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Determining the Startup Stakes that Entrepreneurs Must Be Willing to Trade For Investments

October 07, 2013

For many prospective business owners finding the middle ground with investors to gain funding while maintaining ownership is a very real challenge.

In an ideal world, entrepreneurs would be able to gain all the funding needed to put their business concept into action without having to give away their ownership of the company. Unfortunately, that’s not a realistic view for many prospective business owners, and finding the middle ground with investors to gain funding while maintaining ownership is a very real challenge.

So how much stake in their businesses should entrepreneurs prepare to give up in order to secure the funding they need? That ultimately depends on how much leg work into launching the company has been done, serial entrepreneur Bill Payne told StartupNation. He asserted that business owners should delay seeking outside investment until it’s absolutely necessary.

The more value a company has, the less of a stake the business owner will have to give up. If all that an entrepreneur has is an idea, investors will be forced to devote a lot of resources into making the venture succeed. Because of the risk involved with starting a company from the ground up, investors will want a higher stake in the company.

Conversely, the more milestones a business has hit and the more value it already has, the less of a risk investors will need to take to help the company succeed. This translates into giving up a smaller portion of ownership.

Funders and Founders highlighted a better example of this. For instance, if a company is worth $1 million “pre-money valuation” and the investor adds $200,000, the company is worth $1.2 million post-money valuation. The investor would get 16.7 percent of the company because that’s what he or she contributed. However, if the pre-money valuation was at $600,000 and the investor added $600,000, their share would be 50 percent.

If ownership is important to entrepreneurs, they need to carefully consider when they should begin seeking outside funding. There are a lot of different options when it comes to funding sources. There are so many groups looking to put money to work that entrepreneurs need to do their homework to make sure they know exactly what they are looking for and how much ownership they want to give up. They also have to remember that this will happen at least a couple times during the company’s life cycle, which will lead to further dilution down the line.

Sources:
http://www.startupnation.com/business-articles/1546/1/angel-investors-stake.asp
http://fundersandfounders.com/how-funding-works-splitting-equity/

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