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NGEquity finance refers to the capital an external investor injects into your business in return for a share of ownership (equity) and/or some control of the business. Equity finance investors therefore have a claim on your future earnings but, in contrast to a loan, you don’t pay any interest – nor do you have to repay capital.
If you opt for equity financing, you’ll sell a stake in your business in return for funds. This is in contrast to debt financing (e.g. a loan or a bond) where you take out a loan and pay it back over time with interest.
Equity finance could suit your business if you have an expansion plan or project that lenders such as banks aren’t willing to support, or if you want to avoid loan payments.
Your journey from startup to successful business might involve multiple rounds of equity financing from different types of investors – and at each stage you might choose different equity instruments. For example, business angels and venture capitalists may ask for convertible preferred shares rather than common equity because the former have greater upside potential (and some downside protection). If your business ends up growing large enough to go public, it would be common equity that you’d sell to institutional and retail investors.
If your business goes bankrupt, equity investors (equity holders) are the last in line to receive money. Because equity investors share the risks your business faces, equity finance is often referred to as risk capital.
Equity finance has two obvious advantages for businesses:
- private investors can bring additional skills and knowledge to your business – plus useful network contacts
- your investors, not least because they share in any upside, are motivated to make your business a success – and will be more likely to provide follow-up funding
There are six main types of equity finance:
- Business angels – Business angels are private individuals who are prepared to put their own money into startup or early-stage businesses in exchange for a share of the company’s equity (i.e. equity finance). Angels may invest on their own or as part of an angel network. Typically they are experienced entrepreneurs and, in addition to money, they bring their own skills, expertise and contacts to the table.
- Venture capital – Venture capital is financing given to startups and early-stage businesses. Venture capital funds look to invest larger sums of money than business angels – typically more than £250,000 – in return for an equity stake. Venture capital is most suited to high-growth businesses with long-term growth potential, i.e. those destined for sale or public listing (IPO).
- Private equity – Private equity is a type of equity financing suitable for established private businesses. Private Equity funds give your business money in return for a large or controlling share in your business.
- Equity crowdfunding – Equity crowdfunding is a type of equity finance whereby people (‘the crowd’) invest in an early-stage unlisted company, in exchange for shares (equity) in that company. Individual investors thus become shareholders and stand to profit if the business does well – they might also lose some or all of their investment. Equity crowdfunding usually takes place over an online platform.
- Initial public offering (IPO) – An Initial public offering (IPO) marks the first time a company sells shares to the public. It’s also known as ‘listing’ or ‘floating’ on the public markets – which in South Africa means a ‘new issue’ on the Johannesburg Stock Exchange.
You might also consider family offices.
