Raising equity — bringing growth capital into the company
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Raising equity is something different from selling shares. In a capital increase the money flows into the company; in a share sale it flows to the shareholder. The structure, the valuation and the expectations of the capital provider differ considerably between the two cases.
Whoever seeks growth capital therefore does not sell their life’s work but gives up part of the future increase in value — in return for funds that debt capital cannot provide in this amount or at this level of risk.
When equity is the right answer
Equity is not the cheaper alternative to debt. It is the right answer in three situations.
Growth that debt cannot carry
When the required amount exceeds the debt capacity derived from earnings and free cash flow, further debt merely shifts the problem.
Projects with high uncertainty
Development work, new markets, a new business model: risk a bank does not finance because there is no repayment plan for it.
Balance sheet structure
A thin equity ratio limits every further debt financing. Fresh equity raises the scope a bank is willing to underwrite in the first place.
The forms at a glance
Between a silent partnership and a genuine shareholding there is a range of forms that differ considerably in their consequences.
Minority stake
A genuine shareholder position with voting and information rights, usually accompanied by an advisory board.
Silent partnership
Capital without shareholder status, remunerated by a fixed and a performance-related component and not visible externally. See taking on a silent partner.
Profit participation rights and mezzanine
An intermediate form: equity-like in its balance sheet effect, debt-like in its remuneration. See profit participation rights and mezzanine capital.
Growth capital
Equity for a defined growth step in an established company. See growth capital.
Who provides equity
The type of capital provider determines the rules more strongly than the amount.
Family offices and private investors
A long horizon, entrepreneurial in approach, often without a fixed exit date.
Private equity firms
Professional, with a return expectation and a defined exit horizon, as a rule with reporting obligations and an advisory board seat.
Strategic investors
Industry knowledge and market access, but also proximity to your own business — a minority stake held by a competitor is never merely capital.
A capital provider who does not fit the ownership culture costs more later than the valuation gained at the outset.
Valuation, dilution and the rules of the game
The stake follows from the capital need and the valuation before the increase. A higher valuation is not automatically the better outcome if it is bought with preference rights that take effect in a later sale.
The shareholders’ agreement has to settle the points that matter for the coming years: information and consent rights, composition of the advisory board, tag-along and drag-along rights, pre-emption rights, rules for further financing rounds and exit scenarios.
On the valuation basis, see company valuation.
Frequently Asked Questions
- How large a stake do I have to give up?
- The stake follows arithmetically from the capital need and the valuation before the increase. What matters, however, is not the percentage alone but which rights are attached to it.
- Will I lose control of my company?
- With a minority stake the majority remains with you. In practice control is not lost through percentages anyway, but through consent catalogues in the shareholders’ agreement.
- What is the difference between a silent partnership and a minority stake?
- A silent partnership is capital without shareholder status and without voting rights, and is not visible externally. A minority stake makes the capital provider a genuine shareholder with rights and obligations.
- Do I have to promise an exit?
- Private equity firms work with a defined exit horizon, family offices and private investors often do not. This is one of the first questions when selecting the capital provider.
- How long does an equity round take?
- As a rule several months: preparation, approach, review by the investor, negotiation of the contracts.
- Can equity and debt be combined?
- Yes, that is the normal case. Fresh equity widens the scope a bank can finance in addition.
If you need capital for growth, the initial conversation clarifies free of charge which form of participation fits and which capital providers can be considered.