Putting your new business venture on a fast track to success requires the appropriate funding sources. Sometimes getting fresh money means looking for help from outside investors.
This article will discuss the pros and cons of outside investments as a funding source, explain the causes of external investment disputes, and emphasize the benefits of mediation for resolving your ownership dispute arising from outside investments. Stay tuned!
Outside investments are a wonderful way to fund your new start-up or inject additional capital into an existing company. But before setting off for an external investment adventure, business owners should consider some vital questions and understand the advantages and disadvantages of this type of funding.
Things to Consider Before Opting for Outside Investment
While getting fresh capital is always desirable, you should not accept financial contributions from external investors (individuals and companies) before asking yourself these three questions:
When talking of outside investors, we often describe their investments as a help. While new capital helps your business, external investors are not here to do charity work. They invest in companies to earn money and expect your company to yield at least 5x returns. So, before seeking outside capital, analyze your business to see if you can maintain sustainable growth and offer desirable returns to financiers outside your company (private individuals, banks, investment firms).
Running a scalable business is necessary for knocking on outside inventors’ doors. But there are other considerations, too. Business owners need to determine the right time to take outside investments. Attracting external capital requires showing your business’s profitability and ability to bring revenue. In addition to proving you can make money; you must also build a reputation for keeping the money because long-term investors care more about financial stability than short-term gains.
Taking other people’s money opens many possibilities. However, it also comes as an additional burden. Before accepting external investments, decide what to do with the extra capital. Outside investors will be interested to know how you will handle their money. So, if you do not have a clear vision of what to do with the additional cash, you better keep further from this funding source.
Understanding the advantages and disadvantages of outside investments will help you make the right decision and avoid potential ownership conflicts.
The number one reason companies opt for outside investments is financing future growth. At one point in your business journey, you will need external capital to help you expand space, bring in additional workforce, modernize equipment, etc. Outside capital can facilitate this and put you on a fast track to success.
Outside capital, such as bank loans, can help preserve your operating funds. Allocating outside investments in development projects allows you to use internal funds for financing maintenance costs, paychecks, etc.
With external capital often comes expert advice. Outside investors are interested in preserving their investment. They will gladly offer you guidance about new profitable business trajectories.
Giving up part of the ownership in exchange for extra cash is the leading disadvantage of outside investments. While external capital helps you expand your business, the investor gets part of your company ownership and the right to vote on crucial decisions regarding the future business trajectory. That is the number one cause of ownership disputes arising from outside investors.
Outside investments do not come for free. Banks charge interest, while individual investors expect a specific return rate. That means external capital can sometimes come at excessive costs, more as a burden than much-needed help.
Finally, getting outside capital means a lot of logistics. You must prepare a business plan and presentation for potential investors, arrange numerous meetings, and choose among the best alternatives. All of that requires considerable time and resources.
Knowing the pros and cons of outside investments and their impact on Florida businesses helps us identify the causes of ownership disputes arising from this funding method. Most conflicts arise from different views regarding the ownership portion, voting rights, and interest (or revenue) rate.
Most outside investment agreements contain ownership clauses, giving the investors a portion of the ownership in exchange for the investment. More owners mean smaller ownership portions, which results in smaller profits for each owner. Although investment agreements define the ownership portion a new investor will get, and despite all business owners agreeing to such arrangements, disputes arising from internal frictions are almost inevitable. The reason for this is the psychological effect of new capital injection. No one objects to new owners joining the team when fresh money is on the horizon. It brings new opportunities and opens space for more profits. But when the business trajectory goes down, everyone feels the impact of their smaller ownership portion, which causes disagreements and leads to disputes.
Voting rights are strongly associated with the ownership portion of each member. The Articles of Organization and operating agreements define the number of votes each member has depending on their ownership share. In any case, a smaller ownership portion (due to new members) means fewer voting rights. Because outside investors obtain the right to decide the future, the existing members often oppose their business strategy. Such internal rifts lead to ownership disputes.
As mentioned, external investors expect at least 5x revenue from their investment. Likewise, banks charge interest on the loans they approve (which is how they profit). Despite the investment agreement defining the exact interest/revenue rate, business owners can find them unacceptable in times of crisis, giving rise to an ownership dispute.
Taking outside investment for your company is not just a business transaction. In most cases, external investors receive part of ownership and corresponding voting rights. After mixing the capital, investors become business owners with the right to influence the future of your business venture.
That is why bringing ownership disputes to court is detrimental to your business. As a public process, litigation enables everyone to get insights into your strategy, business plans, and the root causes of disputes between business owners. As an adversarial procedure, it deepens the divide between business owners, putting them into opposite, belligerent roles. In such a scenario, no reasonable person can expect positive outcomes, reconciliation, and continued cooperation. In the best case, the business dissolution is inevitable, meaning the owners will receive what remains from their investment after paying hefty court filing and attorney fees.
In contrast to time-consuming and financially draining litigation, mediation offers innovative approaches and optimistic perspectives for the disputed parties in ownership disputes arising from outside investments.
Mediation promotes confidentiality, neutrality, a non-adversarial approach, flexibility, and reconciliation.
As opposed to public litigation, the mediation process is confidential. Confidentiality is two-fold. First, the mediators are not allowed to disclose the details of private conversations (caucuses) to the other party unless authorized. Secondly, the mediator and the parties cannot reveal the information shared during mediation sessions (private and joint). If mediation efforts fail, no party can use confidential information as evidence in potential litigation.
Unlike the court process, the disputed parties entrust the conflict resolution to a neutral intermediary. Instead of being subject to a binding decision imposed by a government-appointed judge, parties let the mediator facilitate their negotiations, helping them reach mutually beneficial outcomes. The mediator (a former judge, attorney, or business professional) stays neutral throughout the process without the decision-making authority. Depending on their work philosophy and mediation style, mediators can suggest solutions to help the parties agree more easily. However, they can never impose a decision or give legal advice to the parties.
In mediation, parties sit at a negotiation table as equal counterparts. Instead of fighting to convince the judge of the rightfulness of their arguments, they engage in amicable conversations, freely sharing material information and presenting offers and counteroffers. A non-adversarial mediation approach helps parties open up about the root causes of the dispute, express their grievances, and reach a genuine agreement without fear of negative consequences. Such an agreement, reached through voluntary negotiations, is more likely to endure the test of time than the court-imposed judgment.
As an out-of-court method, mediation is free from rigid litigation rules and strict formal stages such as discovery, witness testimony, and expert witness examination. Parties present the case details to the mediator in private sessions (or through mediator briefs) and exchange evidence informally. By keeping the communication lines open, mediation enables the free flow of information, producing better fact-gathering results than mandatory court rules. In mediation, parties control the process. Instead of passively waiting for the binding decision from the judge and randomly selected jury, they can influence the outcome by changing the mediator or leaving negotiations.
Resolving ownership disputes in mediation helps parties preserve business relationships. Litigation can eventually (after a year-long process) result in financial compensation to the party who presents more credible evidence in court. But the relationship between business owners remains irretrievably broken. Conversely, mediation promotes cooperation, mutual understanding, and compromise. Using special negotiation techniques, mediators help parties bridge the divide and build even stronger relationships.
With decades of real-life business experience, David L. John, a certified Florida mediator, is an unchallenged authority in ownership dispute mediation.
Knowing the ownership relationships in Florida companies inside out, Mr. John is an expert in identifying the root causes of disputes arising from outside investments. While understanding the importance of external capital for your business growth, David knows the potential risks that can lead to internal conflicts between owners. By addressing these root causes, he can help you overcome disagreements through constructive negotiations.
Any agreement is better than litigation-procured outcomes. David will ensure your agreement reflects the interests of both parties so that everyone involved walks away from the negotiation table with a sense of accomplishment.
Please call us today at 954-444-2900 or email us at ddjohnnz@gmail.com to schedule your free consultation.
