Relevée is a fine jewelry design and manufacturing company that provides a pathway to complete independence for some of the world’s most vulnerable women including survivors of human trafficking, domestic violence and child marriage.
Relevée was started by, and is spinning off from, the nonprofit social enterprise Made By Survivors. As a for-profit social enterprise, Relevée is able to pay professional wages and generate high margins by merging artisanal techniques with sophisticated business processes and manufacturing technology.
But like many high-impact enterprises, there’s not a clear path to an “exit” that would pay off for Relevée’s investors.
Join the webinar, “Flexible Redemption Preferred Stock – An Alternative to Equity,” Wednesday, Jan. 20, 2015, 11:30 am EST. To join the meeting, click this link.
At the Opportunity Collaboration last fall, a group of investors and social entrepreneurs engaged in a series of conversations to address the common dilemma facing impact investors who are considering equity investments. In the current market there are not enough equity exits. Therefore, social equity investors do not have a mechanism to realize equity-like returns commensurate with the risks inherent in early stage social businesses., which limits the ability of companies to raise capital.
While there are some existing alternative structures, a close look at those structures revealed significantly negative tax consequences. The default “next best idea” for financing social enterprises is debt or convertible structures. However there are often significant problems with debt, notably lower returns for investors and the fact that it is difficult to structure a predetermined amortization schedule that is flexible for the company – especially in the first few years of growth. A convertible note has a yield, but the investor wants to get most of their return when it converts to equity, which leads to the problem of limited equity exits.
Alternative financing structures often encounter a tax problem created by the IRS’s Original Issue Discount Rules. Structures like Revenue Royalty or Variable Payment Obligations (sometimes known as Demand Dividends) are subject to these original issue discount rules (for tax geeks, they are required to use the Noncontingent Bond Method of accounting). The net result is that in the early years of an investment investors pay taxes on income that they have not, and may never receive.
Led by Ron Boehm of Boma Investments, and with help from Womble Carlyle Sandridge & Rice’s Impact Team, the conversations resulted in the creation of a new structure , “Flexible Redemption Preferred Stock.”
Join the webinar, “Flexible Redemption Preferred Stock – An Alternative to Equity,” Wednesday, Jan. 20, 2015, 11:30 am EST. To join the meeting, click this link.
As an alternative to traditional debt or equity structures, Flexible Redemption Preferred Stock is designed to match investor returns with company performance. This structure is a hybrid that has tax advantages to investors and aligns the payment schedule with entrepreneurs performance.
Flexible Redemption returns capital to investors through a pre-negotiated percentage of cash-basis revenues. Each quarter the Return Pool is used to pay dividends to shareholders and then redeem a portion of the outstanding stock. The net effect is that investors get an equity return that is linked to the performance of the company,providing flexible capital for the social entrepreneur. While the structure is flexible and can be structured for a variety of target returns, the companies that are using this structure have been using terms designed to return the capital and profits to the investor within six years.
The Flexible Redemption Preferred structure was ideal for Relevée because our investors are seeking the opportunity for equity returns. Using this structure we avoid the debate over equity terms like “pre-money valuations,” while retaining the flexibility of matching our cost of capital and the timing of our payments with our growth.
We probably could have used a convertible note, but we believed the Flexible Redemption Preferred structure was more attractive to investors and thus better for us. Getting the funds now is more important to our social mission than the cost of those funds (at least to a point).
On Wednesday, January 20 we are hosting a webinar about Flexible Redemption Preferred Stock, a structure designed to avoid the negative tax consequences of existing alternatives to equity while offering investors a good return and meeting the needs of social entrepreneurs. Hosted by ADAP Investments, Boma Investments, 1TO4 Investments, and John Berger, CFA, this webinar is appropriate for investors and entrepreneurs seeking creative funding structures, as well as students of finance and social impact.
Join the webinar, “Flexible Redemption Preferred Stock – An Alternative to Equity,” Wednesday, Jan. 20, 2015, 11:30 am EST. To join the meeting, click this link.
Disclosure
Photo: Made by Survivors.
This post was originally published on ImpactAlpha.com
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