The decision to make an investment is a complex and stressful decision. At stake could be your life investment and you can’t afford mistakes or even the trial and error approach.
Each investment case has its own merits, but generally speaking there are clear risk/reward trade offs in your investment decision. If your risk appetite is high, which means you can afford higher risk, then your expectation for a reward and ROI is high. However, if you can’t afford higher risk then you need safe landing investment that at least guarantees your minimum expectations.
Therefore, we would like our entrepreneur investors to understand the difference in business acquisition and equity investment in the context of risk/reward exposure.
In business acquisition the risk profile is always related to the performance history of the business, and its market condition/trends in general. If the investor has less knowledge of the market (like investing in a new country), or in a field that is not well familiar with, then we encourage our investors to examine closely the option of equity investment, it offers more flexibility and options for the investors.
In business acquisition you buy tangible and intangible assets, but you also buy liabilities, we always encourage small investors, if they have to make an acquisition, is to buy an established profitable company, that is reasonable to manage and has a potential for growth, and also help them to make their visa approval case. However, it is difficult nowadays to find all that in a small company, even if the price is little above average. Usually companies with such high performance are sold at 5-7 multiples of Seller discretionary Income (SDI), and in technology sector it could sell even for higher multiples.
In contrast, when you invest in equity (specific shares) then you have many options and stipulations to reduce your risk exposure and help you gradually manage and grow your assets. For instance, you can offer to buy 25% equity in a successful company, which gives you a seat on the board, and possible full time job. You can also stipulate an option to buy-right for additional shares to become a majority owner, or buy later the whole company, this gives you lots of leverage and reduce risk of buying something that is partially unknown to you. In this case, you give yourself an additional time to understand and decide for your best interest and help you build experience while sharing management.
This preference of minority share proposition is especially suitable for foreign investors into the Nordic region, and offers them many advantages over one step 100% company acquisition. The table below lists a summary of risk/rewards for the two investment as it relates to a foreign entrepreneur investor.
Partial Equity Investment
|High risk/reward profile at high cost
|Low risk/reward profile, at lower cost
|Management and know-how challenge
|Gradual know-how transfer of knowledge
|Full Time management with possible income
|Minority shareholder with employment income
|Difficult to divest or liquidate if non-profitable
|Easier to sell shares with minimal investment loss
|May consume all investment cash (one basket)
|May allow for more liquidity as a safeguard
|Self-employed is more challenging for visa
|Easier visa if full employment is offered
By: Sam Jobara Ph.D.