Investment as a source of financing

For most investment companies and funds, investing in a non-core business is a form of direct investment. In fact, they buy not only and not so much in order to receive part of the current income from ownership of the company's shareholding, but in order to then resell it. Such investments can provide a return on the level of 50% per annum. Of course, provided that the object for investment is selected adequately.

Direct investments are traditionally classified as alternative. Meanwhile, for many developing economies, for example, China, they act as a leading source of income, whose annual “capacity” is estimated at hundreds of billions of dollars (here we are talking primarily about foreign direct investment). Recently, direct investment has become increasingly popular in our country. According to our data, almost 40% of company owners are ready to cede a share in the business to a direct investor.

Direct investments can be used to develop a business, regardless of what level of development a particular company is at. Now they are perhaps the most affordable investment tool for most domestic firms. It is worth noting that here we do not consider venture capital funds, the strategy of which is somewhat different from that to which the classical private equity funds are oriented.

The main advantage of direct investment is the ability to obtain the funds necessary for the implementation of a project aimed at business development. At the same time, not only money is invested in the company, but also intangible resources - consultations from the side of the investor, his connections, knowledge and authority. Information that a well-known private equity fund has invested in a business has a positive effect on the image of the recipient of funds as a business partner.

Direct investment involves some significant limitations. First, the investor who has invested in the company expects to return them after receiving a certain income. Moreover, the return on investment should be at least 30-40% per annum, for some projects higher requirements may be imposed. The return of funds may occur due to the sale of the received share to a strategic investor, its redemption by management (co-owners of the company) or its sale on the stock market as a result of IPO.

Secondly, a company attracting a direct investor should be prepared for significant changes in the management system. This may include a transition to international financial reporting standards, a change in the structure of the company in order to increase its transparency, a change in the part of managers (an investor’s representative or an approved specialist often takes the post of financial director), and restrictions on strategic decisions (large transactions can be made only with the consent of investors).

Thirdly, when working with a direct investor, the company should be ready to undergo a comprehensive legal diligence, financial, technological, and marketing review process.

If the owners of the company decide to attract a direct investor, they must assess how ready the company is to start its search. The following points are important here.

Business plan. A direct investor most often invests not in start-ups, but in a growing business, which needs additional funds to move to a new stage of development or to implement a promising project. The description of the direction of investment of attracted funds does not always have to have the canonical form of a detailed business plan, sometimes a brief description of the idea is enough. The investor will still calculate for himself the prospects of the project.

The presence of a qualified management with obvious professional achievements. This is an important point for many direct investors. Still, they do not buy the whole business and do not seek to participate in the operational management of it. They must be sure that the specialists available at the company will be able to successfully implement the project for which money is allocated.

Status and dynamics of the business - investors prefer to invest in growing companies. Only in rare cases, they may be interested in the result of overcoming stagnation or recession.

State of the industry. This factor is not important for all investors, but many of them prefer to invest in growing markets that have not yet reached saturation.

Owners should immediately decide what share in the business they are ready to cede to the direct investor. Many investors invest in a company only if they receive a controlling or blocking stake.

The size of the company is not critical for attracting direct investment. Many participants in this market invest in small firms whose annual revenue does not exceed several million dollars. It is desirable that the company does not have debts and other burdens, had documents confirming ownership of assets, necessary patents and licenses. Investors most often negatively assess the presence of state companies or criminal structures among the owners of companies, and the company's participation in corporate conflicts. It is clear that a claim to the company by the tax authorities or lawsuits by third parties virtually eliminate the likelihood of a successful investment.

It makes sense to consider two main groups of direct investors - private and institutional. The former include private individuals (often top managers of large companies) who are looking for an opportunity to profitably invest available funds, and the latter include investment groups and private equity funds. They can be formal (positioning themselves as funds, for example, Baring Vostok Capital Partners) or informal (actually working as direct investment funds, for example, Alfa-Eco).

Intermediate positions are held by holdings and groups of companies diversifying their investment portfolios. On the one hand, such players differ from individuals in their capabilities and priorities, and on the other hand, direct investments do not serve as their main activity and are one-time projects.

Working with each of these groups of investors has its advantages and disadvantages. There are more private investors than funds, by definition, they often make less stringent requirements on the object of direct investment. However, the benefits of cooperation with private individuals are not so great -most often they give only money without additional resources in the form of knowledge and experience. Institutional investors impose more stringent requirements on the company that attracts investment, but also provide incomparably more. If we talk about companies that occasionally act as direct investors, then their requirements and capabilities are individual.

Each private equity fund has its own requirements. For example, Baring Vostok Capital Partners, among other things, assumes that the company should be break-even, the internal rate of return on investments should be at least 40% per year, the growth in the value of the company should be at least 300%. The FINAM Investment Holdings Direct Investment Fund is considering proposals for investing in the high-tech companies sector, in the entertainment industry companies, in industries characterized by low asset consolidation and high growth rates, as well as in retail trading companies, primarily operating ones in the consumer market and having a developed sales network. Almost all investment funds pay attention to such indicators as company management, profitability, revenue and profitability.

Sources used:

• 1.    Hayek F. Private Money / Per. from English M .: Institute of Economics, 1998

• 2.    Starodubtseva E.B. Investment Opportunities for Savings: German Experience and its Application in Russia // Banking Services, 2006

• 3.    Rose Peter S. Banking Management / Per. from English M: Case, 1995

• 4.    Raikhlin E. Fundamentals of economic theory. Financial and monetary system. M .: Science, 1999

"Экономика и социум" №12(67) 2019