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Issuing Warrants To Investors
By: Dave Lavinsky
When raising capital for a business venture, warrants are a common form of
equity that is given to investors. A warrant is like an option – it gives the
holder the right to buy a security at a fixed or formulaic price, which is known
as the "exercise" or "strike" price.
Warrants are often confused with options. Options, as used in the venture
capital space, are typically long term (up to 10 years). They are also typically
issued to employees versus investors. Conversely, warrants act like short-term
options and, unlike employee options, can be traded as an independent security.
In general, neither the issuance of warrants nor their exercise (at least by
non-employees) is a taxable event. In fact, in 1984, Congress reversed the
earlier position of the IRS that the expiration of a warrant is a taxable event
for the issuer. However, whenever a debt security with warrants attached is
issued as a package, original issue discount problems are invited.
One type of warrant that once popular as a financing mechanism for emerging
ventures is contingent warrants. These warrants become exercisable if and when
the holder does something for the issuer, for example buys a certain level of
product. Contingent warrants are no longer used often since the SEC ruled in
favor of current and periodic recognition of expense to the issuer.
Like an option, a warrant is considered a "common-stock equivalent” for
accounting purposes. And, if the warrant has been "in the money" (i.e., the
exercise price is below the market price) for three consecutive months, it is
deemed to impact earnings per share under the so-called treasury-stock method.
That is, the warrants are considered exercised, new stock is issued at the
exercise price, and the proceeds to the issuer are used to buy in stock at the
market price.
Warrants are a common financing mechanism and companies seeking venture capital
should consider and become knowledgeable about this type of equity device.
About the Author:
Growthink Business Plans has developed over 200 business plans for clients that
have collectively raised over $750 million in financing, launched numerous new
product and service lines and gained competitive advantage and market share. For
more information go to http://www.growthink.com and/or visit its sister site at
http://www.gtsecurities.net.
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