Friends and Family - An early stage company just getting underway may have to go to friends and family to raise the seed capital for the company. These are the people that know and trust the entrepreneur and are willing to invest in his or her ideas. This is usually considered to be the “seed” money to get the entrepreneur business underway.
Angel Investors - Angel Investors are usually wealthy and sophisticated individuals with a high net worth that are willing to provide the needed seed, start-up and growth capital for early stage companies. It is their hope that by providing capital at the early stage of the company, they might reap a large return on their investment in the future if the company is successful. Therefore, they seek companies that they believe has high growth potential, exciting products and/or services and proven management.
The term “Angel” was originally coined many years ago and used to describe wealthy individuals that backed Broadway shows. Many investors did this not only to help the show to be a success but to rub shoulders with the theater personalities.
Angel investors usually have not only the discretionary net worth and income, but also have the personality required for making a risky investment and have set aside a part of their investment portfolio for such investments.
These are sometimes individuals that have been very successful in their own business enterprises, perhaps have sold their company and have substantial case available for investing.
It is sometimes difficult to locate angel investors because they are not listed in any directory and they usually value their privacy and are very selective as to their investments. Most angel investors are located primarily by word-of-mouth or professional intermediaries, such as their banker.
At the same time, problem for the Angel Investor is that is difficult for them to see enough “deals” for them to determine which one offers the greatest potential for a high return on their investment.
However, now there are a number of angel investor networks or clubs throughout the U. S. that are formed for the specific purpose of matching angel investor with entrepreneurs seeking funding. (see “Investment Clubs and Groups”)
Angel investors, as well as other possible investors such a venture capital firms, look at companies, not only at different stages of growth, but the particular industry that the company might be in. The amount of money that the investor might invest may depend on such things as the equity position that the investor receives, the product or service the company offers, the cost and time of developing the product and bringing it to market. An investor may make his investments at various stages of development of the company rather than all at once. Usually when done this way, at each stage the number of shares or percentage of the company that the investor receives will decrease as the risk to the investor decreases
Strategic Partners - Strategic Partners are usually individual or companies that may have an interest in the product or service that is being proposed by the entrepreneur. It could be a business that could see the marketing potential in the product and would invest in the company in order to have the marketing rights to the product.
There are a number of way to seek out a possible strategic partner and may include simply a lot of research. The entrepreneur is almost always concerned that if they disclose the product to other business, the business may simply steal the idea and go ahead on their own to development and market the product. This is certainly always a danger and sometimes a Non-disclosure document might offer some protection. An attorney should be consulted.
Investment Clubs and Groups - Invest Clubs or Groups are individuals (Angel Investors) that have grouped together to look at possible investments. The group can be just a few or a couple of hundred individuals. They usually meet on a regular basis, sometimes for the purpose of pooling their money to make investments in early stage companies.
It is not mandatory for the members of the club to pool money or make an investment, even if the majority of the club considers an investment to be a good one. Each individual makes their own decision as to what investment they will make.
The major advantage for the investor to belong to a club is that they meet on a regular basis, they have entrepreneurs present their business to all club members at the same time and they have the opportunity to discuss the merits of the investment. The entrepreneur must develop a comprehensive business plan and prepare a strong and concise presentation, usually no more than 10 or 15 minutes. The entrepreneur has a very short period of time to sell his idea to the group.
Investment clubs differ in makeup, other than the number of members. Some could be money making clubs while others are not-for-profit. Some clubs will charge the investor some fee or charge the entrepreneur for presenting to the club members or distributing literature. The fees could be small fees, simply to cover the cost of the room being used. Some may charge both the investor and the entrepreneur a percentage of funds raised through the organization. Both the investor and the entrepreneur should check out the organization and be sure that the organization does comply with all securities laws.
Most of the Angel investor organizations have developed a method for the entrepreneur to introduce his company to the investor. This may involve a one to three page executive summary, allowing the investor to determine his level of interest. Some will allow a full presentation with slides and hand out materials. However, all will limit the time allowed to the entrepreneur for his presentation.
Some cities have organizations such as venture clubs where companies and angel investors meet. An excellent example of such an organization in the Rocky Mountain area is the Rockies Venture Club in Denver. This club has a membership of several hundred and has a dinner meeting each month with an attendance of between 150 to 250. However, even at such meetings it is difficult for the angel investor to locate companies which meet his criteria for investment.
More effort is being made throughout the US to establish methods whereby entrepreneurs can meet investors and investors can become aware of excellent investment opportunities with emerging companies.
Private Placement - A company can do a Private Placement to raise capital. A private placement is when a company sells securities without a public offering, usually to a small number of private investors. While private placements are subject to the Securities Act of 1933 and state laws, the securities sold in a private placement do not have to be registered with the Securities and Exchange Commission if the issuance of the securities conforms to an exemption from registration. In doing a private placement of securities, it is extremely important that a company comply with all federal and state rules and regulations. Most private placements are offered under Regulation D of the Securities Act. (see “Regulation D”) Private placement can consist of common stock, preferred stock, can include warrants or promissory notes or a combination of these.
Private placements are usually sold by the officers and directors of the Company to a small number of investors. Investors could include individuals, financial institutes, banks and others. The sale of securities in a private placement usually involve the sale of restricted securities. (see “Restricted Securities”) In raising money in a private placement, a Private Placement Memorandum (see “Private Placement Memorandum”) is usually prepared which tell the prospective investor all about the company. A private Placement Memorandum not only tell the prospective investor about the company so that he can judge for himself if it would be a good investment, but also offers some protection to the entrepreneur because he is divulging all information about the company to the investor and it makes it difficult for the investor to say that he was not given all of the factual information before investment. This may not be a problem if the company is successful, but could be a real problem if the company is not successful and the investor losses his investment.
SCOR Offering - Small Company Offering Registration (SCOR) is a unique means which allows a company needing capital to make a public offering of securities, without the often costly and time-consuming process of an SEC registration. A company may raise up to $1,000,000 in any 12 month period through the sales of securities to the public.
Most states have adopted this uniform registration process, which is designed to simplify the raising of capital for small business.
Companies may sell the securities to the public themselves or use a broker-dealer as a selling agent to sell the securities. They can use general solicitation and advertisement to sell the securities. Investors are not limited as to the number or type, nor is there any restriction on the amount that may be sold to any one person.
Crowdfunding - On April 5, 2012, President Obama has signed H.R. 3606 referred to as the “Jumpstart Our Business Startups (JOBS) Act” or the “Crowdfunding Act."
Oddly enough, in the United States a person can gamble away all of their money at a casino or donate to countless flakey charities, but it has been very difficult for an American citizen to invest $10 in another person’s startup business, regardless of how dynamic the business might be. H. R. 3606 may change that.
The Act, passed by both houses of Congress and signed into law by the President, is designed to ease some significant regulatory restraints on small business or “emerging growth companies” in their process of raising capital. Some of the rules of the bill went into effect immediately, while other parts of the bill are still in the drafting process. The Jobs Act directs the SEC to amend its rules to meet the intent of the Act. The SEC has been tasked to establish the rules and regulations pertaining to the law...and has 270 days to do so. Therefore, many part of the law may not be effective for nine months, if even then. Much depends on what the SEC deems their charter to be and how their ruling may affect the law. The difficult part of creating a final Act will be for the SEC to create final rules that will still meet the intent of Congress. The SEC and FINRA were the major opponents of the Act.
However, the SEC is taking an excellent approach to the task assigned to it. They are asking for public input and comments, including drafting the rules and allowing the public to see and comment on the comments. Comments can be submitted on the SEC website –
While the pros and cons of the H. R. 3606 are still being debated and defined and kinks being worked out, it has been signed into law and, as currently written, there does seem to be some dramatic differences in how companies may raise working capital.
On April 16, 2012, the SEC issued guidance on Title 1 of the JOBS Act which affects “Emerging Growth Companies” (“EGC”) An EGC is defined in both the Securities Act of 1934 and Exchange Act of 1934 as an issuer with “total annual gross revenues” of less than $1 billion during its most recently completed fiscal year. Title 1 of the JOBS Act provides scaled-down disclosures for EGG’s, now treating them as small business issuers. Some changes that have been made is that EGCs now only need to provide two years of audited financials instead of three for an IPO registration and an EGC will be treated as small business for the reporting of executive compensation; have no Sarbanes-Oxley Act 404(b) auditor attestation requirements and are able to test the waters with communications to QIBs and institutional accredited investors prior to an offering. There is much that a company and their legal counsel must know about and EGC to move forward. Many decisions are still being made as to what changes will be made in fundraising for an EGC.
The full text of this guidance is available on the SEC website. Title 1 of the JOBS Act provides scaled- down business disclosure for Emerging Growth Companies (EGC’s)
For smaller and startup companies, the Act could have very significant changes for raising needed capital.
The Act most dramatically affects Rules 505 and 506 under Regulation D.
The JOBS Act allows for so-called (“Crowdfunding”).
“CROWDFUNDING” – This title may be cited as the “Capital Raising Online While Deterring Fraud andUnethical Non-Disclosure Act of 2012” or the “CROWDFUND Act of 2012”.
Some possible changes are listed below, however some may not be firm yet:
The Bill ends the ban on general solicitation or advertising in regulation D, Rule 506 offerings, but only if the purchasers are accredited investors. For example, under the Act, private placements of capital per Regulation D Rule 506 could now be solicited via general advertising provided that all purchasers are accredited investors. (see “Accredited Investors” U. S. Securities and Exchange Commission.) There may no longer be a limit to the number of such investors.
And crowd funding investors do not count against the threshold number of shareholders that triggers mandatory periodic reporting to the SEC. In a nut shell, while strictly prohibited in the past, the Act allows companies to bypass former rules and raise up to $1 million from large pools of small investors by directly soliciting them, from a present data base, over the internet, Facebook, local newspaper, billboards or even junk mail.
Crowdfunding opens up equity investment in non-public start-up entities to everyone and anyone on some level providing that the
A company can raise up to $1,000,000 in a 12 month period.
Each investor can only invest the greater of $2,000 or 5% of the annual income or the net worth off the investor is less than $100,000.
Investors with more than $100,000 in annual income or net worth may invest up to 10% of their annual income or net worth not to exceed $100,000
WE ARE STIL ATTEMPTING TO GET MORE CONCRETE INFORMATION AS DECISIONS ARE MADE.
PIPES – Private Investment In Public Equity- When an investment firm makes an investment in a public company it is called a Private Investment in Public Equity or PIPE for short. It usually means that an investment firm invests funds in the public company and can be done in a number of ways. It can be a purchase of non-registered stock, preferred stock, convertible debt, involve warrants and other means and a combination of these.
A PIPE may be done by a company when other means, such a secondary public offering would be very difficult.
PIPES are usually done by companies that are set up for such investments and have usually raised many millions of dollars for such investments. The companies usually invest in companies that are public, already generating strong revenues and are profitable, but need additional capital for growth. The advantage to a company in doing a PIPE is usually speed and cost.
PIPES are a great source of investment capital for small-to medium-sized public companies which may have a difficult time raising capital in more traditional forms of equity financing.
Initial Public Offering (IPO): (see “PUBLIC OFFERING”) - The “Initial Public Offering” (IPO)of a company is when the company files a registration statement with the Securities and Exchange Commission (SEC), then sell the stock of the company to the general public to raise capital needed for growth and expansion. This allows for the stock of the company to be traded “over the counter”. It allows for the investors to make an investment in the company by purchasing shares on the company by purchasing stock that they can either hold in hopes that the price of the stock might rise, and then freely sell the stock at any given time through their stock broker. In an IPO, the company can tap into a wide pool of investors. Since it is a sale of the shares of the company stock, the company is not required to repay an investor
There may be several reasons that a company might want to go public. These could include cheaper access to capital, prestige and public image, diversifying the equity base, attracting better management, facilitation acquisitions, creating different financing opportunities, including equity, convertible debt, bank loans and other.
There are advantages and disadvantages in a company going public.
Some disadvantages could be:
Significant legal, accounting and marketing costs involved. The company must have annual audited financial statements.
The company must file annual a quarterly reports with the SEC. This requires not only the additional cost of auditors, but of the legal fees that would be involved.
It becomes necessary for the company to report any significant changes in the company to the SEC for filing on EDGAR.
All information on the company is public knowledge and is posted on EDGAR. Some of this information may be useful to competitors, suppliers and customers.
There is always the risk that the public offering of the stock will not be successful and the needed capital will not be raised, and yet the cost of the offering must still be paid.
The price of the stock may fall well below what the investors paid for their stock and the company now has many unhappy shareholders.
Advantages of An Initial Public Offering (IPO)
Needed funds may be obtained from the public offering. (Providing the offering is successful).
A public offering of company stock (IPO) should improve the company's net worth, perhaps enabling the company to obtain additional capital or borrow money on more favorable terms.
A public company, with its stock quoted “over-the-counter” may be able to more easily expand through acquisitions, using it's own stock rather than depleting needed cash.
A public company may be better able to attract and retain more highly qualified personnel by offering stock options, bonuses, or other incentives involving company stock with an ascertainable market value.
With public ownership of its securities, the company may be in a position, become better known nationally, to gain prestige and improve its business operations.
With the Company stock quoted “over-the-counter, there may be an easier possibility of converting debt to equity and to strengthen the company's balance sheet.
From a lenders perspective, an equity offering of the Company’s stock, may strengthen the financial condition of the company (reduces leverage).
If the price of the stock remains favorable, it may be possible to obtain future financing more easily since the company can offer investors a security that is liquid, more freely tradable, with an ascertainable market value.
With the company being trading over-the-counter, it may mean more liquidity for the owners of the company, including founders, venture capital and other professional investors.
An IPO for the Company may enable the company to eliminate existing personal guarantees to lenders and others and, if sufficient capital is raised, allow the company to avoid future personal guarantees.
By establishing a public market for the stock of the Company, it may allow the founders and major shareholders to achieve a psychological sense of financial success and self-fulfillment. It may also increase the “net worth” of the founders and allow for the founders of the company to “cash out” in the future.
Debt - Companies may raise working capital through a debt instrument. This could be a bank loan, a loan backed by the Small business Administration (SBA), loan from a Venture Capital firm and others. The debt instrument can take a variety of forms, such as a direct loan, a convertible debenture and many others. It is very difficult for a startup or early stage company to raise capital through a debt instruments unless the loan is secured with collateral of the personal guarantee of the principal.
*SMALL BUSINESS ADMINISTRATION (SBA) – CHECK TO SEE IF YOU MIGHT QUALIFY FOR LOANS THROUGH THE SBA (see “SMALL BUSINESS ADMINISTRATION”)
Small Business Administration (SBA)- The Small Business Administration (SBA) is an agency of the United States Government that provides support to entrepreneurs and small businesses.
The SBA has a mission statement:
“The mission of the Small Business Administration is "to maintain and strengthen the nation's economy by enabling the establishment and viability of small businesses and by assisting in the economic recovery of communities after disasters”.
The SBA offers loan assistance by partnering with banks, credit unions and other lenders. The SBA provides government-backed guarantee on part of the loan. The SBA can provide up to 90 percent guarantee in order to strengthen the access to possible capital for small business that otherwise could never qualify for a loan.
The SBA offers others other assistance to small businesses, for example, assisting in delivering federal contracts to small business.
The agency provides grants to support counseling partners, including approximately 900 Small Business Development Centers which are sometimes located at colleges and universities. In addition, there are 110 Woman’s Business Centers, and about 350 chapters of SCORE, which is volunteer mentor corps of retired and experienced business leaders. The counseling services provided counseling to over 1 million entrepreneurs and small business owners annually.
It would be worthwhile for the principles of a business to see just how the Small Business Administration might be able to assist their business.