Equity and Royality Agreements

 

 

 

 

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NBIA Review


Volume 13 No 2                                                             April 1997



Byron Gilman (left), founder, SurvivaLink Corp., and
Harlan Jacobs, president Genesis Business Centers Ltd.

 

SurvivaLink Corp.,
a graduate of the Genesis Business Center, is one company that felt trading equity for services was a profitable exchange.

 

by Nanette Kalis

On the balance books, equity and royalty arrangements between incubators and their clients make sound fiscal sense. For the incubator, these agreements represent a source of funds independent of rents, subsidies and income from services. For young companies, they provide a way to conserve cash by trading future revenues or a percentage of sales for incubator services they need now.

Taking equity in a client company usually involves obtaining part ownership of the company or drawing up a stock warrant agreement that gives the incubator the option for part ownership in the future. Either way, equity is a deferred payment. The incubator gives its services now with the understanding that it will receive cash down the line when the company goes public or is acquired by a third party. This can take five years or longer.

"They can use their stock as an alternative currency and save their capital for other things that are crucial to the business, Harlan Jacobs, president of the for-profit Cenesis Business Center in Columbia Heights, Minn., says of equity deals. As an added benefit for the client, Jacobs notes that because Genesis has a stake in the company "we want to do everything we can to make them successful. We want those 10,000 shares to be worth something."

A royalty agreement provides earlier benefits to the incubator. Instead of becoming a stockholder, the incubator gets a percentage of the company's sales. Royalty agreements can have a wider application than equity because a company need not sell out or go on the stock market; it simply must generate gross sales.

Not every incubator or their clientele is positioned for equity and royalty agreements. Those that are recognize the potential downsides. Incubators don't know what these deals will yield and when. In equity agreements, if a company flounders, the incubator may have traded valuable services for "colorful pieces of wallpaper," in Jacobs' words. Still, Jacobs and other incubator professionals insist that the risks of equity and royalty arrangements can be lessened if the deals are structured properly.

"You can't eliminate risk," Jacobs says. "But you can manage risk."


For more information about business
incubation visit the
NBIA web site.

 

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