Raising equity finance can be quite a long and complex process. You’ll need to spend time finding the right investor for your company, negotiating the terms of the deal, facilitating the due diligence process, and completing the final legal documents, all while running your business.
But by being well prepared, which includes having a strong business plan, you can help ensure the process goes more smoothly and increase your chances of securing investment.
Equity crowdfunding allows private businesses to raise funds from the public. It works in a similar way to other types of equity finance - you exchange shares in your company for cash. What makes crowdfunding different, though, is that you obtain smaller amounts of money from a large number of people (the ‘crowd’). They then own a proportionate slice of equity in your business.
This type of financing takes place online on equity crowdfunding platforms. These platforms vary in how they operate – for example, they may charge different fees, have different vetting processes, and specialise in specific industries. It’s therefore important to compare them and see which is right for you.
Most require you to set a funding target for your campaign and a timeframe in which to hit this target. If you’re successful, then you’ll receive the funds at the end of the campaign minus any fees that the platform charges. If you don’t reach your target, most crowdfunding websites will return all the funds you’ve raised to the backers, though some might let you keep them for a fee.
How does an investor make money from an equity investment?
Equity investors make money through “capital gains”, where they sell shares at a higher price than they paid for them, and/or by dividends. Dividends are a portion of the company’s earnings that are distributed to its shareholders, typically paid on a quarterly basis.
Not every business chooses to pay dividends. Some, particularly young companies, choose to reinvest profits into the growth of the business. Dividend-paying companies are most often larger, more well-established companies.
There are various ways an investor can “exit” a business (sell their shares), including:
- Management buyout – investors sell shares to the investee company’s existing management team
- Trade sale - the investee company is sold to a trade buyer, typically another company operating in the same industry
- Secondary sale – investors sell shares to a third-party buyer, such as a venture capitalist or private equity firm
- Initial public offering (IPO) - when a privately owned company lists its shares on the stock exchange
Read our business succession guide to find out more about different types of exit events.
Finding the right equity investor
When you secure equity finance you enter into a long-term relationship with your investor, so it’s crucial to choose the right one. This means looking beyond the money and considering what else they can add and whether you can work well with them. Asking yourself these questions might help:
- How involved do you want them to be?
- What resources do they provide? Can they offer knowledge, experience, and contacts?
- Do they often make follow-on investments in companies?
- Are they a good fit for your brand and culture?
- What’s their vision for the company and does it align with yours?