(Insert pithy investment-related quote here)

February 19, 2007 7:56 AM

My company has been attracted the attention of several larger companies who wish to invest in us in exchange for a position on the board and an equity stake in the company. We're a small, privately held group, and have no clue what this means for us. Obviously, we need to get at attorney involved in this process, but I'm the kind of guy who wants to know what to expect out of deals like this.

Can anyone enlighten me? What happens to the day-to-day operations of my company? Are my decisions capable of being vetoed by my investor? We currently don't have regular "board meetings", per se, and I'm the only stockholder. How does this process play out? The investing company is a publicly traded company, several thousand employees, etc., and we're a small company.

Incidentally, we're in the IT space, and we offer a skilled service (beyond just consulting) with a high dollar value. We sure could use the money for marketing, augmenting staff, even paying our own salaries. Does the investment typically come with restrictions on how we spend it? So many questions!

posted by Merdryn to Work & Money (10 answers total)

It's very important that you get an attorney for something like this.

If you have specific things that you could do if you had more money (marketing, staff, etc.) then outside investment may be useful. (On the other hand, you could do the same things with a line of credit from the bank, and you'd maintain complete ownership.) Outside investment is unlikely to let you increase your own salary, unless they're trying to buy you off on a deal that's worth more to them than the (relatively insignificant) amount of money they let you have.

Having well-connected, influential people on your Board can help you get into places that wouldn't normally consider dealing with you. But find out who, exactly, would be placed on the Board, and find out everything you can about him/her. Evaluate carefully whether that person can help you, and how.

Day-to-day, anywhere between nothing and everything may change. An investment like this is proposed because you've come to the attention of the large company. Perhaps you do something well and they think they can make money by doing more of it. Perhaps you do something better than they do, and they want to stop losing jobs to you.

Figure out why they want to invest (don't just take them at their word) and, approaching it from their perspective, figure out how much they stand to gain from this alliance. Then see whether what they're offering is in line with what they stand to gain. If your estimates are wildly off, you're missing something.

Again, this is something an experienced attorney can help you with. Don't scrimp here. If you like what you do and have a good, growing business, you have an enormously valuable asset that you should protect carefully. OTOH, if you had fun growing your company, but would be just as happy to cash out and do something new, there's nothing wrong with that. Just be clear about what you want, what you're risking, and what you can expect in return.

IAAL, but IANYL. Good luck, it sounds exciting.
posted by spacewrench at 8:21 AM on February 19, 2007

Seconded: getting a lawyer is absolutely essential here. The answer to all of your questions is "it depends." There's a big range of possibilities here for how you would integrate with the larger company, and finding experienced counsel is one of the most important steps toward ensuring that you aren't exploited (and not necessarily maliciously) by the suitor company. Find a law firm in your city that specializes in working with small start-ups and get professional advice.
posted by padjet1 at 8:36 AM on February 19, 2007

Thirded, but also, go shopping. Do not be in a hurry. Go to VCs with exactly the same pitch as you'd use if you were dying for investment and see what they say. Since there is one potential deal that has percolated all the way up to someone with money and decision making power, it is likely that more can be had.

The idea's to enjoy the roller coaster ride. Good luck!
posted by jet_silver at 9:04 AM on February 19, 2007

What's their pitch to you? Where do you see a match outside of funding growth, or realizing value for your investment in the company?
posted by nj_subgenius at 9:07 AM on February 19, 2007

Jet_Silver's advice is important. Not only is the first offer not necessarily the best, but the first offeror may not be the best, either. Take it carefully and slowly. A prospective partner has a right to ask that you not "shop" its term sheet, but has no right (and no expectation) that you say yes without considering alternatives.

And, to answer your big question, everything will change. Even if you retain full control, you'll no longer have full discretion: you'll be legally responsible to your investors ("fiduciary duty"), you'll have accounting and other controls in place, etc.

In terms of the professional advice you need, you need a lot of different support, and two of each (one for you personally, and one for the company): not just lawyers, but accountants and securities professionals as well (an investment banker for the company, and an investment adviser for you). You need two of each because while your interests and the company's may be the same now, the two may be the same for the moment, they will immediately and permanently diverge the second that you sign a deal, and you need to have continuity of advisory services for yourself.

All of this advice will be expensive, but it can be effectively "charged to the deal." You have to be very careful in how you go about incurring time, though, since if the deal doesn't close, the lawyers and accountants will expect to be paid anyway. Investment bankers and investment advisers usually don't get paid if a deal doesn't close.

If you don't have any good professional advice lined up, feel free to e-mail my profile and I might be able to get you started. (And I don't provide any of these services currently, so no conflict of interest...)
posted by MattD at 9:40 AM on February 19, 2007

The attorney is the one who is going to tell you what you need to know going into it. Thats what you are going to pay her or him to do. Ask MeFi is most definitely not the place to get advice on what the effects of selling equity in your start up will be. I can't emphasize this enough. These are decisions involving complex economic and legal ramifications which will affect your business for decades to come.

People often don't trust the attorney they meet for a consult. It is a big mistake. They are going to give you the best basic advice you can get. Here, you are going to need help throughout the process.

Of course you'll need accountants and others to look at the deal too. But the lawyer is the key, because she or he is going to know exactly who to call.

Don't skimp either.
posted by Ironmouth at 10:09 AM on February 19, 2007

There are quite a few ways for large companies to make money with an equity position in a smaller one, and most of them are not good for the smaller. Look very carefully at the track record of any suitor investor and try hard to find companies they have driven out of business. The scenario I would be most concerned about is one in which they have identified you as a potential competitor of theirs, or of another enterprise in which they already have a stake, and investing in you is the cheapest way of insuring you never become a serious threat, which they will accomplish by effectively crippling you.
posted by jamjam at 10:12 AM on February 19, 2007

Here's a story of one such deal gone bad, from Philip Greenspun.
posted by russilwvong at 12:34 PM on February 19, 2007 [1 favorite]

On top of everyone else's advice, understand that going from private to public is a BIG DEAL. Especially with Sarbanes-Oxley, you'll be expected to demonstrate a level of financial transparency and accountability you're probably not used to.
posted by mkultra at 12:35 PM on February 19, 2007

That's a great article, russllwvong. In that case, I found myself wondering if ArsDigita got an investor whose real aim was to undermine an open source company rather than make money directly from an investment. I suppose a company with a huge amount of cash whose main competition was from companies producing open source products might consider that $38 million money well invested in a VC firm which behaved like that even if they never got a dime of it back.
posted by jamjam at 4:10 PM on February 19, 2007