Diluting Shares... What's The Norm?

J

JamesB1

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Hi, i'm putting a proposal together for a potential investor who has expressed interest in a small company I have.

When you offer someone equity / stake, what should happen their stake when the company is further diluted down the road.

Let's say investor A has 20% and I have 80%. Investor B comes along and offers an investment for 10%. What is the norm here? Is investor A expected to give 10% of his 20% too or should the full 10% come from my 80%?
 
Are the funds from Investor B going into the company or to one of the existing shareholders - is B buying one of the others' shareholdings or investing in the business?
 
James has all 100 shares in a company.

The company issues shares
The company needs more money for investment. The company issues 20 new shares to John for €50,000. The company now has €50,000 and John owns 16.6% (20/120) of the company.

Next year, the company needs more money and issues 30 new shares to Mary for €40,000.

Now John owns 13.33% (20/150) of the company. But it should be a more valuable company, because it has €40k more cash.

James sells his shares
James can sell 20 shares to John for €50k. John gets the €50k, not the company.

Later John sells 30 shares to Mary for €40k. Again, John gets the €40k. James is not affected.

But... small shareholdings in small companies are a huge source of conflict and should be avoided unless there is some huge benefit arising.

Brendan
 
Thank you Brendan, much appreciated.

Just a few questions:

01 - why wouldn't James just give John 20 of his 100 shares so that he is left with 80 shares. What is the advantage of introducing more shares?

02 - when investors get shares in your company, and you decide to take in more investment down the road... do the original investors not expect the shares / equity to come out of your shares / equity, and not theirs. Would you not annoy investors if you kept diluting their shares (the overall shares) with new investment?
 
1)You are talking about two different things here. If the company needs capital it sells new shares. If the company does not need capital, but John needs some money personally, he can sell some of his shares.
So the purpose of issuing new shares is to raise capital.

2) It's a very tricky area.
John owns 80% and James owns 20% of a company worth €200
The company needs to raise €100
The shareholders agreement would provide for John to have a right to buy 80 new shares at €1 and James would have a right to buy 20 new shares at €1.
If they don't take up their rights, the company may sell them to a new investor.

If John knows that James has no money, he could exploit the situation by issuing new shares for less than they are worth.

That is why you should avoid having a minority shareholder unless there are really good reasons for doing so.

Brendan
 
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