Partnerships and Equity

April 17th, 2006

My friend is running a small guesthouse in London and wants to expand her operations to a larger hotel. Her main concern is how to raise the necessary capital for the real estate purchase. Since she doesn’t want to sell her own property, her options seem to be limited to a bank loan or a partnership with another entrepreneur.
Since the interest payments for a loan would bump up her costs substiantially and she felt she would not have complete control over the enterprise with a bank breathing down her neck, she prefers the partnership option. With this, the biggest concern is that of sharing the equity.
Not willing to invest so much cash that might retain at least 51% of the equity and such the control, I suggested her another approach: Start with maybe 25% equity, but include a clause that entitles you to buying options of 30% in five or ten years – at the actual market price.
Such a move seems to be acceptable to me, as it gives certainty to the silent investor that his money is well taken care of and that he can remain part of the business if he wants to, while it also gives the opportunity to my friend of gaining back the control over the enterprise. Since my friend would be supplying the expertise (and all the work!) to the business, I think this is a fair approach.

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