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There are several structures that Private Equity funds (also known as venture capital funds) use when they give the green light to fund a company. The basic structures for private companies are common stock and convertible preferred stock. These structures usually contain an anti-dilution provision, so the lead investor doesn’t start out purchasing say 40% of your company for $4,000,000 and then end up with only 5% because you dilute his stock position with subsequent financing rounds. 1. A Common Stock. Common Stock funding structures are pretty simple. The company and investor agree on a dollar amount to be funded and the percentage of stock, also called the equity position, the investor will receive. Most private companies, however, will find they have very little bargaining power with private equity funds. Usually, it is the money that dictates the terms of the financing structure. Part of the reason is that if you don’t like the deal terms you don’t have to take the money. Another reason is that Private Equity firms know which structures work for them and which ones don’t. 2. Preferred Stock. Private Equity firms use Preferred Stock structures the most. The Preferred Stock is convertible into Common Stock, usually anytime at the option of the holder. The convertible Preferred Stock can be convertible into either a fixed number of shares of Common Stock or a certain percentage of the Common Stock outstanding on a future date. Most Preferred structures also have a built in dividend. The dividend could range from 6% to 12%. This allows the Private Equity firm to receive some return on its investment before the Exit Strategy is used. 3. Debt Financing with an Equity Kicker. Another possible structure, if your company is already operating and profitable, or close to it, is debt financing with an equity kicker. Although this structure will be difficult to get from a Private Equity firm, it is worth exploring. 4. Convertible Debt.Some investors will structure their funding as a convertible note or convertible debenture. This security is convertible at their option into Common Stock of the company. Usually they will not convert until the Common Stock is trading and they can get out of their position. 5. Reverse Mergers. A Reverse Merger is when an existing private company merges into an existing public company with a stock symbol, which is usually a “shell company”. A shell company is a public company that although still in existence and having a stock symbol, is no longer operating a business. The business plan obviously failed and that company went out of business, but the public entity or shell still exists. This is the key ingredient in the Reverse Merger. |