I met a company today that had such bad ideas for getting funded that I can't help writing about it. If only to warn the solitary entrepreneur who might stumble across this blog!
The company in question is a mature technology vendor, selling to blue-chip enterprises, with tens of millions of Euros in revenues, good growth and consistent profits. It sells a mix of established products and is developing some new ones which are not yet proven in the market. It does not have to raise capital, but could accelerate new developments and its growth by doing so. In other words, it's in a fairly strong position to choose the best funding route.
The company has debated whether to float on one of Europe's new growth company stock exchanges, or to raise capital from a private equity fund. Fair enough -- the trade-offs are well-known (perhaps I'll write about them in more detail in future). But the founder and his banker had some additional ideas:
- Raise capital through a private placement to many institutional and private investors
- Sell/allocate shares to as many of his enterprise customers as possible
- Register the shares on the stock exchange so they can be traded (but without selling new shares to the public)
- The founders would sell no shares; the existing investors have the choice of selling some
Here's what's wrong with this picture:
- I don't know much about this type of hybrid private/public fundraising, but I would imagine this structure will attract mostly short-term investors who believe they are getting a pre-IPO discount. They will be the first sellers once the shares are listed.
- Wow - what a bad idea... Vonage anyone??!!? Don't mix business and business. The commercial benefits if the shares do well are marginal; the downside risk of alienating your customers if they don't is huge.
- Without a public offering with a primary capital raise, the only liquidity will come from investors trading with each other. Hard to imagine how this will generate enough external interest to create a minimum of liquidity. The market in this stock is going to be very very thin.
- A substantial fundraising is the founders' one chance to take some cash off the table. Not selling may be "noble" but it's also stupid. This might be the last time there is any option for liquidity -- the founders ought to take it up. There is absolutely nothing wrong with cashing out a small portion of your equity along the way.