investors.

Consult the experts early on

When considering selling equity in your business, entrepreneurs will be wise to consult professionals early in the planning stage to get a good grasp of the issues from the outset.

Spend time with your lawyer before approaching an outside investor, and be better prepared to meet with investors at that point. Then when it comes down to drafting the terms and preparing the agreement documents, your lawyer will be aware of the basics of the transaction.

Tyranny of the minority

While the money from a stock sale comes without obligation to a banker, entrepreneurs who sell stock to outside investors have changed the entire dimension of their company's structure.

Though your company is still private, you now have certain obligations to your shareholders.

Experts say that agreeing to reasonable goals and objectives at the beginning of the relationship can save you headaches associated with minority shareholders' rights and even lawsuits in the future.

Be sure you have a shareholders agreement delineating the rights between parties.

The agreement should include how and when a shareholder will be paid dividends, who controls the board of directors, and under what circumstances shareholders must be consulted on major decisions.

Can you relate?

Beyond the legal obligations, entrepreneurs must become investor relations experts. You have to be willing to invest time in building a relationship with your investors if you want your investor to be an asset for your company.

Make sure you keep the investor as happy as possible by providing them information about the company on a routine basis.

Have a tour of the new facility if one is constructed with the offering proceeds, send new product information, maybe even call to solicit his advice from time to time.

Most experts believe that shareholders who are more involved in the business are much less likely to feel boxed-out and are far less likely to be suspicious that something is being hidden from them.

Lack of information breeds disgruntled shareholders and that, in turn, leads to acrimony or even lawsuits.


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