Step 3 – Invest Only If The Risks Can Be Mitigated
In my previous blog, I shared step 2 of my suggested three step approach to investing in a business -which dealt with the key questions in assessing the financial performance of a business. (If you missed it, click here).
This month, I delve further into Step 3, which involves assessing the investment risks and how to mitigate against these risks.
In any business investment there is always a risk of loss, however an investor, through a well drafted shareholders agreement, can mitigate against some of the investment risks.
The failure to prepare and sign a shareholder’s agreement has resulted in many shareholder and director disagreements. It is easier to regulate the business relationship at the start than when issues arise.
Here are the key questions you need address:
• What is the provision of information obligations covering shareholder & director meetings, access to business information and structured management reporting? Access to reliable information will enable the investor to monitor the performance of the investment and identify issues early.
• What is the notice period and quorum for shareholders and directors’ meetings? This will ensure a representative number of attendees at meetings and that decision made are approved appropriately.
• What are the decision limits of the executive management with respect to employee appointments, salary changes, liability changes, asset purchases and expense changes? Decision limits protects the investor from any adverse decisions that could affect business by making material decisions subject to shareholder approval.
• Is there a formalised dispute resolution process to handle disagreements? Provides an investor a mechanism to resolve any disputes that may arise in a cost effective and mutually beneficial manner prior to costly legal action.
• Does the shareholders agreement address the future funding requirements of the business and how funding will be raised from third parties and existing shareholders? Clarity will ensure fairness when shareholders contribute funding in proportions other than their current shareholding percentage. Could result in interest being paid to those shareholders providing funding or a shareholding dilution for those shareholders unable to contribute additional funding.
• Is there protection for minority shareholders in terms of the sale of the business or shareholding changes including a first right of refusal on material business changes?
Creates an obligation for minority shareholders to be involved and tag alone with respect to any offer made to major shareholders.
These are some of the main questions to be answered to determine the investment risks of the business investment.
This concludes our series relating to our suggested three step approach to investing in a business. Sun Advisory can assist an investor in assessing the financial performance of the business and future projections. Contact us to discuss your requirements.