How has your week been? Has this month seemed insanely busy to you? Or is it just me? It seems September is almost over which will bring in Q4. Can you believe it? So, let’s get cracking!
Today, let’s talk about (potentially) one of the most important elements in starting a company.
How can the company raise money for itself and make money for its owners?
It is a common problem, entrepreneurs have ideas, but not always the capital to make that idea into a successful company. In business there is often a lot behind the scenes that the average customer is not aware of. What makes this interesting is that, often, this is where the money is.
Twitter has taken $1.16B in funding since its founding. Twitter has purchased companies, hired staff, and created numerous platforms and applications. It was not until fairly recently that Twitter began to make money. Before it ever made any money, however, venture funds and big named money were scrambling to put money into the company. They wanted to invest. They wanted to put money into the company to earn a return.
But why? What was in it for them?
There are many ways to give a return to investors. The two primary categories are debt and equity. In an LLC the equity holders are called members and in a Corporation (of either variety) the equity holders are called Shareholders. Let’s start with debt, as there are not many restrictions on this.
Debt is a way to receive money with an obligation to repay it. Everyone is familiar with debt – mortgages, credit cards, notes, etc. Most everyone understands secured debts versus unsecured debts. Companies, when attempting to bring in needed money, sell debts with different types of repayment structures. These can be anything from simple promissory notes, with a promise to repay, to more complicated arrangements such as bonds and debentures. They are effectively the same thing, the difference is the way the debt holder can get his money back if the company does not pay. Debentures are simple debt. There is no security to it. Bonds, however, are secured by the net income of the business. That means, if someone does not pay a bond, the debt holder will have a lien on the future earnings of the company until it is paid.
Banks, of course, lend money, but what this is about the private community. Banks do not lend money like they used to and sometimes you can get better terms with the private market. Then, you also get the benefit of working with a person who would be more apt to work with you if things do not go as you planned. It is always easier to work with a person than to be part of a portfolio.
Equity is a bit different than debt because the company, in exchange for money (services or property sometimes, but mostly money) is offering ownership of the company. That means a share of the profits. That also means a share in the liabilities of the company if things go wrong. There are many ways to structure equity purchases, but the important elements for our purposes today are going to be in the type of equity available and how a deal can be structured.
There are two major categories of equity available for most entities. Those are Preferred and Common. Preferred stock is equity that receives special treatment. Any time a dividend is declared, preferred equity holders get money first. Sometimes they get money when the common stockholders do not. Common stockholders are your average stockholders. The founders who are working every day in the business. They make their money in their salary.
Typically, your investors want at least some form of preferred stock to ensure they get their money back as quickly as possible. Often, when you issue preferred stock it has a guaranteed dividend it will pay every year. The Common stock holders only get dividends if the company can afford it and the board decides to give it to them.
We will revisit raising money in the future, but for now, that should give you something to think about when considering your options to fund your next big idea.
I will talk to you unless you talk to me first 😉