Tweet

Understanding Equity Capital

Written by: Start Your Business

Article Overview: Equity capital or financing is money raised by a business in exchange for a share of ownership in the company. Ownership is represented by owning shares of stock outright or having the right to convert other financial instruments into stock of that private company. Two key sources of equity capital for new and emerging businesses are angel investors and venture capital firms.

Understanding Equity Capital

Understanding Equity Capital

Equity capital or financing is money raised by a business in exchange for a share of ownership in the company. Ownership is represented by owning shares of stock outright or having the right to convert other financial instruments into stock of that private company. Two key sources of equity capital for new and emerging businesses are angel investors and venture capital firms.

Typically, angel capital and venture capital investors provide capital unsecured by assets to young, private companies with the potential for rapid growth. Such investing covers most industries and is appropriate for businesses through the range of developmental stages. Investing in new or very early companies inherently carries a high degree of risk. But venture capital is long term or “patient capital” that allows companies the time to mature into profitable organizations.

Angel and venture capital is also an active rather than passive form of financing. These investors seek to add value, in addition to capital, to the companies in which they invest in an effort to help them grow and achieve a greater return on the investment. This requires active involvement and almost all venture capitalists will, at a minimum, want a seat on the board of directors.

Although investors are committed to a company for the long haul, that does not mean indefinitely. The primary objective of equity investors is to achieve a superior rate of return through the eventual and timely disposal of investments. A good investor will be considering potential exit strategies from the time the investment is first presented and investigated.

Differences Between Debt and Equity Capital

Debt Capital: Debt capital is represented by funds borrowed by a business that must be repaid over a period of time, usually with interest. Debt financing can be either short-term, with full repayment due in less than one year, or long-term, with repayment due over a period greater than one year. The lender does not gain an ownership interest in the business and debt obligations are typically limited to repaying the loan with interest. Loans are often secured by some or all of the assets of the company.

Equity Capital: Equity capital is represented by funds that are raised by a business, in exchange for a share of ownership in the company. Equity financing allows a business to obtain funds without incurring debt, or without having to repay a specific amount of money at a particular time.

Angel Investors

Business “angels” are high net worth individual investors who seek high returns through private investments in start-up companies. Private investors generally are a diverse and dispersed population who made their wealth through a variety of sources. But the typical business angels are often former entrepreneurs or executives who cashed out and retired early from ventures that they started and grew into successful businesses. These self-made investors share many common characteristics:

* They seek companies with high growth potentials, strong management teams, and solid business plans to aid the angels in assessing the company’s value. (Many seed or start ups may not have a fully developed management team, but have identified key positions.)
* They typically invest in ventures involved in industries or technologies with which they are personally familiar.
* They often co-invest with trusted friends and business associates. In these situations, there is usually one influential lead investor (“archangel”) those judgment is trusted by the rest of the group of angels.
* Because of their business experience, many angels invest more than their money. They also seek active involvement in the business, such as consulting and mentoring the entrepreneur. They often take bigger risks or accept lower rewards when they are attracted to the non-financial characteristics of an entrepreneur’s proposal.


Venture Capital

Successful long-term growth for most businesses is dependent upon the availability of equity capital. Lenders generally require some equity cushion or security (collateral) before they will lend to a small business. A lack of equity limits the debt financing available to businesses. Additionally, debt financing requires the ability to service the debt through current interest payments. These funds are then not available to grow the business.

Venture capital provides businesses a financial cushion. However, equity providers have the last call against the company’s assets. In view of this lower priority and the usual lack of a current pay requirement, equity providers require a higher rate of return/return on investment (ROI) than lenders receive.

Related Articles
  How To Raise Capital To Help Grow Your Business
  Sources of Business Capital
  Who Should Use a Regulation D Private Placement
  Equity Financing
  Lesson #3 Know The Game Part II.

Article Tags:



Related Forum Posts
Lisa Shepherd Story - Great story! I love the Earn - Learn - Equity - it's very relavent for new entrepreneurs.
Del Castienne - International Business and Project Brokers - In addition to the above, Del Castienne is an international brokerage firm specializing in various entrepreneural services. Del Castienne is more than just a brokerage, as we facilitate Private International Venture Capital for Business and Projects from Commodity Speculation Transactions, MBO, MBI, M&A, Bridging Finance, Patents, Branding, JV, Corporate Advisory Services, Business Plan Development, etc.. Del Castienne is linked to 1200 private international Venture Capital consortiums and Funding Syndicates with a funding capacity of $ 115 billion and 5000 international Investment Bankers and Business & Project Brokers. This in itself should provide you with a gateway to the best source of funding in the world. Through Del Castienne any entrepreneur can have up to a potential success rate of 25% (conditions apply) with absolutely no up front costs. Del Castienne charges a maximum of 5% commission which is far below the international standard of 10% - 12% on project value. If you are tired of running back and forth with countless dissappointments, please give us an opportunity to assist you. Our minimum Venture Capital amount is $1 million and we a Commitment Letter can be provided with in 30 days after formalities are in place and your information was received.
Home Equity to Finance your business - Jen, do you have Home Equity you can leverage? Maybe a relative or close family member can do it for you in return for an interest "balloon payment" at the end of 5 years (the rate would be above what they would get if they invested it in a GIC).
Re: Quick Ways To Utilize SEO Effectively - 1. If you dont want too much competition from other SEO's, choose your keywords precisely.For example, Instead of keyword Loan choose keywords like Bank Loan, Equity Loan, Student Loan, Home Loan etc. Order of keyword also matter for search engines. Search engine treats ?Loan Equity? and ?Equity Loan? as different keywords. 2. Best seo practice is to get at least one of your primary keywords in domain or sub domain name of your website. You can use hyphens (-) to separate multiple keywords. For example: seo-service, seo-guidelines, free-seo each cover two keywords. 3. Get your second or third keywords in your directory name and filename. 4. Keep your webpage free from any syntax error, declare document type at the beginning and validate your HTML and CSS because search engine don?t like pages with too many errors. 5. Give a short Title in of your page in 3-9 words (60-80 characters) maximum in length containing your primary keyword. Remember it will be displayed in search results so choose wisely. 6. Try to include your most important keyword phrases in heading tags on your page if you can but keep in mind it should not be exactly same as title of your page. You can use (H1 H2 H3) tag for specifying anything important. To reduce size of heading use CSS. 7. Specify Meta keywords in heading of document. Limit it to 15 to 20 words. Although not all the search engines give importance but there is no harm doing it. Search engine like Yahoo still give it importance. 8. Write Your Meta Description tag attractive containing keywords because it will appear on the search engine result pages. 9. Use text for navigation menu instead of using images or Java scripts. 10. Try to include your most important keyword in hyper linked text and text and text that immediately precedes or follows the hyperlink. Do not use same keyword always use synonyms at few places. Just like instead of seo, I have use search engine optimization at many places on this page.
How to valuate a business - Hi Garth - here is how we did it at Northern Crown Capital when I was helping them raise venture capital for Toronto-based entrepreneurs. Assume the start date is 2003 so 2008 projections are 5 years out: How Northern Crown Capital Valuates a Business 2008 Financial Projections Earnings Before Tax $5,865,000 Tax Rate 42% Taxes $2,463,300 Net Earnings $3,401,700 Amount Seeking to Raise Today $3,500,000 Discounted Value of Future Opportunity, 5 Years Out 2008 P/E Ratio 15 Value of Company in 2008 $51,025,500 Discount Rate Applied 30% Year 2008 $51,025,500 Year 2007 $35,717,850 Year 2006 $25,002,495 Year 2005 $17,501,747 Year 2004 $12,251,223 Value of Company at Investment in 2003 $12,251,223 Less: Investment Amount $3,500,000 Present Value $8,751,223 Discount for Risk & Private Company 40% Less: Discount for Risk & Private Company $3,500,489 Private Company Value $5,250,734 Present Value (What the Owner Keeps) $5,250,734 60.00% Financing (What the Investor Gets) $3,500,000 40.00% Total $8,750,734 100.00% I hope this helps!


Share this article with your friends. Fund someone's dream.

Leave a comment below or share on the left and you'll help support entrepreneurs in Africa through our partnership with Kiva. Over $50,000 raised and counting - Please keep sharing! Learn more.

Tweet

Newsletter

Get advice & tips from famous business
owners, new articles by entrepreneur
experts, my latest website updates, &
special sneak peaks at what's to come!

Name:
Email:

Popular Articles

Executive Blind Spots

Adapting to Technology and the Internet

Suggestions

Email us your ideas on how to make our
website more valuable! Thank you Sharon
from Toronto Salsa Lessons / Classes for
your suggestions to make the newsletter
look like the website and profile younger
entrepreneurs like Jennifer Lopez.