There are essentially two forms of finance available to companies – debt finance and equity finance. Equity finance can be described, quite simply, as the issue of new securities by a company, to investors, in return for funding. This article is intended to provide a ‘101 guide’ for entrepreneurs and founders of start-ups as to the steps that they need to take, in order to “get your house in order”, before approaching potential investors.

Part 1: Preparing for the capital raising process

There are essentially two forms of finance available to companies – debt finance and equity finance. Equity finance can be described, quite simply, as the issue of new securities by a company, to investors, in return for funding. This article is intended to provide a ‘101 guide’ for entrepreneurs and founders of start-ups as to the steps that they need to take, in order to “get your house in order”, before approaching potential investors.

One: Appointing trusted advisors (corporate and legal)

a) Corporate advisors

The primary role of the company’s corporate advisor is to coordinate the capital raising process and strategy. This will involve things such as identifying prospective investors who may have interests that are aligned with the company, assisting with the overall management of the capital raising process, and determining strategic responses to challenges that may arise throughout the capital raising process.

b) Legal advisors

The legal advisors appointed by the company will generally be responsible for drafting and negotiating the key transaction documents (eg non-disclosure agreements, subscription agreement and shareholder agreement), and advising on regulatory and compliance related matters.

Two: Consider what you want the company’s share register to look like post capital raising

Before commencing the capital raising process, careful thought should be put into what the share register of the company will look like once the funds have been raised and the capital raising is complete.

Some companies may prefer to seek out one or two large sophisticated or cornerstone investors whose existing commercial interests and strategies may be aligned with those of the company raising funds. Larger investors are likely to have greater bargaining power in relation to the terms of their investment, which may include a right to appoint a nominee director to the company’s board.

Other companies may prefer to raise funds from a wider group of smaller investors to retain a greater degree of control over the company, both at shareholder and board level.

The information memorandum, or IM, serves as an important marketing document in the capital raising process as it is the first thing that investors will review when deciding whether to invest in a company.

An information memorandum will generally contain less detailed information than a prospectus and does not need to be lodged with ASIC. That said, an information memorandum will generally include some information that you would expect to see in a prospectus, including:

  • background about the company;
  • information about the industry and market;
  • financial information (historic financials (if any) and/or forecasts);
  • information about the board and the key management team; and
  • business plan and proposed use of funds.

The content of the information memorandum should be carefully reviewed to ensure that it does not contain any misleading or deceptive statements that may expose the company and directors to legal risk.

Before issuing an information memorandum, a company should seek legal advice to determine whether a prospectus is required because of the proposed structure of their capital raising.

In order to attract investors, a company will often be required to disclose highly confidential, market sensitive information to investors to allow them to conduct due diligence on the company, as discussed below. Before disclosing such information, a company should ensure that each recipient has signed a binding non-disclosure agreement (also known as a confidentiality agreement) to protect that information.

Five: Get ready for due diligence

Before deciding on whether to make an investment in a company, potential investors will generally want to conduct a due diligence process.

Due diligence is the process that investors undertake to familiarise themselves with the company’s corporate structure, business and operations and to determine whether they will make the proposed investment. This will generally to include a detailed review of the assets of the company (including any intellectual property) contracts with all key customers and suppliers, employment contracts, restraints that apply to any key persons and any regulatory authorities or licences that the company may be required to hold in order to conduct its business.

A company should seek assistance from their corporate advisors and lawyers to ensure that the relevant documents that investors will likely want to review during the due diligence process have been signed and are readily available for review.

Six: Set up electronic data room

An electronic data room is the online platform to which a company will upload the key documents for investors to review as part of the due diligence process.

An electronic data room is populated with the company’s material contracts and documents including corporate information, contracts with key customers and suppliers, details of all registered and unregistered intellectual property, employment agreements, related party agreements and financial statements. The online data room allows the company seeking to raise capital to provide key information to prospective investors in a controlled manner that can be easily monitored and in a way that helps preserve confidentiality.

Seven: Go to market to seek out investors

Once these steps have been complete, the company will be ready to approach potential investors. This usually starts by providing potential investors with a copy of the information memorandum. It is critical to have appointed a team of trusted corporate advisors and lawyers to assist with this process.

Your corporate advisor and lawyers will be able to guide you through the process, but if you are successful in finding one or more investors, the likely next steps in the process will be:

  1. negotiate the terms of a shareholders’ agreement with the investor(s) before signing;
  2. negotiate the terms of a share subscription agreement with the investor(s) before signing; and
  3. receive the funds from the investor and issue the new shares in the company.

Our next article will discuss the disclosure regime for capital raisings including guidance on when a prospectus will be required and the content requirements for a prospectus.