I have blogged a few times about equity splits, pre and post money valuations and to be focussed on the end value of a stake rather than the emotional ‘percentage’ when capital raising (for example alignment of interests). However in a recent blog post (I doubt it’ll be a majority stake) I made the point that control is an important issue to bear in mind in all circumstances.
‘Control’ doesn’t necessarily have to mean a majority percentage of the business or of the overall voting rights. It is still possible to have control with a minority stake. The key is to keep an eye on the thresholds and the make up of the shareholder base that together can force through a decision. These are usually determined in the Articles of Association, Shareholder Agreement and other legal documents adopted at the time of any investment and normally surround individually documented issues such as change in directors, significant capital decisions (sale, debt etc…), strategic shifts and so on. Basically the biggies that are going to be unpopular (for someone), transformative or substantial.
A common threshold at which decisions can generally be pushed through at shareholder level is 75% – though this can vary. Critically therefore any shareholding below 25% does not necessarily need to be included in a count and therefore cannot prevent actions from being taken. On the flipside any shareholding above 25% is required to be counted in order to take a decision and force through/approve an action. A substantial amount of control is therefore retained at anyshareholding level above 25% (i.e. not a majority of the equity) and lost below. Clearly if the threshold is 80% then the control stake starts at anything north of 20% etc….
My advice therefore is to very carefully consider the decisions/actions documented in legal agreements that are related to a threshold vote and to think carefully about the constitution of the shareholder base in light of how they might act (differing agendas, pre-existing relationships etc…) and to consider the management (either as an individual or as a group) influence on that decision process.
Now inevitably there will be circumstances where the management stake may fall below 25% either as a group or as individuals. Hopefully only in positive circumstances. If this is required to raise capital and/or seal a deal then so be it the risk should be worth the cost (or you wouldn’t do it). Just make sure that the all the documented voting decisions get specific focus and that you carefully consider ones where you might want specific control (e.g. getting it documented that management must constitute a percentage of the vote for it to be valid in addition to, or included in, the threshold or other such mechanisms).
In summary: firstly control does not require a majority, secondly be very mindful and cautious of the documented ‘voting’ decisions and management’s influence in those – you can be sure that a canny investor will have gone through the thought process on how their vote effects outcomes. All in all you are seeking to get balance whereby all key stakeholders have the right degree of influence based upon their import to the business/risk being taken and that a single faction cannot get disproportional control compared to their rights within the company.