subject: To invest or not to invest, that is the question [print this page] To invest or not to invest, that is the question
To invest or not to invest, that is the question.
People want to invest in businesses in hopes of collecting awesome returns. Business decisions are made based on calculated risks, and these calculated risks consider many different factors. My goal is to simplify what factors are taken in to account when making investment decisions in small or large businesses. Also, I want to create awareness for entrepreneurs that seek financing. Firstly, it is important to understand the terminology used in making investment decisions. It is important to know what an investor asks for. An investor always wants to understand how much of a stake will be granted, how much he or she is willing to pay for that stake. The stake directly links to the return that is being expected from the business. For example, an investor wishing to purchase a small business could ask for a 20% stake in the business for $200, 000. This means the investor wants to own 20% of the company, and the investor would pay $200, 000 to receive this equity ownership. This also gives the investor access to 20% of any profits that are made.
Before any investor jumps the gun, he or she will consider many aspects before any decision is made. Firstly, the investor has to like the business concept, the person has to be attracted. There has to be a sense of passion for the product being bought. Before details are considered, there has to be liking to the brand of business. The investor will also look at the business owners' pitch, how clean and well presented it is. A product worthy of an investment will need a partner that is easy to work with. This is important because good business relations will contribute to the overall profitability. Good business relations also create long term bonds between people.
After finding interest, the investor will then want to scrutinize the numbers of the business. If any, how much profit is the company making? How much is the company turning over. Not only that, there will also be expectations for the business owner to know future profits that are expected for the company, as well as future turnovers. This will give the investor an idea on the confidence of the business owner, if the owner will do exactly what he has set out to do. When the owner has made this information available, the investor can build an opinion. The investor will begin to formulate how risky the investment will be and what is the growth in return. The investor can make predictions whether the return is large enough to compare with the financial investment being made. A cost-benefit analysis will help determine if the business is worthy of an investment. The balance sheet will also be observed, this will help potential investors determine the debt to equity structure, while also finding out about the assets being offered from the company. Assets that may include warehouses or machinery.
The business owner will also need to make it clear as to what is going to happen with the money being invested. Where is it going to go and how are the resources going to be allocated. This will give the investor a chance to ask questions about the operation of a business. How is the company directing funds for marketing. How much is being spent on salaries and supplies? In other words, where is the money going? The investor wants to be sure that the business owner is not reckless with his or her spending. The investors want to make sure the money is being allocated efficiently. The investor does not want to "throw-away" the money, the worst situation would be that he or she keeps spending money, only to have the business lose it. Forcing the business owner to keep coming back and asking for more money from the investor. This is why its important for the investor to find out the business owners' skills in money management.
There are other implications an investor has to consider, these are specific details about the history of the owner and the business itself. The investor wants to find out about the owner as much as possible, the track record he or she may has with other business dealings in the past. The investor is putting his money in to the business, it is his or her right to find out this sort of information. It will help build confidence in the investment decision. The investor wants to know about any bad credit history, any failed businesses in the past, or even if there are any outstanding loans. It is also in the investors' best interest to find out about patents that the company owns. If the business has come up with an idea, it is important that a patent has been granted in the countries the company is operating in. Pending patents in other countries will show potential to expand in to other markets in various regions. Granted patents will increase the value of the business and create less risk. When a patent is not granted, there is still opportunity for others to take the idea and steal market share, creating further competition.
Once the investor has considered these factors, an investment decision can be made. It is important that the investor is comfortable with making the decisions. Once the decision is made, the investor has the right to do routine check-ups on the progress the company is making. The amount of time an investor puts in to the business is related to how much stake he or she receives. A 50% stake means equal ownership between the investor and owner, this would mean the investor will play a large role in all future business decisions. There is equal control. A stake above 50% means the investor has more control over business decisions. Cooperation between parties is essential once the investment has been made. It is in the best interest for both the business owner, and the investor to create future gains for the company. This means both parties must be willing to put in the right amount of effort to make it work.
Written by Basim Mirza
Sources Used
Ernie Buise. Acadia University. Class Lectures (Spring 2008).
Tony Gale. Acadia University. Class Lectures (Spring 2008).
