Give me some money!

There are many reasons why a business owner needs financial leverage in their business. Maybe the organization is in a strong growth phase and the owner needs more employees, more products, better equipment, a bigger space, and a new (more expensive) marketing approach. Maybe it’s a start up and has a very compelling product or service and needs to get a small amount of funding to perfect it and bring it to market.

Or maybe the business owner is experiencing a cash crunch and must invest in new inventory or cover operating expenses between customer payments. Maybe the owner has a new opportunity to bring a new product or service to market and lacks the financial resources to make a strong introduction to the market place.

Before I discuss ways that this can be accomplished, let’s discuss some important criteria to consider before looking for money. Most importantly, a business owner must be able to prove that taking this step now will have a significant return on investment. Only a serious market analysis and financial analysis can help you decide if this makes long term financial sense. This should include a realistic pro-forma showing how these invested funds will produce greater revenue and profitability. This is the “proof” needed to back up a compelling story. Consider the business plan as your story, and the appendices as the proof.

Another relevant point to consider is whether this is the right time to invest in growing the company. As Bijoy Goswami said in a lecture on the Bootstrap concept, “Entrepreneurs should consider a capital infusion as an amplifier”. The point being that money is how you scale a successful concept. A successful concept is best defined as a viable proven product or service that has all ready attracted an interested customer base. The beta is completed, the packaging looks sleek, it will be profitable, people want to buy it or use it, and now you are ready to show the world the widget you have produced.

During the Dot Com bubble and the new “Web 2.0” craze, many entrepreneurs built a sexy sounding concept or product and looked at the financing as the exit strategy. It was never about building a successful business based on happy customers using your company’s product or service; instead it was about wishing a venture capital firm invested millions into your company and magically becoming the next Yahoo or Google. Some great companies emerged from the crash. In the majority of cases they were smart in their timing and financing strategy. In some cases they were lucky enough to have a strong enough business to whether poor financial decisions. The majority of the companies that sought and received funding blew apart in the bust, the principals left with worthless stock they could use to wall paper their over priced San Jose apartments.

The two options available for raising money are debt financing and equity financing. Debt financing has many faces, and more debt vehicles than ever occupy this space. The key components of a debt financed deal are the same for a business as they are for an individual looking to finance a car or a house. Generally the questions a financier may ask are: How much cash (equity) can you bring to the project? How is your credit (both personal and business credit)? How strong is your concept and can it be proven? Do you have collateral to offer if it does not work? If you have an existing venture the financier may have you prove that if things don’t go as planned you can continue to service the debt on existing revenue. The financier can be an individual, a group of individuals, or an institution like a bank, private lender, or private equity firm.

Some popular debt vehicles are term loans, lines of credit, receivable financing or factoring, purchase order financing, equipment leases, and real estate loans. Granted, there are a lot of new funding options that may work, but are less recognized. Convertible debt to equity financing or claw-backs (equity to debt) is a popular institutional instrument. Smaller, high margin businesses can utilize collateralized credit card receipts or contract financing. Asset rich companies can take advantage of equipment or real estate lease backs. Depending on the business, these tools can offer a business owner the money they need to achieve their goals. If it is a start up, they may have to depend on loans from friends and family, credit cards, or tying up personal assets to fund their business venture.

For a financier to consider equity financing, there are different criteria to explore. From the perspective of the entrepreneur, they must be willing to give up some percentage of ownership to attract an investor. Usually an entrepreneur should only consider taking on an equity partner(s) if they can’t attract debt financing or don’t want to personally guarantee repayment. In either case, the business concept has to be really strong and sexy to attract investors. Often this is the only outlet for certain start ups such as tech or biotech where investors are always looking for the next big thing, and there are little tangible assets and little proof that this business concept will work. The other is in “risky” service industry businesses like bars, restaurants, dry cleaners, convenient stores, and retailers. In this case, unless it is such a uniquely marketable concept that an institution can see it going national fast (such as Applebee’s), you are left with attracting friends and family investors to partner with you in your business. Another instance where it may make sense to attract equity investors is if the business owner would be in a position to take on debt financing but lacks the equity (cash) portion of the deal. If real estate is in the equation, lenders often look for owners to produce 20% of the money needed to complete the transaction. If the owner lacks capital, taking on some form of private investment may be the only way to get the deal done.

In either case some key questions should be explored carefully. Is this the right time to seek funding? If so and you decide you have the right credentials, how much debt can you realistically take on while maintaining profitability and servicing the debt? Which kind of debt vehicle is best for your business and situation? If you take on equity investors, how much control are you willing to relinquish? How much revenue (and profit) are you willing to give up? What kind of investors do you want to attract? Someone who has a say in the business operations such as a general partner, or limited partners that have little say but expect a big return? Is the idea so good that having a small piece of something big is better than having nothing? These are the kinds of questons I help business owners answer, as well as helping with investor relations, business planning, and market analysis. Please visit us at Successful Business Advisory Group.

If you have considered these questions carefully, maybe you’re ready to go ask for some money!