How could this partnership look like?

[Wolf]

Hello,

i have a question regarding partnership and shareholding.

Following situation. I want to start up a business and therefore I need 250k startup budget. A friend of mine is willing to invest in this business and wants shares.

Now my questions: The money he is giving me is handled like a normal loan, isn't it? And on top he get's shares of the company, but how much?

Let's say everything is done and the business is running, does a shareholder get a part of the monthly profit or does he just own a part of the company without earning monthly income?

I have no clue about shareholding and I would appreciate if someone could explain how that would look like.

Thanks

[IanF]

You need to do a business plan with financial forecasts. This can then be used to value your company. Then from there you can work out shareholdings. You will need a shareholders agreement where salaries interest and repayments are spelt out. For 250 K investment I suggest you contact an auditor or CA who can give you professional advice.
This is not an easy thing so sit down with your friend and then get the professional advice.

[Wolf]

I do have a very detailed business plan already.

From what you are saying I understand that a silent shareholder also gets a salary?

Doesn't make sense for me. If I buy Microsoft shares I don't get anything either.

Business Partners would handle such a case like this: http://www.businesspartners.co.za/Products.htm (see Risk Partner)

[duncan drennan]

Normally directors would get salaries, and shareholders would get dividends. Unless he is working for the company (e.g. as a director) he shouldn't be getting a salary. I think the salary that Ian is referring to is your salary (there needs to be some sort of agreement about what it will be).

Working out the share split will be up to you and your friend. Dividends are normally paid out only after the financials have been signed off at your AGM.

There may be tax benefits if he is appointed as a director, as you would not have to pay STC on the dividends (although this is in the process of changing), and could receive his "dividends" as a salary and just be taxed at his nominal rate. Depends on a bunch of factors.

[Wolf]

The business partner would have absolutely no function in the business, he is overseas. Since I am not South African and I have no chance to get a business loan, he would be willing to help. Besides the normal loan he would give me he would get some shares.

Since he is not actively involved in the business he doesn't get a salary.

My problem is that I don't exactly know what to offer him so it makes financially sense for him to lend me the money.

I think the best thing would be to do it as Business Partners (the company) would do it. Giving me a loan, getting some shares as part of the risk, and I buy the shares back after the loan is paid back. No salary, no dividends.

[Dave A]

I think the best thing would be to do it as Business Partners (the company) would do it. Giving me a loan, getting some shares as part of the risk, and I buy the shares back after the loan is paid back. No salary, no dividends.

...and interest at a fixed rate payable on the loan over an agreed term. That would be about right.

Just to point out that you, as the active partner, will be entitled to a salary, the amount of which should also be agreed up front.

[IanF]

The reason to discuss salaries interest etc is so that the partners are treated fairly. Eg Are you going to work full time what do you expect as a salary, are you going to draw all the profits as a salary. All you want to do is lay out the rules of the partnership before it is consummated. You might feel you are worth r100K a month but the business might never be able to afford that. You must sort the detail out upfront with an agreement it can change as circumstances change. Think about the worst case and then plan for that in the agreement.

[Wolf]

...and interest at a fixed rate payable on the loan over an agreed term. That would be about right.

Yes, I calculated 15% over a period of 5 years.

Don't know what my salary will be, what's actually the reason of doing that? I mean all the profit is actually my salary, isn't it? Or does it have any tax benefits? I do understand the reason if it's a real partnership though where both partners are working for the business. But in this case it isn't absolutely necessary, is it? But these questions has my accountant to answer anyway.

I thought about offering him 20% shares, so he has actually no power over the company but still a fair amount. You must understand that he is a friend of the family for a very long time already and he is more a less doing me just a favour. I don't like giving away shares at all, I will try to negotiate that he just gives me the loan, maybe for 20% interest or so. Would be so much easier.

Thanks for all your answers! I am starting to get the picture.

[Dave A]

I do understand the reason if it's a real partnership though where both partners are working for the business. But in this case it isn't absolutely necessary, is it?

Do yourself a favour. Think of it as a "real partnership." It will sharpen your mindset.

Small things can undermine what looks like a perfectly good arrangement. Separate the various parts.

There is financing. It comes from capital raised in shareholding and loans.
There is the work. That is bought through salaries. Sure - keep the salary low until the profits can sustain more, but it compartmentalises the parts.

Even when I was a one man business, I still saw my activities as 4 departments. It is all part of defining the related parts of the whole and reducing the potential for ambiguity and misunderstandings.

This becomes even more important when there are other factors such as family or friendship connections involved. Separate the business mentally from those sorts of social connections and you will have fewer misunderstandings. I know in this instance it is what opened the door, but once you step through, both sides will appreciate a clear business approach to things over time.

[Karenwhe]

If you want to get a ideas and a bigger picture view on how stuff like this works, I would suggest you research the term : Angel Investor on the internet. It is not a term often used in SA, but it is what you are trying to achieve with this person.

You will find loads of examples. Some of active angels some passive. You will also find ideas on what such people that invest money in a small business are looking for and why (this will help you compile something that this person will find value in).

You will get ideas on exist plans and choose one that is appropriate in your case for both parties (there are many options to consider here).

You will find links to VCs (venture capitalists) amongst those (stay way from that term), these people are more like bankers and don't help small businesses and therefore the data is not relevant, tough often it looks relevant.

Once you get all the ideas that you can to better understand, I would also say you would need to move to a basic few points agreement with your new partner. Then once you both are clear on what you wish to achieve and more or less how, then you will need legal advise. I would also say that if you go to a legal person and pay them money to help you without being very clear on your deal with your partner, you may find the deal breaks down and you are left with the legal fees to pay the attorney. So going about in the correct chronological steps will save you a huge amount in legal fees to put this thing together.

Only one more small point. You will most likely find examples of contracts on the net. Please do not use them to cut corners on paying legal fees to draft a contract for you and your partner. I have seen people do this and modify such documents to their needs, it is very bad practice for obvious reasons.

Hope this helps.

[Wolf]

I understand that Dave. Everything must be clarified, ESPECIALLY if family or friends are involved.

I just received an email from an investing company. I asked them how financing would look like. Their finance is in the form of a term loan over 5 years at prime related rates, plus a monthly royalty % on turnover. If they do decide to take a shareholding, it will be between 26% and 49%. But usually they don't take a shareholding in such small businesses if they don't expect huge growth.

So I will let my investor know how they would do it and we just follow their example. This is what he intended to do anyway. And it makes life so much easier without giving shares away. Refused to do that with my last 2 businesses as well. (ok, that was much easier since I! was the one who had the money and decided what's going on :-)) Things changed quickly, oops. Whatever, wasn't my fault though

My investor would get back a total of approximately 750k after 5 years. That's 200% profit, which is definitely a fair deal.

[Wolf]

If you want to get a ideas and a bigger picture view on how stuff like this works, I would suggest you research the term : Angel Investor on the internet. It is not a term often used in SA, but it is what you are trying to achieve with this person.

I published my idea on an angel investor network site already and 3 people contacted me so far. I would have to pay to get their contact details, which I don't want to do yet since I first wanna wait what's gonna happen with my existing investor.

But I'm positive everythings gonna work our peacefully since we would do it properly with an attorney and customised contract.