Recently my blogs have addressed the question of various types of equity ownership interests in motorsports dealerships. For example an incorporated dealership could issue common stock and preferred stock, with preferred stock representing a first claim on the earnings of a company and common stock representing future growth and appreciation in excess of the preferred return.
Another of my blogs discussed allocating control of the company based on different equity classes. There are many, many variations on these concepts and many reasons why a flexible equity structure can be useful. For example, in the current economy, some dealers have found it useful to work with outside investors to increase their dealerships’ working capital and to provide more security in a challenging economic environment. The use of different types of equity can help attract such outside investments. For example, an investor putting in new money may reasonably feel he should have a first claim against the earnings of the business until he is repaid. Issuing a special class of preferred stock to such an investor is a useful way of giving him secure protection for the recovery of his investment and a guaranteed return on his money. As an alternative, or as a way of reinforcing the rights of the preferred stock, the current ownership could agree to subordinate its own rights in various ways, such as limiting salary increases, management benefits or other expenditures until the position of the preferred stock is sufficiently secure. Typically, in such arrangements an outside investor also will negotiate for some common stock ownership so he can also benefit from future growth of the business. However, if he starts with a preferred position to protect his initial investment, he may be willing to agree to a substantially smaller participation in future growth and control of the business.