How does equity investment work?
Equity investment is often done in stages (often known as rounds). Typically (although very different scenarios are not uncommon), an angel investor will be the first investor of a startup (seed stage). Often this is followed by series A, B, and sometimes C round funding from venture capital (VC) funds.
Where does equity investment come from?
Venture capital funds will often pool money from pension funds, institutions and high net worth individuals, whereas business angels may wish to invest in a business as a home for their cash and to bring relevant expertise to help a business grow.
Irrespective of the funding round, the principal of equity finance remains the same. An equity investor offers you a sum of money in return for a percentage stake of your company (through issuing shares to the investor). Once agreed, the business owner’s percentage stake in the company will be reduced (diluted), but more importantly, your business now has cash to fund its plans.
How do equity investors ‘cash out’?
At some stage, the investor will seek a way of ‘cashing out’ and this can be done if the company exits and is sold, if it IPOs, or through a trade sale. That’s why it’s important for businesses to only seek equity investment if they have a strategy to build and then sell out/ exit afterwards.