Before you click close on your browser, it is worth noting that raising money is arguably the highest value, transferable skill you can have in business. Whether it’s for getting a project funded by your board, funding a leveraged buy-out of a competitor, or securing enough cash to keep the lights on. Raising finance is valuable to any business, it is both company and sector agnostic. There are a few critical early steps, which can make all the difference. Starting with understanding the source of funding.
Step 1: Why do you need or want funding?
A clear, crisp answer to this question is vital. Be ready to dive down several levels, no serious investor will stop at your first answer. Do five whys with colleagues or a friend before finding yourself in the glare of investors. This question can come in other more subtle ways too;
· What will you spend the cash on?
· What is the purpose of the investment?
· If we invest, how will the investment fuel growth?
Get this part right and you are off to a good start. Before you facing an investor, you need to also understand how much investment you are seeking.
Step 2: How much investment do you want?
Having identified why you need investment and what you will spend it on, calculate how much you need. You will wrap this up in some form of plan, proposal or application to potential investors. The depth and breadth of the proposal will depend on who you are asking and how much for. This leads us nicely on to, which of the four sources of investment you are after.
Step3: What type of investment are you seeking?
The ideal answer to this question is the most appropriate and best value investment. Understanding the four sources gives the best chance of achieving this.
A. Working Capital or Reserves
This is “free” cash in the business available for investing. Most healthy businesses generate cash from their operations. Businesses that have cash, have choices. Typical examples of this are investing to; increase efficiency of operations, launch a new product, acquire a competitor, expand overseas, pay dividends to shareholders, the list goes on… This is the least expensive option; it is “yours” to spend. Remember to compare returns for different options you have. Like all investors consider risk and reward as your primary drivers.
B. Debt
Typically, this comes in the form of a loan. Like any form of borrowing, it comes with the obligation to pay the full amount back, plus interest. Most business borrowing comes with a requirement to provide security. Be very, very clear about this point before taking on debt. The security is what you, or the business, will lose if you are not able to make the repayments. I have seen friends lose their houses after providing personal guarantees against company loans. Equally, if you make the repayments then it is not an issue. Debt is still relatively inexpensive, given the current interest rates.
C. Grants
Often grants are considered less expensive than debt funding. This very much depends on the circumstances. Grants are government i.e. tax payers’ money being spent to drive economic or employment growth. The method of distribution is almost always through competitions. Average success rates can be as low as 2%, making them extremely competitive. Make sure you know you have an edge. Remember to factor in the cost of creating a bid, your contribution (typically 30 - 50% of the total) and administration. This is tax payers’ money so it rightly comes with a high level of administrative oversight.
D. Equity
An equity transaction usually involves selling shares of the business in return for cash. This might be all the shares in the case of a buy-out. In the medium to long-term this can be the most expensive source of finance. We will cover preferential shares in a future blog. Even with ordinary shares, the new shareholder is entitled to their share of dividends and growth in the value of the business. A useful way to think of this is the new shareholder is a spouse; if things go wrong, the “divorce” can be both painful and expensive.
When I present on this topic, there are two common questions. The first is something like, “what about crowd-funding?” Crowd-funding can be a very useful alternative to traditional methods of raising investment. But it is one of, or a blend of three of the four sources, i.e. working capital, debt or equity. The second usually relates to invoice finance or factoring, these fall within the scope of working capital. Each source has a whole range of options within them. Even when you are clear which of the sources fits your circumstances best, I recommend getting an experienced advisor. The best value often comes from receiving as many offers as possible, so do not jump at your first.
I hope found this useful? Please let me know in the comments below…
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