Investment for your SME
Jun 24, 2021Are you an SME considering investment to help you grow?
If so, read on.
At Navistar Legal, we want to empower small business owners to feel confident when exploring the world of investment. When it works well, it’s a boost for your business, but like any major strategic business decision, there are pitfalls to avoid.
So we have put together this three-part blog series to answer any questions you might have around investment, from the key issues to be aware of to maintaining control of your business to what you need to get in writing.
Part one deals with what to consider when it comes to investment for your SME.
What do I need to consider before reaching out to potential investors?
When it comes to small business life, cash doesn’t always flow and a lack of cash can inhibit growth. Seeking additional financing from an investor is often a solution. But the first thing to do is to explore options for financing and avoid giving away equity. There are lots of alternative debt and equity finance options. Giving away equity seems easy to do, but it can be more complex than receiving a bank loan and it has higher risks.
Always explore the options for finance in your business before agreeing to give anything to anyone.
Next – the million dollar question:
Should I exchange shares in my business for someone else’s work?
It is tempting to save on short-term cash with `sweat equity.” But whilst the skills and connections are useful, it can cost your business in the long term.
Imagine this scenario: you and your two business partners want to set up a limited company. You each take a third of the shares and say that you are business partners. All three of you set out to work, until one day, the coder seems to be taking significant holidays and not doing much work and there is little that you can do about it because he or she already owns his shares. None of you are paid shares and each time you issue dividends he or she gets one third of these and one day, he or she will get one third of the value of the business if you sell. Unless you have a well-thought through shareholder’s agreement, you two are left doing all the work.
Sound familiar?
This is the most common scenario that arises when we speak with small businesses about investment issues.
So when you give away sweat equity make sure of five points:
- Drip feed equity over time. This is called “vesting’. Shares will vest (be provided to a shareholder) once the board decides they can receive them. This means you remain in control of when they receive shares.
- Make sure you are able to buy back their shares if they do something (or fail to do something) that they should have done (including that they stop providing services to you).
- Make sure that the value of their work is equivalent to the number of shares that you provide. Understand the specifics: how many hours they are going to put in, what results they are going to achieve or how much value that they are going to add during a set time period.
- ā€‹Never give away equity for a loan. Whilst on the face of it it seems reasonable and you get cash when you need it, you will have to repay the loan and they will keep shares for the lifetime of your business.
- ā€‹Don’t assume that your staff want shares in your business. Check with your staff first. Sometimes employees would actually prefer extra cash in their paycheck at the end of the month.
You should also check any assumption that an investor wants to receive shares. Sometimes potential investors are happy with a profit or turnover share, which avoids the complexity of the share scenario.
At the end of day, often a small business just needs a cash injection. So none of these rules are hard and fast. But hopefully this gives you some important points to be considering as you work your way through the investor thought process.
In our next piece we will be exploring how you maintain control of your business when you give away equity. Stay tuned!
If you would like to discuss obtaining investment for your SME business, contact [email protected] to speak with one of our team of legal experts.
