NON-VOTING (REDEEMABLE PREFERRED) EQUITY
Like traditional equity, non-voting equity represents financial ownership of the company. Instead of voting rights, investors can be granted other forms of co-determination rights. This may also include specific rights in emergencies and/or obligations for management to ensure sufficient liquidity for buybacks (see Deep Dive Governance for more information). Given their redeemable character, they can – and sometimes must – be bought back or called back by the company at a predetermined valuation or formula, either gradually or at a fixed maturity date. That means, instead of exiting through a sale to external parties, the company itself repurchases the non-voting shares to liquidate the investment. The redemption value and date are often clearly defined in the shareholder agreement. Redemptions can be paid from different liquidity sources, including cash, successive equity rounds, or debt, and the terms can be based on multiples, holding periods, milestones or other processes (see Deep Dive Liquidity for more information).
- In steward-ownership-aligned financing, redeemable shares are designed with some form of limitation – either as a limitation on the return height or with certain mechanisms that control dividend payouts (for more information refer to Deep Dive: Return). It also requires a clear agreement on the buyback timeline and the conditions under which investors or the company can request share redemptions.
- If equity has already been issued in previous financing rounds, adjusting the financing structure to align with steward-ownership principles can be quite challenging. But, solutions exist: a common approach involves that new aligned investors acquire the “conventionally structured” shares (with voting rights and uncapped returns), and then convert them into non-voting shares with a retroactive buyback agreement.
- In fact, from a technical and tax perspective, converting voting shares into non-voting shares with capped returns is often simpler than restructuring shares into mezzanine instruments or loans.
- Although redemption conditions are typically established at the start of the investment, in some jurisdictions it may be tax advantageous to leave the choice between buy-back of shares or payment of regular dividends open.
- This form of equity financing without voting rights is also open to investors who choose – or are allowed – to invest exclusively through shares (e.g. funds) or those who are less inclined toward alternative financing instruments.
- Also, it is often easier to obtain grant funding when a company is financed with equity rather than mezzanine instruments.
- Opting for non-voting redeemable equity has the advantage that it sets a clear anchor price, path, and structure for future capital raises. However, due to the fact that any changes require the adoption of the articles of association, notary appointments, and other factors, this instrument is legally more complicated than other instruments.
Non-voting redeemable preferred equity works well for steward-owned companies that want to raise substantial amounts of capital ($1M+) over multiple rounds while maintaining control over decision-making. This tool is one of the most generally applicable and has been used in cases ranging from venture-backed startups to mature companies going through a recapitalization process. For later-stage companies, non-voting redeemable preferred equity will often include a “base” dividend to provide a secure ongoing income source for investors. Some companies, however, may be hesitant to pursue this financing option due to a reluctance to issue any shares, even non-voting ones, or a desire to avoid diluting ownership. Others feel it creates an emotional connection, giving investors a sense of ownership that can strengthen their bond with the company and encourage more active involvement.
- Calculation of the buyback price or maximum
- Timetable for the buyback, vesting periods, if applicable
- Conditions under which investors or the company can call for share redemptions
- Base or guaranteed dividend rate
- Protective provisions for investors
