To successfully raise capital, you must be prepared to do so, recognize the sources of capital, be aware of the costs of the funds, be in compliance with securities laws, and have a back end strategy. 

Be Prepared:

One thing investors want to make sure of is that they are going to get their investment back with a return on their investment.  They way that is going to be generated is through business operations.   Accordingly, they want some certainty that you, yourself, as the business owner, have thought through the business, have thought through its operations and activities, to the point that you can produce a business plan.  Another thing to include in your business plan is a marketing plan with a projection and a plan of what you THINK the future will bring.  Every investor realizes that a projection is just that.  It’s an assumption, it’s a possibility of what could happen.  The fact that you have projections means you have thought through what is reasonable for your business and what is reasonable for investors to expect in return for their share.

The best time to raise capital for your business is when you don’t need it, not when you are worrying about debt.  Having a track record is extremely important.  It may be easier to raise capital at the front end when there is a big promise of a business, or sometimes when you have a good track record established.

Sources of Capital:

There are several sources of capital.  One source of capital we call angel investors.  These are individuals who want to have an investment in the business, either because they like the kind of business you are in or they want to promote the type of activity the business is involved in.   These are generally people who are named individuals who many people know. The second type of investor or source of capital are out of state or out of market competitors.  If you are running a business where you have out of state competitors who want to get into the state but don’t know how to break in, sometimes you can create a strategic alliance which allows for a capital investment in your business.  This is a cheap entry into the business and they can leverage your expertise.  Another kind of investor is Venture Capital investor, sometimes called a mezzanine investor.  A venture capitalist is looking for a company that looks like it will go public soon; it’s past the startup phase.  Some people refer to them as vulture capitalists, because there are times when these types of investors swoop in and take the best part of the company.  There is a final group called heroic investors, which are generally comprised of family and friends. A family or a friend should be treated as any other investor.  They still need the same type of protections as any other investor would need, so you need to treat them as true investors.

Cost of Capital:

Something to also think about is the cost of capital.  There are many ways to compute the amount of capital in return for the amount of money, which can be more of an art than a science. Many entrepreneurs over-value their business.  One of the things you should be aware of when raising capital for your business is capital return is always going to be more expensive than borrowing, so if you can, go to a bank and borrow money.  An investor is at greater risk in the capital, because the debts get paid before the return on investments.  Another thing to be aware of is who is putting the money in.  Different types of investors require and demand different types of returns.  For instance, an angel investor is probably someone who is an economic investor who is saying they would like a reasonable amount of rate of return and wants to look forward to some kind of back end profit.  A venture capitalist is looking for a big score when the company goes public.  There is no money more expensive than family money.  It’s expensive, in part, because of the emotional cost that this money has.  If you borrow capital from a multi-millionaire, they want a return on their investment.  You know where they stand.  If you get are loaned money from a relative, that person may want to know why you are going out to eat, why are you driving that type of car, why are you vacationing so long, what are the hours of the store, etc. and they are going to be more emotional.  Most of our clients find that when they are raising capital, and where it comes from, may not be as important as the fact that it is available because of the business needs and its operations.

There is another cost in addition to an economic cost.  That’s a managerial cost.  Some clients think they can raise money for the business and continue to run it just as they were running it before.  That is not normally the case.  What generally happens, is the investor will want to have a say in how things are run with the business.  They will want information annually, if not quarterly.  They will especially want financial, operational and background data.  The investors want communication.  Investors who are receiving a return in their investment usually need a lot less information when things are working well.  When things aren’t going so well, suddenly, everyone wants to know what’s going on with everything.  If people make a large investment, relative to their portfolio, they want a lot more information than somebody who doesn’t have a substantial proportional risk.

Investors commonly want to be a part of a Board of Directors or a Manager.  It is extremely important to have by-laws and operating agreements to define the rights.  Some issues may be resolved and decided by a majority vote and other issues may require unanimous consent.  How votes are counted is extremely important.  Normally, each manager/director has an equal vote.  Sometimes, voting is based on capital account (investment) or the number of shares or units.  There may be times when a deadlock occurs.

 

Securities Laws:

There are security laws to keep in mind.  The shares or units of your company will probably be considered a “security” like stocks on the New York Stock Exchange.  Your company would be considered the “issuer”.  If or when it comes to selling part of your business, you may or not have to register.  There are both state and federal securities laws which require issuers fo securities to make extensive disclosures to buyers who will not be actively involved in investigating the issuer’s company and industry prior to investing.  These disclosures are in writing, are designed to protect buyers from dishonest sellers, and MAY have to be filed with governmental agencies.  They are fundamentally designed to protect investors from unscrupulous issuers of securities.  They are also designed so that if the deal is memorialized in some type of writing.

There are exceptions to the need for filing full disclosure documents.  There is a small offering exemption, inter-state offerings, private placements, and “good deal” exemptions.  Generally, you will need either a prospectus or private placement memorandum or some type of circular offering for larger offerings (not for friends who may want to invest).  Whether or not you are going to do one of these securities registrations, you need to provide written documentation of what your business and marketing plan is, financial statements and a FULL DISCUSSION OF POTENTIAL RISKS Of LOSS OF INVESTMENT. Make sure you put EVERYTHING in writing.

Back End Strategy:

One type of back end is where you have a buy/sell agreement which specifies how and in what circumstances an investor can or must sell back their investment.  When certain events occur, the company may buy out the investor, the company may go public, or there is some other kind of planned back-end.  These buy/sell agreements are extremely important because otherwise, there is no way for a company to get rid of an investor (i.e. for the entrepreneur who started the business) and to really gain control of the business again.  A buy/sell agreement may be either mandatory (must buy/must sell) or permissive.  In either one, you should establish a pricing formula and terms of payment.  If you fail to plan, you plan to fail. When you begin to plan on raising capital, you should look at what you think the end result will be and how it’s going to play out.

Raising capital is more of a process than an event.  It’s something that takes many steps.  You’ve got to be ready, you have to recognize the sources of capital, be aware of who’s providing the capital, look at the legal constructs around it, and finally, you have to have a back end plan.

When your business is ready to raise capital, contact Kreamer Law Firm, P.C. at 515-727-0900 or via e-mail at info@kreamerlaw.com for experienced legal assistance.

 

 

 

 

 

Part One of the Dynasty Family Business covered necessary characteristics a family business needs to become a Dynasty Family Business, and was posted on May 24, 2017.  In this second part, the passage of ownership will be explained.

The “live forever plan” has not yet been shown to be successful.  For a family business to be dynastic, there must be a successful transition of ownership or a passage of ownership.  A lifetime transfer of ownership allows a donor to “see” how the transferee acts as an owner.  This causes the family member who becomes an owner to have some “skin in the game”, which can impact their actions and perceptions.

When the time comes to sell the business their are important factors to keep in mind.  If a shareholder sells stock or membership units, the sale can create a taxable event for the seller.  If a shareholder sells stock or membership units at a discount, the sale can create a gift to the buyer.  The purchase of newly issued stock at a discount may create compensation for the Buyer.  In regards to the purchases and sales of the business, there is no need to transfer the whole company at once.  You could create a series of Options, an installment sale, or you could transfer part of the business during your lifetime and the other part after passing.  These payments could be made over time creating a retirement income.  All sales among family members or sales by the company of newly issued stock/membership units to a family member should be memorialized in a stock purchase agreement.  By doing this, it will provide representations and warranties on which the buyer can rely.  This is critical when the Buyer is paying over a period of time and/or the Buyer has rights to acquire more in the future.  This can be used to refute allegations of a gift, provides evidence of basis for the buyer, and this can promote family harmony by providing evidence of a “real” transaction rather than favoritism.  Until the transferee owns ALL the stock/membership units, there should be a Buy/Sell Agreement whereby the Seller (which could be the Company) can reclaim the stock/membership units in case the transferee dies, becomes disabled, quits or is terminated.  Gifting the company can remove assets from a donor’s taxable estate at a discounted value, could create a future tax problem for the transferee (they take the donor’s basis), and could cause disproportionate gifting (or perceived disproportionate gifting) which could create family discord.

Some choose to transfer ownership post mortem.  An agreement like this may be made during a lifetime and can take effect after passing.  It is important that plans such as this be in writing and in a way to fully express all of the terms of the transaction.  This could be funded in whole or in part by insurance, it can provide liquidity for an estate, and this could “equalize” the estate if there are multiple beneficiaries.  A Will or Revocable Trust can contain provisions to sell the stock/membership units.

When bequests are made, the recipient takes fair market value as “basis” for tax purposes.  Disproportionate bequests can create family discord: “fair” is not always “equal”; and “equal” is not always “fair”.

Absence of a Will or Trust can create problems.  It can lead to a discounted sale or closure of the business, which in turn can cause valuable employees and clients to leave the business, and can cause the termination of a franchise agreement.  When there is no Trust or Will, the Executor/Trustee runs the business until distribution of the stock/membership interest.  In the absence of a family agreement, the Spouse gets 50 – 100{7643a07be85def2dedbecc56bad3bab67e83a7c22b809f3c7a47a1fa73b8911c} and any share that does not go to the Spouse is divided between the children equally.  All beneficiaries are entitled to their pro-rata share of ALL assets of the deceased, including the stock/membership units.   Recipients may not be qualified to make necessary business decisions.

Dynasty Family Business does not just happen.  They have certain characteristics which set them apart form those family businesses which close or pass outside of the family.  To successfully establish a Dynasty Family Business, documentation of the transfer of the ownership of your business within your family is critical.

Please contact our office at 515-727-0900, or at info@kreamerlaw.com when you are ready to form your business to become a Dynasty Family Business.

 

 

Ultimately, there are only three things you can do with your business: you can close it (which might lead to bankruptcy), you can sell it to a stranger, or you can keep it in your family.  This article will explore how a business can be passed from one generation to the next – the Dynasty Family Business.

A family business will not become a Dynasty Family Business simply because they DO have these characteristics; rather, the absence of these characteristics PREVENTS a family business from becoming a Dynasty Family Business.

For a Family Business can become a Dynasty Family Business, it has to be a BUSINESS.  A business is different from a job.  A business is based on a “vision, has a series of systems which produce a predictable result, has more value than a job and is easier to convey to another generation.  A job is based on a “task” and it is what you do to achieve those results.  To be dynastic, the business and its vision must be dynamic – NOT static – and the owners (the decision makers) of the business have to be willing to consider changes in industry and operations.

The Culture is important too.  Every business has a culture which is sometimes called an environment or an atmosphere.  The culture of the business should reflect the mission of the business.  A few examples are, a manufacturing company may emphasize accuracy, while a restaurant should offer cleanliness and cheerfulness, and a law firm should be confident and accomplished.  Everyone, from the top on down, has to constantly be evolving as to how the business operates and how they themselves operate in the business.

When it comes to compensation, this should reflect the value of the individual to the business.  Over or under compensation can negatively impact the company’s culture.

Communication and training are key.  Future leaders of the business should have real and extensive experience in the operations of the business.  Family members should hold “real” board meetings.  The meetings should have an agenda, and minutes should be kept of what was discussed and any changes being made moving forward.  Issues should be considered relating to the strategy of the business.  When the business is operating successfully, it will be noticed economically and it will provide a value to customers and clients.

The family member who becomes an owner must be qualified and has to share BOTH the “vision” and the passion of the founder, and this person has to be knowledgeable as to ALL aspects of the business.  This again requires communication and training, and time.  “Family”, for this purpose, is not limited to only biologic relations or marriage.

To continue reading more about The Dynasty Family Business, see part two, which will be posted on June 1, 2017.

 

Many times we have clients who come in for assistance in purchasing an existing restaurant. Typically the scenario is that Bill Buyer (B) is planning to buy a restaurant from Owen Owner (O).  B wonders if he can buy any of the liquor or food inventory that O has in stock.  He also wonders if any of the licenses from the health inspectors or alcoholic beverages division can be transferred from O to B.

What restrictions are placed on the sale of liquor or food inventory during the sale of a restaurant?

SALE OF LIQUOR OR WINE INVENTORY:  In order to legally sell wine, beer, and/or liquor the business owner must have a license. These are normally issued by the City in which the restaurant/bar is located. The seller of the restaurant/bar (the “licensee”) may sell their stock of alcoholic liquor and wine to the new owner, as long as the new owner will be operating the business in the same location.  (IA ADC 185-4.36).  When making this transfer, it is strongly advised that the new owner make certain to detail within their records which inventory was received as a part of the sale of the business, since liquor sale records are required to be open for inspection.  (IA Code § 123.33).  They must also make certain that the inventory is affixed with the proper seals (IA refund 5¢), as all liquor must be obtained from a licensed wholesaler.  (Lynn Walding, Administrator, IA ABD, 515-281-7402).

SALE OF FOOD INVENTORY:  Food inventory is frequently sold as part of the sale of a restaurant. There are really no code provisions regulating this.  The sale of food inventory should be itemized in the contract for the sale of the restaurant, with specific provisions identifying the items and quantities requested.  Frequently, the contract will include a minimum dollar amount of inventory (including food, to-go containers, etc.) that must be on hand for the sale of the business, with discrepancies affecting the sale price.

Be sure to check back next week where I’ll be discussing whether of the licenses from the health inspectors or alcoholic beverages division can be transferred as part of a sale of a restaurant and/or bar. In the meantime, if you need any help or have any questions about buying, or selling, a restaurant feel free to email us at info@kreamerlaw.com or call us at 515-727-0900.

Again, I go on air to discuss with Michael Libbie the final part of our Three-Part Interview on “What Happens to Your Business If Anything Happens to You?” This time we’re discussing who will have the power to make the decisions for your business if you can’t.

Click the link below to watch the podcast, and if you need legal help with any business questions or concerns, please feel free to email us at info@kreamerlaw.com or call us at (515)727-0900.

http://insightadvertising.typepad.com/insight_on_business/2015/01/business-decisions-who-has-the-power.html

Businesses really have only two choices: they can grow (through formation or purchases) or go away (mostly by sale).  Those are the two things I spoke about during a recent Lunch and Learn presented for the West Des Moines Chamber of Commerce. If you would like to access the PowerPoint I used, click this link:Chamber Luncheon Final

Here are the high points of what we discussed:

• Identifying an Opportunity;
• How to Avoid Pitfalls;
• What the Buying/Selling Process Looks Like;
• Pricing the Transaction;
• Structuring the Transaction.

Following the formal presentation I took questions from the attendees. The one item that stands out was a question about the size of transactions I normally worked on. I responded that in my 30+ years I have worked on transactions ranging from start-ups all the way through the sale of a $45,000,000 company, but the most important transaction is whatever my client(s) need to accomplish.

However, the best question came as I was packing up to leave.  An attendee came to me and asked, “Why is it that you simply gave us all of this information free of charge?” My answer was really pretty simple: “My job is to help businesses and individuals achieve their goals. For me, that includes providing people with an opportunity to expand their business knowledge.  Simply giving some valuable information away for free? No, I’m doing what I love.”

The Kreamer Law Firm specializes in business law as well as estate law.  We Get Things Done!