Starting Up - How much of a % should I give to Investor?

[locoarts]

Hi there,

First I have posted this on Think Tank - but I wanted to ask here too!

Ok I was wondering if there is a standard percentage number per $10,000? Or whatever?

I might have a investor or two that basically wanted to get into the restaurant business. Nothing more then investing, they wouldn't have anything else to do with it, not even the concept. Its just a money deal. I'm going to be running it, its really my baby.

2 Questions:

1a) If someone invested $30,000 - How much of a percentage should I give up?

1b) If someone invested $100,000 - How much of a percentage should I give up?


2) Any Investor Stories/Horror Stories, things you wished you put in your contract? Anything that might help me with wording or not giving up?

[dms]

I don't have any experience starting a restaurant, but in other fields, the rule of thumb is "as little as you can".  (The investor, of course, is going for "as much as possible".).  A starting point would be to figure out what the various parties are investing, and base a percentage from that.  Don't sell your non-cash contributions short, whether it's the opportunity cost of your time, or your knowledge and experience, or the goodwill of having a reputation for making good pizza.  Also consider who's on the hook for costs of failing.  In the current business climate, a corporation with no history is not likely to get a loan or a lease without somebody, personally, signing a guarantee.

[GotRocks]

a fer percentage points over prime until the investment is paid back, then they are done and out of the business!

Partnerships between a food person and a money person most always get ugly real early on because the investors have unrealistic expectations of cash flow and the return on their investment.
If they are just taking the place of a bank, treat them as such. If they want to be part of the business for it's entirety, then there may be a different solution.

But most expect to loan their money only, never do a single minute of work in the place, but still expect the rewards of having a successful place that they call their own, and ride on your broken back to fame becuase you busted your butt to get there and they did nothing.

It is usually ugly,

[Puzzolento]

On the other hand, a restaurateur who loses all your capital feels no obligation to pay you back, even if his bad management was the cause of your loss. Investors take big risks, and that justifies the profits they receive.

[cranky]

 I have a lot of experience with investors, none with restaurants.  I have raised over $20,000,000 for different business ventures.  Investors look at ROI, return on investment.   It does not matter whether the investment is 10k, 100k or more.  They look for what their expected return will be in percentages and that is something you tell them in your business plan financial projections.  You need to manage expectations and under estimate how successful you think you will be.  Do not over promise.  If you don't deliver you can be sued for fraud, misrepresenting your prospects.  Risk is another factor investors care about.  Restaurant ventures are as risky as you get.  Risk and reward go together.  The more risk the more return investors need.  They also want to know what you are investing.  You will presumably be drawing some salary, meaning taking money out of the business before them.  So what are you investing?  What skin are you putting in the game, at risk.  Partner win together and lose together.  They are risking money.  What are you putting at risk?   Invetors like to have the managers running their investments have a track record of success.  Do you have any experience?  Have you been successful?  Is this your first restaurant ot 10th.  Why should any investor have confidence you will be successful other than you have ambition and make good pizza.  How will these investors get their money out of the deal?  Will they split profits if there are any?  They need to have an exit when they want to leave.  Will there be a buyout agreement?  What happens to them if you decide you are tired of running the place and find a better opportunity with a new girlfriend in Acapulco?  Who will take care of their business?   It is reasonable that investors ask for preferential treatment, like they get all their money back, before anything gets divided on a sale of the business.  Aside from how to treat investors, why do you think you will be successful, especially if this is your first pizza joint? 

[Puzzolento]

Seriously, if I can get 2% from the bank with zero risk, why would I give a pizza chef a large sum--knowing I would probably lose it--unless I expected to do much, much better? I'd expect to be paid like a partner, though I did no work at all. That's just the way stock works. Nobody in his right mind will give you a bank-style loan, for simple interest, with this kind of risk. The guy who takes the financial risk is really more entitled to the profits than the guy who does the work. This is why the owner of a McDonald's gets rich, while the manager drives a ten-year-old Corolla.

See the movie Fargo to learn all about this principle of finance! Special bonus: cameo by Jose Feliciano.

[Bill/SFNM]

See the movie Fargo to learn all about this principle of finance!

Yes, a wood chipper is a versatile kitchen tool for handling former employees, partners, competition, obnoxious customers, and large volumes of cheese. 


 

[Puzzolento]

You mean a horizontal-cutter mixer.

[Mo]

I have a lot of experience with investors, none with restaurants.  I have raised over $20,000,000 for different business ventures.  Investors look at ROI, return on investment.   It does not matter whether the investment is 10k, 100k or more.  They look for what their expected return will be in percentages and that is something you tell them in your business plan financial projections.  You need to manage expectations and under estimate how successful you think you will be.  Do not over promise.  If you don't deliver you can be sued for fraud, misrepresenting your prospects.  Risk is another factor investors care about.  Restaurant ventures are as risky as you get.  Risk and reward go together.  The more risk the more return investors need.  They also want to know what you are investing.  You will presumably be drawing some salary, meaning taking money out of the business before them.  So what are you investing?  What skin are you putting in the game, at risk.  Partner win together and lose together.  They are risking money.  What are you putting at risk?   Invetors like to have the managers running their investments have a track record of success.  Do you have any experience?  Have you been successful?  Is this your first restaurant ot 10th.  Why should any investor have confidence you will be successful other than you have ambition and make good pizza.  How will these investors get their money out of the deal?  Will they split profits if there are any?  They need to have an exit when they want to leave.  Will there be a buyout agreement?  What happens to them if you decide you are tired of running the place and find a better opportunity with a new girlfriend in Acapulco?  Who will take care of their business?   It is reasonable that investors ask for preferential treatment, like they get all their money back, before anything gets divided on a sale of the business.  Aside from how to treat investors, why do you think you will be successful, especially if this is your first pizza joint? 

Well said...

OP: come up with your own cash an you get to keep the rewards. Play with other people's money and expect to pay...how bad do you want it?   

[locoarts]

Yeah I do have a little chunk of money - probably what I need, I just wanted to ask a ton of different questions, just to see people's points of view. I do think Im going to do it on my own... but I will listen to what they want. Never bad to ask or see what people actually want.

But I do agree with really everything everyone has said here. Nice to hear others opinions/life experiences with things!

I did open something with a partner in the past and it was the worst. I could write a book on the nonsense I went through. So I am really gun shy with partners/other people's money.

[maximillan]

Hi there,

First I have posted this on Think Tank - but I wanted to ask here too!

Ok I was wondering if there is a standard percentage number per $10,000? Or whatever?

I might have a investor or two that basically wanted to get into the restaurant business. Nothing more then investing, they wouldn't have anything else to do with it, not even the concept. Its just a money deal. I'm going to be running it, its really my baby.

2 Questions:

1a) If someone invested $30,000 - How much of a percentage should I give up?

1b) If someone invested $100,000 - How much of a percentage should I give up?


2) Any Investor Stories/Horror Stories, things you wished you put in your contract? Anything that might help me with wording or not giving up?

Okay, well finance is my background....and for a long time.    Here's the deal-  a % of equity per $$ invested is not even the calculation.  Essentially, you need to look at the entire capitalization of the biz (that is, how much, TOTAL cash is required to run the business, based on VERY conservative sales estimates, for 12 months or more).   Let's say that's $75,000.   For the most part, that's the pie, and whoever puts money in (or portion thereof), gets that share of the equity pie.  Most prospective business owners find this harsh and hard to believe; but, it's true.  Cash is king.  "Ideas" and "sweat equity" matter VERY little.  Like I say, most prospective business owners don't agree; but, that's how it works.    NOBODY (except a total fool) invests cash unless they also control the business.  Othewise, the real owner could take their money and blow it, then say "yea, things didn't work out".   

If I were investing in a restaurant, and I was also puting in say 70% of the capital (cash), and the manager/restaurateur was puting in 30% plus his knowledge and work (since he'd be there daily) ...I'd demand 70% of the membership credits (assuming llc) , and 90% or so of the profits after the manager was paid very nominal fee for his/her work efforts.   I'd insert a clause in the agreement that said after a certain payback,  my ownership could be bought out by the manager member for $xxxxx.  That way, I'd be out of the business after I received a 25% IRR on my investment.  Or, I could stay in, but the "benefits" (profits) would be split more in favor of the manager.....maybe 20% for me, and 80% for him.  In that way, I'm still in, but since I've been paid back plus a nice profit, I'm only taking a little of the profits from here on out.   

Now, of course there are other arrangements, based on how savvy they the investors are or may be.  A very inexperienced investor may give money but  not take the vast majority of equity.  Also, family members often don't insist on agreements that are in-line with all financial and investment principals....but, they do happen.   Anyone with experience in finance and venture capital will insist on control and final say in the business (until they are paid back), plus an interest rate in keeping with the level of risk.    Zero risk pays 3% these days.  Low risk with collateral backing it up pays or costs 6% these days.   Most low collateral loans cost 10-12% these days.    A startup restaurant is probably in the 25-50% range in terms of expected interest, in order to compensate for risk.

Confusing or make sense?  Too "high finance"??

[ExPizzaGuy]

I think that the people who have the advantage in all of this are the individuals who can actually run a restaurant. If you can find an honest one, this manager or key person is worth his or her weight in gold. These are the keys to business. There are a lot of people with "money" to invest who are worthless. I wold rather skrimp and save before I got hooked up with one of them.

[GotRocks]

maximillan,

Thank you for shedding some light onto this subject.

I had considered taking on a private investor for a very short period, but I remember seeing other people doing the same thing, and the problems it had caused very early on in the life of the business

They guy with the talents busts his hump building the business only to see a large portion of those profits going to someone who has done nothing to help build that business,then they start to get resentful and angry about it. But they were too blinded by the chance of having a place to call their own to realize the bad terms they had agreed to.

I imagine myself using my talents, my proven recipes and building a business, and then seeing someone else hovering over me taking all the profits without doing a single lick of work to get the business to the level I have been able to achieve, and it would anger me greatly.
So that is why I have never wanted, or will ever do a partnership without a partner being in the thick of it with me.

Someone with 80% control only because they happen to have the needed cash, and no talent to add to the business besides that just looks ugly to me already.

If someone does go this route, I think you would be better off as an employee only, and to not share recipes or techniques with the money investor, that way you will remain an integral part of the business who cannot just be replaced and pushed aside after working so hard to get to that level.

It takes money to make money, very rarely does someone have the chance to build something from nothing.

[maximillan]

maximillan,

Thank you for shedding some light onto this subject.

I had considered taking on a private investor for a very short period, but I remember seeing other people doing the same thing, and the problems it had caused very early on in the life of the business

They guy with the talents busts his hump building the business only to see a large portion of those profits going to someone who has done nothing to help build that business,then they start to get resentful and angry about it. But they were too blinded by the chance of having a place to call their own to realize the bad terms they had agreed to.

I imagine myself using my talents, my proven recipes and building a business, and then seeing someone else hovering over me taking all the profits without doing a single lick of work to get the business to the level I have been able to achieve, and it would anger me greatly.
So that is why I have never wanted, or will ever do a partnership without a partner being in the thick of it with me.

Someone with 80% control only because they happen to have the needed cash, and no talent to add to the business besides that just looks ugly to me already.

If someone does go this route, I think you would be better off as an employee only, and to not share recipes or techniques with the money investor, that way you will remain an integral part of the business who cannot just be replaced and pushed aside after working so hard to get to that level.

It takes money to make money, very rarely does someone have the chance to build something from nothing.

Yea, you know, if it were me, I'd try to structure it the following way:


-  I'd let the money person contribute $________ in return for their share of the membership interest.  Let's say they put in 75% of the cash.  I'd then make it clear that I put in a significant capitalization, but that capitalization was in the form of "deemed capital" (my mojo,so to speak).   He'd own the majority of the equity, of course, since it's his actual cash.    Then, I'd put the operating agreement together where the money person received the lion's share of the profits or losses (some investors can also use "losses" to offset other income), until their investment was recouped.  Then, they still would receive a big chunk until they got paid an additional return on the investment.  After that, the "benefit" structure" would flip, in my favor.  Also, I would make a clause that allowed me to buy him out for $1.00, after he was paid back his investment, plus a ____% return (probably 20% IRR).  That way, the money person controls everything until he's paid back, plus receives a big profit.  Then, he's OUT....and the  place is mine.   He takes the risk...but get rewarded.  If things work the way I think they will, I will own the biz, free and clear, with little cash investment. 

Easier said than done.......but a decent structure.

[PizzaVera]

I know a couple of people who were given 25-30% of the profits without putting any money in!
the run the day to day operations of running the business they have the expertise so to speak.
not bad though, just being a chef and then getting 30% of the profits and a wage just because the money guy has no freggin clue how to run a shop!

if I was the money guy.. I wouldn't give away 30%.. 10 maybe.. NOT 30!

[PizzaFoodie]

I used to be a business broker & I helped people sell, buy, & invest in business, but don't take my word for it and speak with a local expert (many of them are FREE -- Talk to a local business college about Venture Capital investors. They usually have WONDERFUL resources).
Also, as good as this forum is, NEVER use it for legal advice. The price of a good contract lawyer w/ venture cap experience or a venture cap broker w/ approved contracts would be well worth your money. Budget about $1,000 to $2,000 for that. Have them draft the agreement, talk it over with the investors, mark it up, and have them draft the final to sign.

Honestly, I haven't read anything other folks have said, because I don't have the time, but here is the advice I used to give our clients:

You have to think like an investor to figure out if what you are planning would actually work.

1st, let me say, a BANK would give you a much better rate than the investor will.
2nd, don't take any funds from family, unless you don't like your family and are willing to break it apart.
3rd, How much you should pay an investor is directly related to RISK ("beta" in the investing world). The Higher the Risk, the more $$ the investor could earn. The Lower the Risk, the less $$ the investor could earn. With that in mind...

• An investor could put money in the bank & make 2% with NO Risk.
• An investor could put money in the stock market and make 8% to 10% on general low risk large cap funds, but 15% to 18% on moderate risk & aggressive growth funds. (good investors do this every day... I got an edward jones guy doing this for me right now)
• An investor HAS to make at least 6% to 8% per year on every dollar in order to stay ahead of inflation (or to break even over the long term)
• An investor can flip properties at an average rate of 20% - 30% over 1 to 2 years (depending on the market) -- this also has a moderate risk rating.

Venture Capital (by contrast) has a HIGH RISK rating. So expect to pay a lot more than any of the above investments... or why would the VC want to invest?

So here are the unique terms to agree on:
How long the $ will be tied up? (I suggest paying them off ASAP! -- priorities: IRS, BANK, VC)
How much (if any) % of the company they will require?
How much (if any) % of the company they will require in the event that you default on your payments?
And What is their return on their investment?

A general rule of thumb: never (unless the VC has VAST experience in the business) give up a controlling interest (Keep yourself at 51%+ if you can).
Other generalities:
If you keep their money for 1 year or less, expect to pay around 10% to 20% or more + a monthly % on the profits (agreed on by you and them with the consideration of RISK).
If you keep their money for 1+ to 2 years, expect to pay around 25% to 50% + a monthly % on the profits (agreed on by you and them with the consideration of RISK).

The biggest problem people run into: valuing their company! We used a national company out of Florida called GCF. They have the most inexpensive business valuations and venture capital valuations and you get a bound book with an explanation of the value. They are certified business appraisers and used by the small business administration, business brokers, VC's, and banks all over the nation. They are GREAT! (I have no connection with them, other than I used them with our clients). Put it in the contract that if you have to give up a % of your business, you will require an independent 3rd party business appraisal from GCF to determine the value of the business at the time of sale or buying them out in the future (or if they buy you out).

You may also need a partnership agreement.

I hope all of that helps. Above all, seek professional help before going VC.
GOOD LUCK!