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I found an investor, who is ready to invest seed capital ( about $ 100,000 )into the company. But she wants to invest it, in the form of a Loan ( payable back with an interest rate slightly better than market rate, within 1 year), and she wants a total of 20% of share in the company as well. ( 10% for agreeing to invest the money in this startup, and 10% for some consultation that she can provide in the beginning and throughout the course of the company.) By having this 20%, she wants to be a Member of the Board of the company, without any active help in the company. ( She is a lawyer, and so she can assist with creating contracts and agreements. She can also help with the local language, in which I am still not very fluent. She also has good experience with the local tax system, and may be able to guide the company in these regards. )

All the idea is mine, and I have invested 1 year in developing it, and creating all the Business plan, Market Research, etc. The seed capital would be used to develop the software and services necessary for the operations of the company, and which form the core part of the company.

Do you think this amount is too much? I am not in a position to invest much into the company, and I really need an investor. (My personal investment would be not more than $ 5000 ) What is a good estimate for her contribution?

Update / response to the answers provided :

The company will be a Limited Liability company. The Loan was to be made to the company. And, yes, I confident enough ( even if I think very pessimistically) that the company will pay back the money, in less than a year term. But to start the company, I need to invest in IT ( computer software, hardware, and Telecom), hire employees, and other startup expenses. I am able to invest only $5000 from my pocket. Thus, an investor is very crucial. I tried renegotiating with her, and she made me a request for 20% share for $70,000 in Equity. ( No loans anymore).

But here, the IT person, who will design and create all the IT infrastructure required ( including websites, and computer algorithms), which is necessary for the entire project to function, now requires some shares in the company, for his work. He doesn't want money, but is more interested in shares in the company. I estimate his work to be worth $30,000.

Now, if the investor values the company at $ 350,000 ( $70,000 @ 20%), then the IT person would be receiving about 8.5 % approx, for his contributions. This leaves me with an ownership of 71.5 %.

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She is setting a valuation of your company at between $500,000 and $1,000,000. If that sounds fair to you and you can live with her terms then great - if not then work out a different agreement. – TimJ♦ Aug 11 '11 at 20:03
The $100,000 will be invested in the form of a loan, which the company will have to repay within 1 year with interest. ( which is possible on pessimistic forecasts as well ). She additionally wants 20% share in the company, because she likes the idea, and is optimistic about its future growth.( The idea is to start the company with a share capital of $15,000, where I contribute $5000, and she contributes the rest. I still don't know how to reduce her share level to 20% from this.) I showed her the Forecasted Financial statements, which show a net profit at pessimistic levels to be 10 times. – Kumar Aug 11 '11 at 20:18
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I misread that part about the loan. I don't think that is a deal I would take - either she gets paid from the loan or she converts the loan to shares. Not both. If it is a convertible note then it might still be good. Only you can decide. – TimJ♦ Aug 11 '11 at 21:35

3 Answers

up vote 1 down vote

I agree with Tim, the deal seems a bit one sided from my standpoint.

If she wants to be an investor, and share in your success, give her the 20% of your company. That's a pretty generous investment. However, if she's not willing to take a risk with you on the company, she shouldn't be given an ownership share with you.

Though, if you do think she'll provide significant value to the business, you can negotiate an ownership share with her, but 20% of the company seems high.

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up vote 2 down vote

She's not investing the 100K, she's loaning it to you... and I could understand equity if it was an interest-free loan but it's not! If you pay back the bank after buying a car/house, they don't own any of it once it's paid off!

So you could borrow money from the bank (or other for of Other People's Money -- OPM) that you would pay interest on. If you think she would be a useful advisor then maybe look at 5-10% for the consultancy part. That's it.

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up vote 0 down vote

You could take into serious consideration this offer if:

  • The company has a limited liability
  • The loan is to the company and not to you personally
  • You are confident enough that the 1 year term would allow the company to repay the loan without problems (and it is clearly stated that the investor can't ask the money back before the end of that term)

If those three conditions are met, and if the company fails, the investor is going to lose her money even as a loan. If they're not, you would take all the risks on yourself and she shouldn't get any stake in the company.

If the conditions are met, you should then consider what that money and the investor's advice would mean to your company, and which your alternatives are.

You can estimate how much your company is going to be worth in one year in these two basic scenarios:

  1. Without any outside money; let's call this W1
  2. With 100,000$ to use and the investor's consultancy; let's call this W2

Let's also call D1 your company debt to the investor after one year; D1 = 100,000$ * (1+interest rate)

So your stake in the company after one year would be worth, in those two scenarios:

  1. W1
  2. (W2-D1)*0.80

So, accepting her offer would bring more value to your stake in the company in one year if (W2-D1)*0.80 > W1

If you have any other offers of investment, or possibility to borrow money for the company (not for yourself as an individual) you can make the same comparison and choose which way to go.

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The company will be a Limited Liability company. The Loan was to be made to the company. And, yes, I confident enough ( even if I think very pessimistically) that the company will pay back the money, in less than a year term. – Kumar Aug 15 '11 at 9:00
Well, then if you don't have better alternatives and the expected return (using the formula) is good enough for the risk of accepting the loan, I would accept the offer. – danmaz74 Aug 17 '11 at 22:16

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