MODULE 9
SEARCHING FOR
INVESTORS
• Learn how to attract different types of investors
There are two basic ways to finance a business: Equity Financing
and Debt Financing.
In equity financing, you receive capital in exchange for part
ownership of the company.
In debt financing, you receive capital in the form of a loan, which
must be paid back.
Equity financing can come from various sources, including
venture capital firms and private investors. Whichever source
you choose, there are some basics you should understand before
you try to get equity capita. An investor’s “share in your
company” comes in various forms. If your company is
incorporated, the investor might bargain for shares of stock. Or
an investor who wants to be involved in the management of the
company could come in as a partner.
Because equity financing involves trading partial ownership
interest for capital, the more capital a company takes in from
equity investors, the more diluted the founder’s control. Expect it
to be between 25 to 75 percent equity in your company. The real
question is: How much management are you willing to give up?
Don’t overlook the importance of voting control in the company.
Investors may be willing to accept a majority of
preferred(nonvoting) stock rather than common(voting) stock.
Another possibility is to give the investor a majority of profits by
granting dividends to the preferred stock first. Or holders of
nonvoting stock can get liquidation preference, meaning they are
the first in line to recover their investment if the company goes
under.
Even if they are willing to accept a minority position, financiers
generally insist on contract provisions that permit them to make
management changes under certain conditions. These might
include covenants permitting the investor to take control of the
company if the corporation fails to meet a certain income level or
makes changes without the investors’ permission.
Venture Capital is one of the more popular forms of equity
financing used to finance high-risk, high-return businesses. The
amount of equity a venture capitalist holds is a factor of the
company’s stage of development when the investment occurs,
the perceived risk, the amount invested, and the relationship
between the entrepreneur and the venture capitals.
• Private Venture Capital Partnerships are perhaps the
largest source of risk capital. They generally look for
businesses that have the capability to generate a 30
percent return on investment each year.
• Industrial Venture Capital Pools usually focus on
funding firms that have a high likehood of success,
such as high-tech enterprises or companies using
state-of-the-art technology in a unique manner.
• Investment Banking Firms traditionally provide
expansion capital by selling a company’s stock to
public and private equity investors. Some also have
formed their own venture capital divisions to provide
risk capital for expansion and early-stage financing.
• Individual Private Investors, also known as angels, can
be friends and family who have only a few thousand
dollars to invest or well-heeled people who have built
successful businesses in a similar industry and want to
invest their money as well as their experience in a
business.
ORIGINALLY A TERM USED TO DESCRIBE INVESTORS IN
BROADWAY SHOWS, “ANGEL” NOW REFERS TO ANYONE WHO
INVESTS THEIR MONEY IN AN ENTREPRENEURIAL
COMPANY(UNLIKE INSTITUTIONAL VENTURE CAPITALISTS
WHO INVESTS OTHER PEOPLE’S MONEY).
Angels can be classified into two groups: Affiliated and
Nonaffiliated.
An Affiliated angel is someone who has some sort of contact
with you or your business but is not necessarily related or
acquainted with you.
A Nonaffiliated angel has no connection with either you or your
business.
Professionals. These include professional providers of services you now use-
doctors, dentists, lawyers, accountants and so on.
Business Associates. These are the people that you encounter during the normal
course of your business day. They can be divided into four groups:
Suppliers/Vendors
Customers
Employees
Competitors
Professionals. This group can include lawyers, accountants, consultants
and brokers whom you don’t know personally or do business with.
Middle managers. Angels in middle management position start investing
in small businesses for two reasons-either they are bored with their jobs
and are looking for outside interest, they are nearing retirement or, they
fear they are being phased out.
Entrepreneurs. These angels are successful in their own businesses and
like investing in the other entrepreneurial ventures. Entrepreneurs who
are familiar with your industry make excellent investors.
SYOB by Entrepreneur
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