If you choose to forgo conventional investment, like taking a loan by a bank, you might end up in the area of equity investors. An equity investor buys some of your company and is now a partial owner of your business.Thus it is essential to understand what you may experience by accepting investor capital.
Equity Investors Anticipate a Return
A venture capitalist investor must be prepared to lose all of their investment in your startup. If the company fails, the equity investor understands that there’s little probability of getting any of the money back.
Because of this, they will request a substantial percentage of your future profits to compensate for the significant risk they are taking. Also, expect that the investor will demand that salaries capped. Be educated about how much of your company’s hard-earned gains you are ready to give away for the investor’s startup capital.
Business investors in addition to demanding a large portion of your profits and they will also have significant leverage, which you can mitigate through negotiation before accepting their investment.
Read my Kabbage.com review of alternative finance options online.
They Have Far-Reaching Rights
Among the most controversial points between business owners and equity investors is how much control equity investors will have in the business. Equity investors frequently exercise their rights, including voting the provider’s founder right from the business. All that equity investors may end up with include:
- Voting rights to select a board of directors
- Must be informed about all major business decisions
Giving an investor rights to your company doesn’t need to be a bad thing. Many times, these investors have years of experience and could be a substantial source of industry information.
Equity Investors & Structuring Your Organization
General Partners: Should you discover equity investors for your business and do not establish a change in business structure, your company will get a general partnership by default. General partners have a whole lot of control but are also personally liable for business debts and obligations. Thus, most equity investors will prevent general partnerships to be able to avoid liability.
Limited Partners: As its name suggests, limited partners only have limited liability for the debts and liability incurred by your company. Significantly, a limited partnership must have a general partner, which many equity investors are going to want to be you. This means that you’re personally liable for the debts and liability incurred by the company, but your equity investors wouldn’t. Seriously think about the dangers that this represents before agreeing to any such connection.
Corporations: Shareholders in a corporation are protected from personal liability for company debts, provided that they don’t take part in the conducting of the company. Because of this, it might be preferable to have you conduct your business and have the equity shareholders as major stockholders in the corporation. The significant drawback to companies is that they are more difficult to install, are subject to additional legislation, and involve a good deal more paperwork.
Limited Liability Companies: Limited liability companies (LLC) are very popular because they combine the limited liability of a company, with the tax benefits of a partnership in addition to often being less difficult to set up and maintain than a corporation.
Equity Investors & Securities
Stock from a company, partnership interests, and LLC membership are treated as “securities” from the law. There are a plethora of securities laws, both state and national, that govern the exchange and sale of securities. Regardless of what sort of business organization you set up, you want to become knowledgeable about the federal securities laws applicable.
By way of instance, find out whether you’re exempt from most securities requirements. Small companies of a certain size will typically be permitted to give equity investors with interest in the company without needing to complete and file complex paperwork. Be aware that if you’re not exempt, complying with securities laws may cost a substantial sum of money, so be certain it’s worthwhile to bring in equity investors if you are not exempt from regulations.
The other big part of securities legislation governs what you will need to disclose about your organization and who you will need to disclose to. If you’re ever unsure, contact a lawyer and always err on the side of caution by disclosing items you might be uncertain about.
Hiring an Attorney to Assist with Equity Investors
When negotiating with equity investors, you want to be sure that you know your legal rights and duties. Speak to an experienced company law lawyer that will assist you to know what to expect when entering into such a formal business relationship.