Raising Finance (equity) continued

Question 1

What are the types of share?

Answer 1

1. Ordinary shares (equities), carry one vote per share. Some may carry more rights than others, can be divided into type A and type B shares.
2. Preference shares, have priority over equities in allocation of profits, have a fixed dividend each year, do not carry voting rights.

Question 2

What is the ‘principal-agency problem’?

Answer 2

When the FMT look after their own best interests at the expense of other shareholders.

Question 3

How is principal agency problem solved?

Answer 3

1. Demanding a specified level of representation on board
2. Structuring rewards so that founders work hard e.g. specifying moderate salaries for the founders, so that they can only realise large rewards from appreciation of the value of their own stock
3. Provide venture capital in stages, with interim audits taking place to confirm that earlier funds have led to the specified levels of progress of the firm

Question 4

What is venture capital?

Answer 4

“A source of finance for new businesses in which high returns are offered but high risks are expected.” (Roger Hussey, Oxford Dictionary of Accounting)

Question 5

What do investors want from their investment?

Answer 5

1. Less risk to more risk
2. More return to less
3. The return sooner rather than later
4. More liquidity to less liquidity.

Question 6

What should early stage companies do to attract external investors?

Answer 6

1. Assure investors of the quality of the management team
2. Offer potential super-normal profits and high capital gains
3. Offer potential liquidation of the investment
4. Inform and involve investors regularly (the accountability issue)

Question 7

How can established companies make short term improvements in their cash position?

Answer 7

1. Tighter credit control; offering settlement discounts whereby incentives are offered to buyers to settle their invoices early
2. Moving to a ‘just in time’ inventory system, whereby goods are produced or acquired only as needed, not in advance
3. Tighter creditor management, managing the company’s payment obligations in a manner that optimises cash flow

Question 8

What do VC’s look for when choosing their investments?

Answer 8

1. Global sustainable under served market need
2. Strong management team
3. Defensible technological advantage
4. 60 per cent internal rate of return
5. An exit route