T Ownership t Corporation Equity t Warrants
T Limited Liability Company and Limited Partnership Equity
T Raising Capital in Stages
Equity is an ownership interest in a company. In a corporation, it typically takes the form of common stock or preferred stock. In a limited liability company, equity ownership is called a membership unit (or membership interest). In a general or limited partnership, it is termed a partnership interest.
The difference between raising capital by selling an ownership interest in your company and by the incurring of debt is that the first is a nonrepayable capital contribution and debt is a legally binding promise to repay the amount borrowed with interest. Debt has to be paid back, usually on a prescribed schedule, and negatively impacts the balance sheet (the debt-to - equity ratio). Equity, on the other hand, does not have to be paid back. In return, you have given away a portion of the ownership of your company. This is not all bad, however, because it allows your company to grow.
Beginning businesses that need to raise capital should consider the sale of equity for a number of reasons. The terms of equity financing are more flexible than debt financing and they have a positive effect on the company's balance sheet. In addition, investors understand that they are entering into a long-term investment and are less likely to expect immediate returns on their investment. Last, but not least, cash flow can be retained by the company for expansion of the business operations, conducting research and development, and obtaining assets, such as intellectual property, rather than servicing a debt.
Raising money from investors can be a daunting task that will require a substantial commitment of time. It can become a second, full-time job apart from developing the products and services that you hope to sell someday.
Determining what is attractive to investors is an art more than a science, and everyone will have an opinion on what works best at any one time. This chapter informs you of the types of ownership interest that can be used in the various business organizations.