Getting private investors can seem so glamorous and exciting. Companies that land private equity investment put out splashy press releases and tell the world they’ve raised millions. Having private investors validates your business idea — other people like it enough to put in their money! — and it gives your business capital for growth that you don’t immediately have to pay back.
Sounds like a dream, eh? But there’s a lot of baggage that comes along with taking private-equity money that many small-business owners don’t know about.
Yes, private investors give you money and wait three to five years for any repayment. That can sound alluring when you’re contemplating making loan payments or repaying a credit line. But there’s much investors want in return. In most cases, investors will:
- – Require an equity stake in your company in return for their money. Often, it’s a substantial stake, too — 30 percent or more. That’s right, you’ve just given away a big slice of the ownership of your company. If you have a business idea that becomes huge, you may forfeit millions in future profits that will now go to this investor.
- – Want a seat on your company’s board of directors. They want to be at every major meeting your decision makers hold. If you’re a maverick who likes flying by the seat of their pants and calling their own shots, this can really rankle.
- – Want a say in major business decisions. Do you want to make an acquisition? If the investors oppose it, ?you may not get to do it. This is something that gets hammered out in the fine print of your agreement with your investors. If you’re not careful, you can find yourself unable to make important moves your company needs for growth.
- – Want ?your business to be in a particular industry. The fact is, private equity isn’t available to most companies. Most investors are only looking for companies with high-growth potential in a few specific industries — software, Internet, healthcare, biotech, “green” tech. If you’re not in one of those sectors, private equity will be hard to find.
- – Want you to sell the business or go public. After several years, investors start looking for an “exit” — a chance to realize their profits and get their cash back in their hands for reinvestment in the next startup. Unless you are raking in cash hand over fist, it’s unlikely your business will have enough cash on hand to pay back investors their original investment plus the high return they expect for waiting so patiently for payback. So there’ll only be three ways to fulfill your agreement with the investors: Find new investors to buy the first investors out, sell the company to another company, or sell the company to many shareholders through an initial public offering.The next thing you know, you’ve lost all control of your company — it’s now owned by another firm, or it’s owned by many public shareholders and you’ve perhaps got a tiny sliver of business ownership left.
When you consider all that, private equity doesn’t sound quite as sexy, now does it?
There was an interesting article in Inc. magazine recently, in which Zappos founder Tony Hsieh describes how he felt forced to sell his red-hot online shoe company to Amazon.com. His problem? He took on too much venture capital, and the investors acquired so much power that he couldn’t maneuver anymore. He felt like he’d lost control of the company. To get the investors off his back, he sold.
On the other hand, if you need to raise mega-millions to grow your business, private equity may be your only option. It’ll be difficult to get a business loan of that size as a young company.
But given the potential downside to private equity, it’s no wonder so many small businesses come to LenCred looking for debt vehicles to get the money they need for their business. If you have questions about business loans or small business credit lines, fill out the form below for a no-obligation consultation.