CAPITAL FORMATION

The Basics of Capital Formation

Debt Financing v. Equity Financing

The two basic methods for raising capital in the US are, one, debt financing and, two, equity financing. Debt financing is a loan. The company is obligated to pay back to the lender the dollar amount of the loan plus interest. The lender does not acquire an ownership interest in the company. Debt financing is not a securities transaction. Equity financing is a securities transaction. A security is a document issued by a company or an entry in a company register that demonstrates that the holder of the security owns an interest in a company. Each of a share of a corporation, a membership interest in a limited liability company and a beneficial interest in a business trust is a security.

Securities Transactions

A securities transaction is a contract by which a company offers securities to a person and that person pays a dollar amount to a company in exchange for an ownership interest (i.e. a security) in the company. This person becomes an interest holder and the dollar amount is its investment in the company. Unlike debt financing, the company is not obligated to pay the dollar amount back to the interest holder and the interest holder risks losing up to the total dollar amount of its investment.

Securities transactions are categorized as either a public offering of securities or a private offering securities. The US Securities and Exchange Commission (SEC) regulates any public or private securities transaction which occurs anywhere in the US. Most US states also regulate securities transactions through state government agencies.

Public Offering

In a public offering, a company must file with the SEC a document, referred to as a registration statement, which sets forth the terms and conditions by which the interest holder is benefitted and bound. A company which files a registration statement which the SEC approves is a public company. A public company is entitled to sell its securities to the general public through stock exchanges such as the New York Stock Exchange or the National Association of Securities Dealers Automated Quotations (NASDAQ).

Private Offering

In a private offering, the company offers its securities only to persons with whom the company has a pre-existing relationship. It does not advertise its securities for sale to the public and its securities are not listed on any stock exchange. The company must prepare a disclosure document, the contents of which are similar to a registration statement and give it to potential
investors. The difference is that the disclosure document is not filed with the SEC but must be filed with the state securities agency of any state which requires such filing.

We have participated in public offerings. However, we direct our services primarily to companies which do private offerings. We organize our capital formation services into the following Three Phases:

Our Three Phases

Phase One – Analysis of the Business Concept

If your “idea people” have prepared a business plan, we analyze it for technical sufficiency and commercial viability. If there is no proper business plan, we can prepare one. We then report the results of our analysis to the entrepreneurs. Based on these results, we may suggest modifications so that the business plan persuasively informs potential investors as to the business concept.

Phase Two – The Investment Concept and Investor Communications

We develop the investment concept. The investment concept sets forth the terms and conditions of the “deal” between the company and the potential investors. The basic items in which potential investors are interested include:

Financial

1. A systematic budget which demonstrates the items on which the raised capital will be spent and how these expenditures support the business concept,
2. The cash flow from business operations which the company believes is possible,
3. The dollar amount of gross revenue, net gross revenue and net profit which the company estimates,
4. The percentage of net profits which the company estimates that it can return to the investor, and
5. Whether the value of the ownership interest which the investor hold is likely to appreciate over time.

Management

1. Whether the managers of the company have the experience and skills to operate the business concept,
2. The functions of management, if any, which the investor is expected or desires to perform, and
3. Whether the investor is expected or desires to be empowered to re-structure the personnel in management.

Governance

1. Whether new investors can be admitted as interest holders and the terms of admission,
2. Whether the investor can sell its ownership interest back to the company, to other interest holders or to third persons and the terms,
3. The conditions under which the company merges with, is acquired or acquired by another company,
4. The conditions under which the company creates subsidiaries, becomes a public company or makes another private offering, and
5. The time and method by which the company will be dissolved and terminated,

Identification of Categories of Potential Investors

We identify categories of potential investors which may be interested in the business concept, either individuals or institutions. We consider items such as the industry or business in which the potential investor is engaged, prior investment history based on available information, and our prior experience, if any, with the potential investor.

Communications with Investors

We assist management in preparing materials to gauge the level of interest of potential investors. Typically, these materials set forth the information as to the business concept and the general terms of the investment. We also assist the management in preparing effective in-person presentations which the managers may seek to make to potential investors.

Phase Three – Closing the Investment

We manage the preparation of a formal disclosure document in a systematic and comprehensive form which sets forth the material information about the investment which has been developed in Phase One and Phase Two. Based on the material information in this document, the potential investor can assess the commercial viability and prudence of the investment. We will also manage the logistics of the closing.

COMPANY STRUCTURE AND GOVERNANCE

There are few constraints on the owners of American companies as to how they organize and govern their companies. Second only to the business concept, investors consider the company structure and governance to be the most important consideration in the investment decision. We have developed innovative and practical methods to manage and govern the company. We assist the managers to conceive, plan and implement a management and governing structure which satisfies their objectives and enhances the chances for the commercial success of the company. We offer these services in the following Three Phases:

Phase One – Organizing Principles and Context

We develop organizing principles which create a context for the structure and the governance of the company. This context is a function of the business concept and the profiles of the managers.

Phase Two – Management and Governance Practices

Based on the results of Phase One, we propose detailed and practical solutions by which the company is managed and governed. In this Phase, we create structures within the company which systematically and effectively allocate powers and authorities. We deliver to the company a checklist which sets forth our proposals and solutions for the managers to consider.

Phase Three – Governing Documents

The managers will decide on our proposals and solutions which are set forth in the checklist. Drawing on the decisions in the checklist, we organize the decisions into written terms and conditions for the governing documents. Often, we render our Capital Formation Services at the same time as we do our Company Structure and Governance Services.

COORDINATING COMPANY TRANSACTIONS

Mergers, interest exchanges, and other company transactions require planning and due diligence services. We organize the transaction so that it can be conducted in an efficient manner. We identify the information which is relevant to the due diligence process and facilitate the exchange of this information.