WHAT TO CONSIDER WHEN RAISING PRIVATE EQUITY
By Numan Siddiqi, partner, Stradling Yocca Carlson & Rauth

Representing companies as they seek private equity capital has been a staple of Stradling Yocca Carlson & Rauth's practice since our firm was founded in 1975. We assist our private company clients in understanding potential investors' strategies, and in closing financing transactions on terms that are fair and complementary to our clients' long-term strategies.

When a company considers a capital raise, its board of directors and management should ask themselves these key questions:

• Will the financing enhance shareholder value?
• What are the investor's goals and are these goals compatible with our long-term strategy?
• Will the terms of the financing and the investor's on-going participation in our company facilitate future transactions, such as additional financings, corporate growth opportunities and/or a liquidity event?

Investors have multiple strategies at play when considering an investment. But you may find, through preliminary discussions and by identifying the terms most important to an investor, that investors often fit within one of three key categories:

The "hands-on" investor - A good fit for companies seeking professional expertise
A hands-on investor asserts an active role in the business and seeks to exert some level of control over management. Financing terms most important to this type of investor are significant representation on the board, broad investor protections including veto powers over significant business transactions, and the right to invest in future financings. A hands-on investor may also require that founders' existing stock be made subject to the company's right of repurchase until some future time or event, and may seek to reshape management in the future. A hands-on investor should help identify new business relationships and is likely to ensure future capital needs are timely met, often by making additional investments in the company and introducing the company to additional financing sources.

If your company can benefit from an investor's knowledge and expertise and its efforts to identify new business and investment opportunities, then a hands-on investor may be right for you. One note of caution: In the event a hands-on investor "abandons" your company in the future, the relatively stringent terms of its investment are likely to hinder your company's ability to attract new investors.

The "passive" investor - A good fit for companies seeking to retain management control
A passive investor primarily looks for a place to invest its money. Financing terms most important to this type of investor are dividend rights, conversion rights, anti-dilution protections and participation rights on future financings.

Since a passive investor is unlikely to exercise any meaningful level of control over management's decision-making, it is a good fit if current management seeks to retain control over the business. A passive investor is also unlikely to hinder future financings, but its role in securing new business and investor relationships may be limited.

The "exit strategy" investor - A good fit for companies seeking liquidity in the short-term
An exit strategy investor focuses primarily on short-term returns. Financing terms most important to this type of investor are liquidation preferences and redemption rights, and investor rights to ensure the investor can require founders to sell their shares in a sale transaction initiated by the investor and to require that the investor's shares be included in a founder-initiated sale.

If your founders are focused on a short-term exit, whether in the form of a sale or a public offering, an exit strategy investor may facilitate such transactions through its network of contacts and expertise. Keep in mind that because the exit strategy investor will have a liquidation preference, which is a guaranteed return on its investment in connection with a liquidity event, a sale transaction that it supports may not necessarily result in net proceeds acceptable to the founders. Also, an exit strategy investor is less likely to support future financings, which can delay the investor's own exit and result in its equity being subordinated.

Oftentimes, an investor may have characteristics of all three of these types of investors, rather than fall neatly into any one of these three categories. However, it is important to identify an investor's primary motivations for investing in your company in order to determine if that investor will be the right fit. Finding and negotiating the right fit also requires an understanding of current market conditions and deal trends and the ability to reach as many potential investors as possible.

Numan Siddiqi is a partner with the law firm Stradling Yocca Carlson & Rauth. He specializes in corporate and securities law, focusing on public and private securities offerings of debt and equity, venture capital transactions, mergers and acquisitions, secured loan transactions, and general corporate representation. Stradling Yocca Carlson & Rauth is a full-service law firm, and a leader in the corporate and securities law practice, representing the high technology and emerging growth sectors. We represent a diverse array of companies at all stages of their existence, from their incorporation to major corporate transactions such as financings, mergers and acquisitions and IPOs. We also represent a number of venture capital funds as they invest in new or existing companies. Our clients benefit from our guidance and counseling, and from our extensive network of contacts within the investment community in California and beyond. For further information, visit www.sycr.com or contact Numan Siddiqi at nsiddiqi@sycr.com.

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