Small Business

Finders Keepers? Not Always


By Karen E. Klein Q: I'm a business consultant who ordinarily charges a flat fee. However, I've recently brought together an investor and a large, reputable overseas producer in a $5 million deal. I happen to know the head of each organization personally, and I feel I am qualified to evaluate the investment. What is an acceptable percentage to ask as a finder's fee? Is there a realistic window or industry standard that I should use?

---- D.B., Toledo, Ohio

A: Attracting capital is rarely easy, and it's especially difficult in today's environment, so it sounds like you're definitely entitled to compensation for your role in this business "marriage." After all, you've saved the parties from the time and money they would have spent if they'd hired an investment banker or other deal-broker. But will the parties agree? Experts say that this is a gray area, with a lot depending on who the players are and what arrangements were made in advance.

Did you discuss your compensation ahead of time, or are you coming in after the fact, looking for a finder's fee? Do you know how your clients feel about paying you a fee or giving you a percentage for your matchmaking role? "It's a funny thing about human nature," says Peter Cowen, a Westwood (Calif.)-based investment banker who puts together these kinds of deals. "When people start looking for money, they are eager to reward. But once they feel they have the money, then unexpected fees, even if you've earned them, take on a different tint."

The next time you put together a deal like this one, experts suggest that you talk about compensation and fees before bringing client and investor together. When you discuss details ahead of time and sign a simple contract, you won't have the possibility of a client balking -- and you can typically ask for higher percentages and fees. In addition, you will be in a position to define whether your role will go beyond matchmaking into tending the relationship after the initial investment is secured.

THE NUMBERS. Starting from your situation, however, here are some general parameters: Investment bankers raising equity funding for small companies generally receive 5% to 7.5% in cash, plus warrants equal to 5% to 7.5%. If they are securing debt financing, they generally get less compensation, typically in the 1.5%-to-3% range, Cowen says.

In this situation, however, it sounds like you are acting more as a finder than as an investment banker. An investment banker typically spends a lot of time helping craft the investor presentation, bringing in a range of investors, and negotiating the deal, while taking a modest retainer and making further compensation dependent on success in finding an investor.

For simply bringing the parties together, a reasonable fee might be closer to 1% or 2%, with half in cash and half in warrants or options, says Janis Machala, of Paladin Partners, a venture-catalyst firm in Kirkland, Wash. "For an arrangement that has been agreed to beforehand, the finder's fee might be in the 5% range," she says. "Some people use a sliding scale of 5% on the first million and reduce it to 2% on the last million, with a range in between. Investment bankers charge as high as 10%, with 5% in cash and 5% in warrants for such fund-raising." But, adds Machala, "if you are not totally representing the company and negotiating the term sheet and the valuation, that fee structure seems excessive."

Cowen says he's seen straight finder's fees ranging from 2% to 3% cash with some equity that is nondilutive to the investor, but he cautions that you may find the business owners resentful of paying even that much for your work. If you hit solid resistance, he suggests you ask for a generous monthly retainer for a couple of years along with some warrants, which may be a more acceptable arrangement all around.

"Since you know both parties, you will have to oversee the deal perhaps longer than you think, and -- rightly or wrongly -- if you accept cash compensation and the deal goes bad, you will be blamed, at least partly," says Cowen. "Also, if you take significant compensation for this transaction, you will likely be expected to perform other responsibilities as part of your fee for the deal, such as advising, mediating, and raising more funds down the line." Have a question about running your business? Ask our small-business experts. Send us an e-mail at smartanswers@businessweek.com, or write to Smart Answers, BW Online, 6th Floor, 2 Penn Plaza, New York, NY 10121. Please include your real name and phone number in case we need more information; only your initials and city will be printed. Because of the volume of mail, we won't be able to respond to all questions personally.


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