Equity finance is a way of raising funds from external investors in return for selling a share of your business.
Social businesses trade their shares at par, meaning they do not increase in value and would be cashed in for the amount they were purchased.
What is equity investment?
Equity in a business is the capital that owns the business. The main stakeholders who are to have democratic control of the business can own the equity. Equity ownership outside the main group of stakeholders (typically investors) can cause uncertainty about who is in control of the business. Creating non-voting shares is a solution to this problem.
Advantages and disadvantages of equity finance
Unlike debt providers, equity investors do not have rights to interest or have to have their capital returned by a particular date. Equity investors in social business are long-term investors who earn a return on their investment through dividends.
Equity investment is riskier than debt finance. If a business goes into liquidation, all other money owed is repaid before paying the equity investors. They may expect a higher return than debt investors because of the greater risk. Social business investors may not have expectations of a high return when they put money behind the enterprise.
Equity finance for social enterprises
If your business needs to buy capital equipment or it has fast growth potential, equity finance may be a suitable solution. It’s also a great source of finance if you need significant investment in product and market development.
Sources of equity finance
There are a number of sources which offer equity finance for social businesses. These include:
- Community investment
- Development Bank of Wales
- Venture capital and business angels
- Family and friends
Difference between equity shares and preference shares
There are two types of share issues - private and public. Private means that you have to prepare a list of direct contacts and limit the invitation to buy shares to them. Public share issues entail a wider distribution. It includes a prospectus or a share offer with the status of the shares, what you will do with the money, the projected returns and the benefits.
A prospectus will be expensive to produce, as it needs considerable legal advice. A share offer document is a much cheaper solution for registered societies and community benefit societies.
The shares in a company fall into two types - ordinary (voting) and preference (non-voting). The latter are more likely to realise some of the investment if the company stops trading and goes into liquidation.
Withdrawable share capital is a unique form of equity for Registered Societies and Community Benefit Societies. Community shares is a term used for this type of equity.
What is the difference between loans and equity finance?
There are many forms of lending, such as loan stock, bonds and debentures, that mimic some of the features of equity. Yet, these may not be an adequate alternative, because:
- Bonds, loan stock and debentures grant no rights of participation in the organisation. This means they do not build a sense of community and membership in the same way as equity.
- Many people consider debt a liability. If it seems like no-one is willing to risk their funds on the business, it will be less attractive to other investors.
- Most loan stock, bonds and debentures have a date of maturity, so cyclical refinancing is necessary.
Equity in the form of shares is a secure, durable underpinning to an organisation. Take care that it does not place the wrong people in charge of decision making.
Learn more about the different types of equity:
Social business help and support from Business Wales
Business Wales offers a wealth of information, advice and guidance for business owners. Below, we’ve listed some useful resources on equity finance for your social business: