Starting a business can sometimes overwhelm a new entrepreneur, especially the legal details of incorporating a business and running it. And when an entrepreneur incorporates, the very first challenge that they may face is how to issue shares for their small business, how many shares to issue and what to do to avoid diluting their control over the company with new investors. In short, even though there are great things that come from issuing new shares, there are many challenges that the owners would encounter as well. This article would help you understand the challenges that you might face while issuing shares.
How does a company get its shares?
The incorporation of a company is done by the state, and taxes the incorporated business based on the authorized shares and the value of those shares. When a company is incorporated, it receives a document called the Articles of Incorporation or the Certificate of Incorporation. This document holds the number of shares that you have decided to authorize for your company. As soon as you incorporate your company, shares are issued to the investors, employees and founders as per the votes of the board of directors. Shares in a company are issued in exchange for some valuable consideration like services, investment, knowledge, etc. Usually, the founders have the controlling interest of the company with at least 51% of the total authorized shares due to their work and contribution towards creating the company.
Why is it important to issue shares?
The very first reasons why shares are issued to investors is so that money can flow easily in the business, mostly when it is not earning enough profits (or no profits), and when the company wants to expand. If you choose to sell a few of your shares to an investor, you would be bringing in money to the company. Moreover, offering shares to the employees does the same thing, in addition to the employees being much more loyal and helping to increase their productivity. All the cash can then be used to grow the company and expand it. In short, the greatest advantage of issuing shares is getting the needed funds. With the money, you can:
- Hire new employees;
- Expand the company;
- Use it for marketing & reaching out to new audiences;
- Pay off debt;
- Developing a new product;
By issuing shares to employees, you would be able to include them in the company so that they stay for a longer time. They would also work harder as compared to others as they would take the company as their own. From this, it is understood that not only the founders get the shares in a company, other people who pitch in to make the company grow like the employees and investors also get shares issued to them as well. Though this helps the company, it does create many challenges for the owners of a small business. Let us now talk about the challenges that a founder would face when they issue these new shares.
Challenges of Issuing Shares
It is common for business owners to worry that they would lose their control of the company if they issue shares to others. Obviously most business owners would want to have enough funds without giving up control, but often times this is not possible. Moreover, if you are planning to sell your company, it’s important to sell your portion of the company for a fair price to what you’ve put in. While all these things can trouble your mind, there a positive side to it too.
Even though your company’s cash situation may be ok for the time being, you may want to plan for the company’s direction for the coming five years. If you wish to expand your business, and increase growth in the company, then you may consider issuing shares for the company. In short, investment is always needed for both small businesses and large businesses alike.
Another Huge Challenge
But that is not all. Another issue that many small business owners face when shares are issued is that those who have shares of the company begin to take more interest in the business. With this, they also begin to make suggestions that would improve the company. Even though it might make you feel insecure, they are great ideas that you need. Out of such situations, the one that you need to avoid is when the investors start telling you what you need to do. Even though their ideas may be great, you should consider what will be best for both the companies and all parties involved. For this, you can create a shareholder agreement that states when a person has an idea to improve the company, they can share it with you and the board. If approved, the idea would be implemented and if not.
A Case Study
Let us take an example to understand this better. Let’s say there is a founder, Mike, who started a small business for making phone cases. For this business, he took the initial investment from his bank savings and successfully started his business without much issue. He began to create the cases on his own and was using outside equipment to create them. After 6 months, the company profits was steady, but not enough where he could hire a team and purchase equipments that belonged to the company. In this case, he needed to come up with more money, much more than how much he initially invested. For this, he reached out to some angel investors. After he got the investment, he also decided to issue shares to talented staff that joined his team, so that he could get the best out of the money and grow the company faster. Now, he had both an investor who owned some shares of his company and two managers in the team who were offered with shares as an employee bonus. With the employees on his side, the production began on a huge scale. And with the money in his hand, the equipments and a factory was set up. All-in-all, he gained from issuing shares to these people. Mike also made sure that the shareholder agreement was signed by those who received the shares so that there was no conflict over ideas and business interests. In the end, Mike’s idea to look for outside investment helped to grow the business, hire employees, and help his company grow.
With the above example and the idea on how to avoid the challenges that come with issuing shares, you can easily learn and implement them into your business. It would help you stay ahead of things and avoid the fear of losing your company over petty conflicts. Also, do not forget to keep your cap table updated. The best way to do this is to get the best cap table software online. One such great software is Eqvista. Check it out here to know more!