introduction

 Becoming a successful entrepreneur requires

one to become a skilled fund raiser, a job that
usually requires more time and energy than
most business founders think. In start-up
companies, raising capital can easily consume
as much as one half of the entrepreneur’s time
and can take many months to complete..
Cont
Most entrepreneurs are seeking less
than $1 million (indeed, most need
less than $100,000), which may be
the toughest money to secure. Where
to find this seed money depends, in
part, on the nature of the proposed
business, and on the amount of
money required
Type of venture
 . For example, the creator of a computer software firm would have

different capital requirements than the founder of a coal mining

operation. Although both entrepreneurs might approach some of the

same types of lenders or investors, each would be more successful

targeting specific sources of funds best suited to their particular

financial needs (Norman, Thomas, and Zimmerer, 2003).

Capital requirements
 Capital is any form of wealth employed to produce more

wealth. It exists on many forms in a typical business,

including cash, inventory, plant, and equipment.

Entrepreneurs need three different types of capital:

Fixed Capital
 . Fixed capital is needed to purchase a business’s
permanent or fixed assets such as buildings, land,
computers, and equipment. Money invested in these
fixed assets tends to be frozen since it cannot be used
for any other purpose. Typically, large sums of money
are involved in purchasing fixed assets, and credit
terms usually are lengthy.
 Lenders of fixed capital expect the assets purchased to
improve the efficiency and, thus, the profitability of
the business, and to create improved cash flows that
ensure repayment
Working Capital
 Working capital represents a business’s temporary funds; it is the capital

used to support a company’s normal short-term operations. Accountants define

working capital as current assets minus current liabilities. The need for

working capital arises because of the uneven flow of cash into and out of the

business due to normal seasonal fluctuations. Credit sales, seasonal sales

swings, or unforeseeable changes in demand will create fluctuations in any

small company’s cash flow.

Working capital
 Working capital normally is used to buy inventory, pay bills,

finance credit sales, pay wages and salaries, and take care of any

unexpected emergencies. Lenders of working capital expect it to

produce higher cash flows to ensure repayment at the end of the

production/sales cycle (Norman et al, 2003).

Sources of finance.

 The ultimate source of capital is, of course, the investor, but

there are a number of ways by which a business may endeavour

to obtain the finance it requires with the maximum of certainty

and the minimum of expense. When seeking to capitalize a

business, it is essential to know the amount of finance required,

and the type of undertaking and its relevant circumstances.

Sources of finance
 However, it is equally important that the search for funds

should be made when the appeal is likely to have the desired

effect. It is necessary, therefore, to consider the various methods

of raising capital together with the conditions in which a business

finds it expedient to apply them.

 Startup Business

Primary Sources

Long-term financing Short-term financing

 Personal financing
 Personal financing
 Insider financing
 Insider (family/friends) financing
 Credit cards
 Angels
 savings and credit societies
 Equity financing
 Trade credit
 Leasing
 Banks

Secondary Sources

Long-term financing Short-term financing

 Business alliances
 Consumer finance companies
 Venture capital
 Commercial finance companies
 Franchising
 State and local public financing
 Asset-based financing

Growing/Mature Business

Primary Sources

Long-term financing Short-term financing

 Debt financing
 Equity financing  Debt financing
 Bank lending (secured and unsecured)  Asset-based financing
 Leasing  Bank lending (lines of credit, short-term commercial loans)
 Business alliances  Trade credit
 Venture capital  Factoring
 Limited private offerings  Commercial finance companies
 2.1 Sources of finance for businesses at various stages
of development
 See diagram above /link between working capital and
cash flow cycle is illustrated below
 Example of Cash Flow Cycle Over the Life
Cycle of a Business

Profits

Cash flow

Start-up to Early Stage Growth Stage Maturity

Reasons for Cash Flow Problems
 Difficulty in collecting receivables
 Seasonality of sales
 Unexpected variation in sales
 Policies on how payments are made to suppliers
 Large expenditures up front for projects
 Capital projects
 Ineffective inventory management
Measuring Cash Flow

 Cash Flow from Operating Activities

 Cash Flow from Investing Activities

 Cash Flow from Financing Activities

PRIMARY TYPES OF FUNDING
(I.E., SOURCES) . . . ?
• Internal (i.e., Bootstrapping)

• Debt

• Equity
Bootstrapping

Techniques and tools that can help achieve

the same outcomes while greatly reducing
costs.
Why Bootstrap?
 Often necessary for small businesses to get
started (New Ventures are generally “poor fit”
for traditional lending models (Bhide, 1992)
 Preserves the value and wealth of a business

 Difficulty in raising and using money for

growth
 E.g., danger of misallocation (Bhide, 1992)

 E.g., diminished flexibility (operational – path

dependence effects of missing on 1st attempt
(Dierckx & Cool, 1989); credibility loss with
lenders (Bhide, 1992))
Bootstrap Marketing
 Know your customer
 Impact of message more important than
“volume”
 Remember your market space or niche and the
benefits you bring . . . spend your marketing
dollars carefully
 Marketing is a process, not an event

 Examples . . . ?
Human Resources Bootstrapping

 Employee “stretching”
 Independent contractors
 Employee leasing and temporary employees
 Student interns
 Non-monetary benefits

 Examples . . . ?
Administrative Overhead Bootstrapping

 Space

 Furnishings and office equipment

 Administrative salaries
Operations & Inventory Bootstrapping

 Outsourcing

 Just-in-time inventory techniques

 Effective cost accounting

bootstrapping
 Personal Resources

 The first place entrepreneurs should look for startup money is in their own pockets. It’s the least expensive source of funds

available! Entrepreneurs apparently see the benefits of self-sufficiency; the most common source of equity funds used to start a

small business is the entrepreneur’s pool of personal savings.

 Lenders and investors expect entrepreneurs to put tier own money into a business start-up. If an entrepreneur is not willing to

risk his own money, potential investors are not likely to risk their money in the business either. Further, failing to put up sufficient

capital of their own means that entrepreneurs must either borrow an excessive amount of capital of give up a significant portion of

ownership to outsiders to fund the business properly. Excessive borrowing in the early days of a business puts intense pressure on

its cash flow, and becoming a minority shareholder may dampen a founder’s enthusiasm for making a business successful. Neither

outcome presents a bright future for the company involved (Norman et al, 2003).
bootstrapping
 You, and your business partners if you have them will be the major source of cash

during the start-up stage. Besides savings you’ve accumulated, other personal resources

might include borrowings backed by secured collateral, such as stocks or bonds, loans

against the cash value of existing life insurance policies, or borrowing against the

equity you’ve built up in your home. Most small service firms, boutiques,

manufacturers, and other types of businesses stat in this way: Funds come from

personal resources and personal borrowings of the entrepreneur (Sanzo, 1997).

bootstrapping
 Knowledgeable investors will not put money into a new business unless they have concrete evidence that the

entrepreneur has personally made a sizable financial commitment in the business. They know from experience

that if the venture turns sour it will be easier for you to back out if you don’t have your own’ money at stake.

Thus, to obtain sufficient financing, you will have to invest a substantial portion of your personal worth in your

venture.

 Investors, whether financial institutions, venture capital firms, or individuals, invest in people as well as in

companies, products, or ideas. Your money talks when you show your personal commitment to the venture by

putting up your own resources. And investors will not usually listen to you unless you do (Osgood, 1982).
DEBT FINANCING
Short-term Debt Financing
 Expected to be paid within one year

 Most often used to finance short-term

expenditures such as inventory, supplies,
payroll, etc.
 Trade debt

 Banks

 Asset-based lenders

 Factors
Long-term Debt

 Beyond one year

 Most often used to fund fixed asset

purchases
 Banks: term loans
 Leasing companies
 Real estate lenders
Overlooked Forms of Debt

 Property leases

 Long-term employment agreements

 SBA or other government backed lending

programs
6 C’s: Criteria for Lending by Bankers
1. Character of founder and key leaders
2. Capital – equity . . . “skin in the game”
Venture
3. Capacity – cash flow capability to easily make
interest and principle payments & awareness
4. Conditions – industry trends, seasonality,
operational changes, world events, etc.
5. Collateral – “hard” assets to pledge
Banker
6. Common sense – what does your gut tell you?
Downside of Debt
 Increased risk during economic slowdown

 Impact on proceeds from business sale

 Restrictive covenants

 Personal guarantees
EQUITY FINANCING
Sources of Equity Funding

 Funding from the entrepreneur

 Family and friends (and “fools”!)
 Strategic partners
 Angel investors
 Private placement
 SBICs
 Venture Capitalists
Equity Financing

 Equity financing requires that you sell an ownership interest in the business

in exchange for capital. The most basic hurdle to equity financing is finding

investors who are willing to buy into your business; however, the amount of

equity financing that you undertake may depend more upon your willingness

to share management control than upon the investor appeal of the business. By

selling equity interests in your business, you sacrifice some of your autonomy

and management rights.

Potential Downsides of Equity Financing

 Dilution of ownership

 The risk of sharks

 Dynamics of adding on new partners

Working with Equity Investors

1. Business plan
2. Confidentiality agreement
3. Letter of Intent
4. Modifications of shareholder agreements
Creating an Array of Financing

 Prioritize financing needs based on forecasts

 Focus financing only on what is critical for

operations
 Create an inventory of all assets and what
proportion of each can be financed
Creating an Array of Financing

 Identify best source of financing for each asset

 Multiple funding sources are likely

 Remember to bootstrap!
Venture Capital: Stages of High Growth
Business Funding

1. Initial stage
2. First round financing
3. Second round financing
4. Late round financing
Initial Stage Funding

 File for incorporation

 Write business plan
 Find office and development space
 Completion of initial design
 Hire key development personnel
 Complete prototype unit
 Complete prototype testing
First Round Financing
 Secure key vendors
 Hire key service or manufacturing personnel
 Rent or build manufacturing facility
 Purchase manufacturing equipment
 Market testing
 First sales contract
 Production of first manufactured unit
 First 100, 1000, 10000 units, etc.
Second Round Financing

 Break-even level of sales

 Development of next generation of

product
Late Round Financing

 Initial public offering

 Sale of business
Angel investors
 What it is: Angel investors might be professionals
such as doctors or lawyers, former business
associates -- or better yet, seasoned entrepreneurs
interested in helping out the next generation.
What matters is that they are wealthy and willing
to invest hundreds of thousands of dollars in your
business in return for a piece of the action.
Angel investors
 Upside: Angel investments can be perfect for
businesses that are established enough that they
are beyond the startup phase, but are still early
enough in the game that they need capital to
develop a product or fund a marketing strategy.
Angel investors
 Many businesses receiving angel investments
already have some revenue, but they need some
cash to kick the enterprise to the next level. Not
only can an angel investor provide this, but he or
she might become an important mentor. Because
their money is on the line, they will be highly
motivated to see your business succeed.
Angel investors
 Downside: You could be giving away anywhere
from 10 to more than 50 percent of your business.
On top of that, there's always the risk that your
investors will decide that you are the business'
greatest obstacle to success, and you could get
fired from the company you created.
Angel investors
 Angel investors, like venture capitalists, also like to
see an end game down the road that will allow
them to pocket their winnings, whether it is a
public offering or your business getting acquired
by another company. You might have to give up
running your enterprise before you're done having
fun with it.