Finance · 5 June 2019

Gaining the right investment for your SME

Businesses require funding or investment at some stage. The common route is equity share but this isn’t without its pitfalls or obstacles. 

Working with many different companies, investors and financial groups have given us an insight into the options available for companies, the risks and benefits of each option and not only from a legal perspective but also practical and operational.

It’s important for the business to consider all the options: debt financing, crowdfunding, grants, tax structures and equity investment although they are not mutually exclusive and all avenues should be explored carefully.

What to do before seeking investment

Firstly, you and your founders must decide on whether you are prepared to give away equity and, if so, how much control are you willing to transfer.

What level of control do you need to retain to be able to operate your business on a day-to-day basis?

There are situations where the founders of a business, who invested years of their life into the company, are voted out of the company by investors or driven out due to change. Be careful to consider how involved you wish to remain.

Know the value of your business before you seek investors

You must value your business now and what you predict it to be worth before making any decisions on the level of equity and price you are willing to accept.

This must be transparent and the workings sensible, otherwise you will immediately put off a savvy investor – back up what you say!

The decision on the type of investment vehicle you choose is dependent on whether the objective is to grow and manage the business or package this for an imminent sale.

A longer-term aim is a completely different process to a short-term build and sell objective. Ultimately, investors want to know how they will get a return. You should also make it clear within your business plan what your exit strategy is also.

The 4 steps to seeking investment

1. Pre-Due Diligence

An investor will want to see clear and maintained accounts (if applicable otherwise forecasts), that the shareholdings are correctly registered at company’s house and you are up to date with filings, tax returns, and all financial mechanisms.

We strongly recommend you keep all structures as simple as possible whilst looking to be tax efficient, to avoid over complexity or confusion; Legal documents need to be in place and more importantly up to date, relevant and executed. Namely the following:

A Co-founders agreement (Shareholder’s/Partnership Agreement) must be in place for the protection of the business, if there is more than one founder.

Reassure your investors about the security of the business

It must adequately and concisely address all relevant issues so that an investor trusts the business is secure, knows the founders are all in agreement with the potential transaction, is protected from over-involvement by minority investors and can know their goals are aligned with those of the founders.

Ownership and protection of all the business IP should be adequately documented and assigned fully to the business as this will be an asset the investor will want to benefit from. This includes checking all third-party contracts to ensure IP has been legally assigned over.

There must be adequate contracts in place with suppliers and customers so the investor knows you are a serious business and that it’s less likely any unexpected disputes can arise or that they cannot be resolved. These contracts protect cash flow; cancellation and your confidential data so it’s evidence of your secure income.

Have you got a clear GDPR audit assessment and policy to satisfy your investors?

They will not want to inherit the risk of a claim or fine. Any regulatory requirements or registrations must be in place and documented ready for presentation.

Have you got clear employment or consultancy contracts in place along with policies and procedures?

Your staff are often your best asset, but more importantly, they hold your confidential and sensitive data and client lists. An investor will want to ensure secure restrictive covenants and protection are in place. Consider the below points before you progress to the next steps.

  • Insurance – the investor will want to make sure all cover is adequate and in place.
  • Polices – depending on your business certain legalities are necessary such as Cyber Protection if in the advanced technology sector, employment/contractors’ policies specific to IP assignment and that your patent is lodged

2. Ensure you have a credible business plan

Investors are put off by long technical documents; they want to know you have a passionate/experienced team, what your product/service is, what problem you are solving, how its performing and how it is to be marketed.

Investors want to know that they will generate a return and that you have a risk management strategy.

Be prepared and remain confident in your proposal, understand your business so you can address all the questions adequately, be clear on what it is you want and your objectives, as it’s as important the investor aligns with this as much as you fulfil their objectives.

Anticipate what they are likely to ask and think about certain scenarios.

Make sure their potential questions will not expose flaws in your business strategy.

– If you don’t answer or you’re not transparent or you can’t back up your proposition the investor is likely to walk away.

3. Understand your market

Make sure you can demonstrate a knowledge of the market that your product/service is in and concisely communicate this to your investors.

Investors will be holding confidence in you that you know your competitors and will want to know how you will respond to competition to put your business ahead.

There are too many incidents where people say they have no competition ‘no one is doing this out there ‘and then an investor points out examples. Avoid egg on your face and do your research.

4. Be informed

Understand all the options available to you so you are not forced down a route you didn’t mean to go, take time out for adequate advice and do not be afraid to ask questions, take calculated risks, but negotiate for your needs.

You can seek SEIS/EIS; claim your R & D tax credits, take on debt financing as well as equity investment spreading the risk will make you attractive. Securing investment, don’t get pressured into the wrong decision.

Next steps: Find the right advisors

Meet different advisors, explore all the options and understand what is available and what each will mean for you.

What may appear too restrictive to a lawyer or accountant may still be worth the risk to your expansion, but also consider if you can discuss problems or concerns with them?

You need to be comfortable and go on the journey with the right people who can support you and who you trust unless it is just passive investment.

It’s always very difficult to turn down that dream cheque but having the right people on board is essential as you grow.

This also comes down to having the right advice on board at the early stages, be it, a lawyer or accountant or otherwise, as they must understand you, your business and your objectives to work with you to support and achieve your goals.

It is important that your advisors are not ‘yes-men’, do not sit on the fence or adopt a commercial approach, allowing you to lead the way with them nodding heads.

Finding advisors that do not have their own agenda and are willing to help you go in the direction you choose is absolutely key at the early stages and as you progress through your journey.

Invest in your representation

A good accountant could save you thousands of pounds if you structure your business or the deal correctly and a good lawyer prevents a dispute that could later be the downfall of your business or the loss of your confidential information.

– It is imperative that they work with you as part of the team.

Our advice when seeking investment is that you do all of your research and are fully prepared for the process.

Your legal documents must be carefully audited, and the gaps filled in, you have advisors in place to structure the deal and you do not compromise.

Our firm has taken many clients through small and large deals and understands the sensitivity required as well as the commerciality.

Often a founder’s decision may not mirror the legal advice provided but that lawyer should still be there taking their client through the process knowing they are fully aware of the risks.

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ABOUT THE EXPERT

Karen Holden is an award-winning solicitor and founder of A City Law Firm (ACLF), the go-to lawyers for entrepreneurs, startups, scale-ups, those seeking investment. In addition to being very successful lawyers for businesses , ICOs and family law, ACLF are now the UK's leading LGBT law firm and surrogacy specialists. Karen is a regular media commentator, panellist and event speaker.

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