Raising Capital - Consider Debt Financing
Bill Warner Friday, November 07, 2008
Debt can be your friend. It can be used in many ways to strategically fill out your overall financing plan. However, there is no doubt about it, loans have to be backed by some form of collateral and the money has to be paid back over an agreed upon period of time and interest rate. Here are some important possibilities for the use of debt financing:
- Early market research can be financed with debt. You can use a credit card or borrow against your assets. A nominal amount of money is usually needed to conduct a disciplined market research on your entrepreneurial idea. There is usually no need to buy expense research reports, but some money is needed for travel for testing the market and for the development of materials for your research work.
- Once you have satisfied yourself that you have a good market opportunity, it is often necessary to develop an early prototype and perform some more in-depth market testing. Again, bank loans are a viable source of financing for prototype development and for filing patent applications.
- Most businesses in the US can actually be started through bank financing, as long as the entrepreneur has the necessary backing. The backing can come from the founder or from friends, family and business associates. Of course, these people that take the risk to back the loan should be rewarded by the company. Approaching local banks that offer SBA backed business loans is an excellent way to get the money you need to start a company. It is not always necessary to approach angels of any kind. This way, the entrepreneur does not have to sell shares in the business and will therefore own the entire company, keeping control of its destiny.
- Also for most small businesses, getting loans from other people is very common. Many businesses get financing from family members, friends and business associates without every approaching a bank. These loans have to be paid back with interest but the terms are usually more attractive than with banks.
- There are several banking institutions that will loan money to early stage companies for them to purchase capital equipment, where the equipment acts as the collateral for the loan along with the company’s cash position after having received its first round of financing. Sometimes personal guarantees are required which founders can consider and perhaps get assistance from their backers to accomplish as well.
- A fairly common use of debt is for investors to actually loan money to a company that will later be converted to equity at the next round of funding. This helps a company gain some financing without having to declare the value of the company until the next formal round of funding. Other considerations are provided to the debt provider in the form of discounts and warrants.
- Companies that have ongoing revenue and a good financial track record can get a line of credit from a bank that can serve to plug the drain to cash flow that occurs during periods when accounts are not yet paid and to meet periodic payroll demands. The accounts receivable backlog can often be used as collateral for such loans as well.
Bank financing can be a valuable tool at all stages of company maturity. As with any financing activity, it has to be approached with discipline and a well thought out and managed business.
Permalink
Raising Capital - Bank Loans Are Still Quite Possible
Bill Warner Wednesday, October 29, 2008
I have been talking to some of the local banks, those that serve our region only. Some people might call them community banks. They are the banks that take pride in their independence, provide services to both small businesses and individuals, and act responsibly with good judgment about taking risk.
Despite all the bad news you are reading about the major banks, some of whom are failing, community banks seem to be much better off. Sure, they have some mortgage loan failures, but are well within the bounds of their reserves for such risk. They are not panicking and are still making loans at reasonable interest rates. The stall in the flow in credit is not being felt as significantly as the “Wall Street” institutions. I asked them why this is. The answer I got was that they do not have a substantial portfolio of these bad home mortgages. They did not drink the Kool Aid and buckle under congressional pressure, through organizations like ACORN, to provide loans to people who do not qualify for them.
We are all reading stories about many banks who are taking the bail-out money. The large banks were given an ultimatum, even though a few of them did not want it. Unfortunately, some of these banks are not using the money for loans to small businesses and individuals. I read about one that is actually using the funds to buy another bank. So, the misuse of these funds is already starting. Thank you Mr. Paulson for your oversight and leadership.
Over $100B of the bail-out fund of $700B is being targeted at the smaller banks. Under some mild duress, banks have been notified by the Treasury of the offer to loan them money at reasonable interest rates and payment terms, along with provisions to take warrants in their banks. I am proud to report that many of our community banks are flatly refusing to take the money. They don’t need it and don’t want government intervention in the banking system. They were even told that “it is the patriotic thing to do” to take these funds so that more loans can be made. Many of them countered by saying that the patriotic thing to do is to not take this money and let the free market system work.
This is good news for small businesses that need loans to support their businesses, whether it is for capital purchases, business expansion or simply a line of credit. Target your quest for loan financing at local community banks and you should find a lot more positive response than you will get from the large banking institutions who are struggling to recover from the credit crunch and a boat load of bad loans. Do your homework though. Approach these institutions with well thought out business propositions supported by a solid financial analysis of your needs and how you will back the loan. What is making these banks successful is discipline, so you need to walk in the door with a disciplined approach to your business.
Permalink
Angel Investors Want Disciplined Entrepreneurs
Bill Warner Friday, October 24, 2008
With credit tightening and the markets crumbling, entrepreneurs are facing a rapidly increasing competitive situation when vying for angel money. Angels are going to be a lot more selective and pick only the best opportunities, with best being defined to be:
- Quick to profitability
- Quick to positive cash flow
- Quick to exit
- Managed by an extraordinary team
So what is new about all that? Nothing really, but the pressure to be right and to really achieve it has gone up an order of magnitude. Entrepreneurs are going to have to make fewer mistakes, because there is not a lot of room for more financing to make up for them.
Angels are different than institutional investors. Institutional investors, like venture capital firms, have limited partners that provide the funds under certain financial performance terms. Angles are investing their own money. Angels care about their portfolios in many of the same ways as institutional investors, with one exception. Angels have a deep desire to see the entrepreneur become successful, and will be very much more forgiving, flexible and supportive during tough times. They, like the entrepreneurs, are the ultimate risk takers with a passion for the business surpassed only by the entrepreneurs themselves. But, like the institutional investors, they want to make money.
Raising angel financing is going to be much tougher, which will require entrepreneurs to present a very compelling business proposition that materially demonstrates a plan for rapid success:
- The description of the market will have to be well vetted. Paper analysis will not be good enough. Entrepreneurs will have to show that they have really tested their market entry with real customer feedback and survey results. If angels cannot see and talk to real and potential customers, the entrepreneur may be passed over.
- Entrepreneurs better know their competitors’ businesses about as well as they know their own. No more passes on competitive matrixes full of yes’s and no’s, and loosely spelled out SWOT analyses. Angels will need to see examples of competitive situations where you are winning as verified by customer feedback. It can’t be just the entrepreneur saying they have a winner. A buyer or potential buyer will have to say it.
- Marketing strategies are going to have to come alive with real contact information and lead generation productivity assumptions that have been verified by test marketing programs. The Excel spreadsheets will still be needed, but verification of the assumptions will be required.
- Sales targets have to be substantiated with an emerging pipeline of sales prospects, some of whom having been contacted and will verify their interest in the entrepreneur’s product or service. A verifiable list of additional sales targets have to be shown that demonstrate great confidence that the first year’s sales targets can be met. It is almost like the company has to have a rocket loaded with fuel and the entrepreneur has the match already lit to launch it.
- The financial forecast is going to have to be well thought out, demonstrating that the entrepreneur knows how to manage cash. Sold estimates for cost and expense, along with capital purchases, will have to be verifiable. The sales estimates have to correlate with the sales targets in the marketing and sales plans.
- The management team has to be very strong. First time entrepreneurs are going to have a tough time getting financing without having a seasoned executive at the helm. Angels will want a management team with a proven track record and relevant industry experience. These are the people that will mitigate a substantial part of the risk the angel is taking.
- Due diligence will become much more thorough. In addition to the usual process, much more scrutiny will be put into customer feedback, alliance relationships and credit worthiness of the company and its backers. Angels are going to have to have organized due diligence material, showing that the entrepreneur has a good handle on the business and what drives it.
If they haven’t done so already, entrepreneurs should be looking for assistance from seasoned business professionals to help them not only get ready for angel investors, but to help them run their companies efficiently and effectively. Entrepreneurs that form the right teams are the ones that are going to get the gold.
Permalink
CEO Coach - Orders For The New Economy
Bill Warner Wednesday, October 22, 2008
Credit is flowing slower than tree sap in a New Hampshire winter. The board of directors demand actions to respond to the economic mess and wants everything to happen immediately. Investors want to save cash and get to exit as quickly as possible. New investors are renegotiating their terms or backing away all together. Customers are starting to reprioritize purchases they had previously committed to. Wow, it’s a great day in the life of a CEO.
Let’s take a breath and not panic. Action certainly needs to be taken and it is very much the same thing that a CEO has to do in a turnaround situation:
- Reassess where you are with your revenue forecast. Talk to your most loyal customers and reassure them that you will be there for them and see where they are on future purchases. Take a hard look at new customer purchasing to verify that purchasing timeframes are still real. Adjust the revenue plan based on this brutally honest near-term view of customer purchases.
- Tighten the belt on the cost structure of your products and services. It’s time to take cost reduction actions that will provide a short-term yield. Cut personnel that are not essential to the manufacturing of products and to providing services.
- Take a hard look at expenses looking for ways to save cash on discretionary spending, payment terms to suppliers, lease payment terms, unnecessary personnel and even look at stabilization of salaries. If an expense item is not serving the main mission of the company, question it.
- The conservation of cash is what this is all about. More drastic actions could include the curtailment of development of future products and getting out of markets and discontinuing customers that are not profitable. Any action like this has to be done in the context of the company’s cash position and a judgment made as to whether there is enough cash in reserve to take the company through these hard times which could last through all of 2009.
- Rerun the income and expense report, cash flow statement and balance sheet forecasts with the operational changes you have made. Take a hard-nosed look at whether or not you will have enough cash to sustain your business. If not, more cost and expense is going to have to be removed from the business, which might mean you have to change the fundamental strategy of the business. You must get cost and expense in line with your realistic view of the revenue outlook.
You may be faced with the need to raise additional funds to get you through these tough times. Do not go to outside investors without having first done your homework. Bank loans are much harder to get, but if you have a realistic financial outlook and satisfactory past performance, you have a reasonable chance of getting help. If you have angel investors, you need to work closely with them and give them the same brutally honest view of the business and ask for their continuing help with additional funds. If you need to get institutional money (VC’s), you are faced with a tough negotiation.
This is going to be survival of the fittest, requiring much more discipline and focus than ever before. The necessary actions are well known. We have been through this before. The difference will be in the execution of what needs to be done.
Permalink
Understanding Cash Flow Dynamics
Bill Warner Friday, January 11, 2008
Whether you are starting a business or expanding a current one, understanding the early cash flow dynamics is essential to both determining how much you need to finance the business and your overall success in achieving positive cash flow in the first several months of your business.
Permalink
Financial Management
Bill Warner Tuesday, January 08, 2008
“Can you afford this server?” “How long does your cash last?” “When are you cash flow positive?” Every get these questions? As a business owner, if you cannot answer these questions, and many others, you may need some help with financial management.
Cash is king in a start-up company. Managing revenue growth and earnings is essential to a public company. Maintaining profit and cash flow is the bread and butter for an emerging company. No matter what stage you are, achieving value for the shareholders is always the name of the game. In order to be successful at any of these objectives, you have to start with a good plan for financial management.
