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New Business Financing, Start Up Business
Financing
We see many business
plan and funding bids based on the presumptions that
the client can
1. buy a business plan that can be used to obtain
needed new business financing, and/or
2. hire a finder
who will bring funding sources to the company with the
corollary assumption that the more the finder is paid
the more likely he or she is to obtain the start up
business financing.
In our opinion, these presumptions are mostly false.
A well-crafted
business plan is needed, but not for the reason that
is assumed. Investors want to see a well thought out
business plan as evidence that the entrepreneur understands
the business. They typically do not read through business
plans to find deals to fund. The investor wants to see
a business plan that reflects the thinking and knowledge
of the entrepreneur and not that of a paid consultant.
Investors do not believe the sales and income forecasts
that never seem to work out as planned. Instead they
want to see income projections based on reasonable assumptions
and knowledge of the entrepreneur. They have seen so
many forecasts that start slow and then shoot through
the roof (hockey stick) that it has become an inside
joke. They would far rather read a simple plan written
by the entrepreneur than a slick plan from a consultant.
Investors typically find deals through referrals from
other investors and others that they know. However,
with the dot com bust and sagging stock market, many
former investment executives have set up boutique investment
banking firms and can, in fact, steer deals to their
friends still with the venture capital companies and
wealthy former clients. But, understand, these investors
are using the investment bankers to screen deals for
them. If the investment banker recommends a project
that does not have merit, the investment banker will
soon lose his or her credibility with them. If you don't
have a quality deal, a finder will not help. So, there
are some "finders" that can put your deal
in front of qualified investors, but be careful.
We take a
different approach.
Most new business
financing is provided by friends, family, and personal
resources. It is a tough way to start. Many new businesses
fail and the entrepreneur is forever embarrassed with
his or her family and friends. And even if the venture
succeeds, the early FFF ("friends, family, and
fools") investors can become a liability in obtaining
VC funding for later rounds of company growth. Some
of the best businesses have been bootstrapped when no
one would provide outside funding, but that too is a
hard row to hoe.
Of companies
that receive start up business financing, most are funded
by angels. These are wealthy individuals who take an
interest in funding new companies. They assume greater
risks than VC and expect higher rewards. Angels typically
look for returns of 20 times investment in five to six
years as opposed to the VC who come in later and seek
a "mere" 7 to 10 times return on their money.
It is not greed. They have to pay for the ventures they
fund that fail. It is safe to say that angel and VC
money is very expensive and should be avoided if possible.
But, how do you find an angel? It is not easy. Angels
are plentiful, but, unlike VC, they do not advertise
themselves. In some major cities, angels come together
in associations where entrepreneurs, for a fee, can
submit proposals for consideration. But, typically,
the entrepreneur must cast a wide net to find wealthy
individuals that may be interested in the proposal and
sometimes it is friends of friends that make the introduction.
We have seen web based exchanges pop up where entrepreneurs
submit proposals and angels seek deals to fund. But,
it is a hit and miss affair.
What new business
financing do angels and VC fund? In this order, intelligent
investors look for
1. Experienced, capable management team
They want to
see a group of managers who can make the project successful;
they prefer individuals who have done it before.
2. Projects that can provide the high returns they
demand for their investment
They like markets
that have a large upside and high profit margin products
and services.
3. Businesses that can be protected from competition
Unfortunately, if the business
takes off,
patents are no protection from well-heeled competitors
who ignore patents and use their army of lawyers to
fight it out in court later.
4. A clear
exit path
Angels and VC
are not long term investors. They want to provide start
up business financing and then cash out after five years.
The business plan should show how the investor can cash
out - usually sale to a public company or an IPO.
Typically, the
angel must be comfortable in each of these areas before
he or she will invest. But, overall, management strength
is the dominant factor. It is like a horse race where
the bettors (investors) wager on the jockeys (entrepreneurs)
and not the horses (proposals).
Is angel financing desirable? It depends on the angel.
A good angel brings more than funding to a project.
Many are successful entrepreneurs and have a great deal
of experience and contacts to bring to the venture.
Angels understand that successful ventures often go
through several rounds of new business financing before
the company is bought or sold to the public in an IPO.
But, some angels come from the dark side. And there
are, surprisingly, dumb angels who will panic the first
time something goes wrong (and something always goes
wrong).
We provide services to entrepreneurs and take compensation
as follows:
1. Evaluation
of the proposal
We are not omniscient, but we will give you an honest
opinion of the likelihood of start up business financing
for your proposal.
2. Prepare
the business plan
The business
plan is central to the proposal. It is the base of what
is presented to prospective investors. It needs to be
well thought out and considered. Angels, and particularly
VC, will pick the plan apart. The entrepreneur needs
to be able to defend the plan and every detail in it.
No one believes the financial projections, but the underlying
assumptions and cost forecast must appear reasonable
to the investor. We help the entrepreneurial team develop
a plan that will appeal to investors. We do not use
templates, but tailor each plan to the entrepreneur
and likely investors. Typically, the business plan goes
back and forth several times before we settle on the
final draft that is, to the best of our ability, accurate,
supportable by company management, and attractive to
investors.
3. Recommend
new business financing amount and terms
The start up business financing request is a careful
balance. You do not want to begin operations underfunded
and you don't want to take more than you will need.
Whenever possible, the investor should be repaid before
the exit - it reduces the amount of equity give up if
the investor ends up with warrants instead of equity
throughout. In the end, the investor will dictate terms,
but the proposal can lead the investor in the right
direction.
4. Prepare
queries
The initial contact
with investors often begins with a short (one page)
summary. Investors typically do not read business plans
until they are already interested. The query is designed
to induce the investor to seek additional information.
5. Prepare
presentations
Investors dictate
what type of presentation is necessary. But, the entrepreneur
needs an effective 'elevator speech' - a five minute
or less presentation. It is often more decisive than
the business plan in securing new business financing.
6. Assist
in negotiations
As in any deal,
it is best to have more than one interested investor.
Good investors don't want to own your company. They
want you to manage the company and earn the return they
need. But, the issue of equity shares and other terms
comes up and it is often helpful for the entrepreneur
to have another view on the offered terms.
7. Long term
consulting
Our company provides
management consulting service to small and mid-size
companies. We know what management systems and structures
are needed to profitably and rapidly grow a new business.
Our principal served as Planning Director of a small
service company that grew to over $720 million annual
sales in twelve years. He was instrumental in establishing
and administering the company's management system -
MBO. Typically, we work with company management in developing
company plans, budgets, and the weekly, monthly, and
quarterly review procedures. We recommend and help management
implement key policies and procedures in areas such
as employee selection, evaluation, and compensation.
We currently
have start up company clients in a broad range of businesses
and geographic areas. Each company is unique and we
treat each individually. But, typically, we take compensation
as follows:
1. Business
plan fee
We take a reasonable
fee for preparation of the business plan based on the
amount time and research committed to the plan writing.
We are not a business plan mill and do not use templates.
Each business plan is formatted and written based on
the business and the expected investors for the business.
2. Success
fee
Usually a small
percentage of funds raised. Investors do not like to
see major portions of the money they invest paid to
outside consultants who do not contribute to the company's
future growth and profitability.
3. Management
consulting retainer
We take a small
monthly retainer to work with company management in
building the management structures and systems to enable
the company to effectively and profitably manage rapid
growth in sales and profits.
4. Company
equity
We partner with
the client in funding and building the company. We take
a small share of company equity.
Our overall objective is to help make the entrepreneur
successful and then share in the success. It is the
same principle we recommend for compensation of managers
and key employees as the company grows - compensate
on the basis of results achieved for the company. We
seek to become a member of the company's management
team and negotiate with prospective investors on that
basis.
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