5aa Financing Strategy g

8/13/2019 5aa Financing Strategy g

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Entrepreneurship

Financing Strategy:Debt, Equity or Both?


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Entrepreneurship, 2ndEditionMariotti and Glackin and NFTE

2010 Pearson Education, Upper Saddle River, NJ 07458.

All Rights Reserved.2

Financing

Ways to obtain capital for a small business:

1. Put more of your moneyinto the business

2. Exchange a share of the business for moneyallow buy-ins (equity)

3. Borrow the money from others (debt)

4. Obtain gifts & grants from others


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Gifts & Grants Gifts

Cash, free use of facilities & equipment, unpaid laborfrom friends & family, & forgiveness of debts

Tax abatements & tax credits

Grants Primarily for research & commercialization

Difficult to get for low-tech, start-ups

+ Do not require repayment, loss of ownership, or financing costs- Gifts/grants often have restrictionscome with strings attached

DONT STAKE YOUR BUSINESS ONLY ON GIFTS & GRANTS


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Ways to Secure Growth Funding

Finance with equity Incorporated firms can sell stock

Take on a partner and have them put $$$ into the firm

Finance with debt Borrow the money. Is the business credit worthy?

Government sources of funding Grants, guaranteed loans, etc.

Customers and suppliers Using special terms and float

Finance with earnings (future) Is the firm profitable? Does the firm have positive cash flow?


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Finance Sources

Financing with Equity Sources Getting an ownership stake

No guaranteed returns

No protection against lossesAppreciation in value through

growth in earnings and growth in assets

Takes time arrange


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Stocks

Shares of stock represent a percentageownership in a corporation.

Public corporations sell stock to thegeneral public to raise capital.

Prices of stocks reflect investorsopinions about business performance &value.

Traded on stock exchanges.


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Other Equity Financing Options

Venture Capitalists: Private investors seeking equity want to have influence on decisions

Wont invest in company with less than $25 million in sales over 5 years

Want return of 6 times investment over 5 years (45% ROI/yr)

Want a business with 30-50% growth/yr and 20% pre-tax profit margins

Typically invest sizable amounts in businesses

Angel Financing: Private investors seeking equity Net worth > $1 Million

Want return of 10 times investment over 5 years (60% ROI/yr)

Typically invest $100,000$500,000

Bootstrap Financing: Hire as few employees as possible

Lease rather than buy equipment

Use vendor financingget suppliers to extend your credit terms

Use personal savings, second mortgages, loans from friends & relatives

Work from home, borrow office space, or use business incubators

Put profits back into business


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Equity Financing: Pros and Cons

Pros:

If business doesnt make profit, investor dont get paid

Equity investor cant force bankruptcy to recoup investment

Equity investors want business success; will share contacts & advice

Cons:

Entrepreneur can lose control of business to equity investorsstockholdings become diluted

Equity investors take more risk, want higher returns and influenceover how the company is run

Entrepreneur must share profits with equity investors


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Debt Financing: Pros and Cons

Pros:

Lender has no say in operation of business Loan payments are predictable

Lenders do not share businesss profits

Cons: If loan payments are not made, lender can force

business into bankruptcy

If business is not incorporated & defaults, lender cantake house & other possessions of owner

Loan payments increase fixed costs, lower profit

Payments reduce available cash in the company

Compliance with the contract is expectedno skips


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Finance Sources

Financing with Debt Commercial Banks & Finance

Companies

Personal Loans Leases

Convertible Debt

BondsGetty Images


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Debt Financing

Available in many forms

Commercial loans REAL ESTATE - up to 20 years

EQUIPMENT - up to 7 years

WORKING CAPITAL - less than 1 year

ACCOUNTS RECEIVABLE FACTORING - 30 to 90 dys

Personal loans CREDIT CARDS

HOME EQUITY LOANS

PAY DAY LOAN

Leases VEHICLE LEASE - 2 to 3 years with option to purchase at the end

EQUIPMENT LEASES - why buy what you can rent?


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Finance Sources

Commercial BanksAre highly regulated

Look at the five Cs: character,

capacity, capital, collateral, conditions Favor ventures that can give hard

assets as collateral

Are difficult to get financing from


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The 5 Cs of Credit

Collateral Property and assets to pledge.

Character What is your credit history?

Capacity Sufficient cash flow to make the monthly payments?

Capital How much investment (skin) do the owners have in this business?

Conditions Industry and economic climate

ARE YOU WILLING TO SIGN A PERSONAL GUARANTEE TO GET THE LOAN?


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Finance Sources

Commercial finance companies orasset based lenders:

Are less rigid compared to regular banks

Often charge a higher rate of interest Consider the quality of the assets of the

business


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Finance Sources

Using Convertible Debt

Better returns to lenders

Lenders get returns from day one

Possibility to get back the loan amountVenture gets immediate use of funds

Conversion relieves the burden of debt

Planning the timing is possible


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Bonds

Long-term interest bearing certificatesthat corporations & governments issueto raise capital.

Lower risk & return expected than with

stocks.A form of debt financing with a

guaranteed rate of return to investors.

Trade at premiums or discounts.


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Government Finance Sources

Government Sources of Funding Small Business Investment Company (SBIC)

Long-term loans or equity capital invested in small growing companiesover a longer period of time

Venture Capital Institutes and Networks Found on university campusesacts as a conduit so entrepreneurs can

easily locate interested investors

Small Business Administration (SBA) Counseling, micro-loans, guarantees to debtors

State-Funded Assistance Tax holidays, infrastructure investments, forgiveness programs


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Small Business Administration (SBA) Loans provide aid, counsel, and protection

Many loan programs:

Micro loans-up to $35,000

LowDoc Loans -- up to $150,000 SBA Express loans -- up to $250,000

Guarantees given to intermediaries who sanction loan


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State-Funded Assistance

States give incentives like Tax holidays

Tax exemption and relief (Enterprise Zones) Equity participationinfrastructure improvements

Loan programs

Convertible debt & forgiveness programs


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Financing from Customers and Suppliers

Customers and Suppliers

Understand the entrepreneurs business

Have a vested interest in your business remaininghealthy and cooperative

Customers may pay earlymake down payments onfuture orders (pay on date of order, and on date of delivery)

Suppliers may offer special terms favorable to the

business (instead of net 30 on invoices, for younet 60 or net 90)


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2010 Pearson Education, Upper Saddle River, NJ 07458.All Rights Reserved21

Financing with Future Earnings

Will stable (predictable) profits be generatedby the business?

Will positive cash flows be achieved eachyear?

Can we safely withdraw large amounts ofcash from the business each year?

5aa Financing Strategy g

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