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Why Private Investor Funding?
Raising capital privately is a common source of early-stage
research and development funding. The reasons are similar
to those that motivate self-funding. Private investor funding
allows remuneration of employees at market rates but at the
cost of relinquishing a degree of ownership and control over
the company and decision-making. Private investor funding
is an umbrella term for types of funding that do not involve
securities listed on a public stock exchange, and so includes
selling private company shares in a number of situations:
the three F’s (family, friends, and fools), other private
offerings in defined increments at defined terms in one or
more tranches, , and .
Raising Capital Privately While
Retaining Control
Share ownership issues can be especially troublesome for start-ups
and early-stage companies because share values are extremely
difficult to determine: they are often completely dependent
on the future development that the financing is being raised
for! The potential private investor funding provider needs
to be concerned about future funding sources over the course
of the development in addition to the technical and “normal”
business risks, and may demand a high risk premium (i.e. a
large percentage of the total shares) for his investment.
Often warrants for optional future share purchases can be
worked into the equation to help defray some of that premium.
The timing and the pricing of the warrants has to balance
investor expectations with the anticipated progress of development.
The matter of control may be a significant issue as well.
Depending on how the overall share ownership has been structured
as part of the private investor funding process, if key developer(s)
/ shareholders manage to retain a controlling interest alone
or in a like-minded block, control over the future course
of development may not be problematic. The longer the course
of development, the larger the total development cost / capital
flow, and the greater the number of unforeseen roadblocks
encountered, the more difficult to retain control.
Private Investor Funding is
Preferred for SRED Implications
From an SR&ED viewpoint, raising capital privately (other
considerations aside) is preferred to the “going public” route
because (if ownership is primarily Canadian) it is more likely
to keep your company in the category of CCPC or “refundable”
(versus “non-refundable”) claimant. This means a fundamental
difference in the SR&ED tax credit structure: 35% of project
SR&ED costs are paid to you in cash as compared to 20%
of SRED costs offset against income taxes otherwise owing.
As a start-up or early-stage company with little or no current
taxes, the non-refundable SR&ED tax credit is of little
current value and unknown future value. TSGI can assist you
with these and other considerations.
Tax-free capital gains rollovers for small business investors—investors
can defer the taxation of capital gains on small business
shares, up to certain limits, if they reinvest the proceeds
of disposition in other small businesses. An overall lifetime
$500k ($750k after March 19 2007) exemption applies. This
can be a fruitful strategy for serial entrepreneurs / inventors.
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