Get documents about "A Crash Course On Financial Statments for Small Business Owners
Document Sample
5
What Do Potential
Investors Want?
I nvestments come in two broad categories: credit and equity. Small
businesses rely far more on credit than on equity. Bank loans are
important, as are trade credit and leases of various kinds. Asset-based
loans, such as loans against accounts receivable, play a role. Equity
investment after startup depends largely on performance. If the busi-
ness is profitable and needs capital to grow, the business can attract
both inside investors (current owners and management) and outside
investors. It can also generate capital from operations, and should, but
that is only indirectly an investment.
Lenders look for the return of their capital plus interest. Investors
look for return of capital, significant gains, plus in some cases, so-
cial returns. Investors range in sophistication from individuals with
little business sense to the most experienced and cold-blooded ven-
ture capitalists.
28 A Crash Course On Financial Statements
Who Invests in Small Businesses
Part One
Besides Banks?
You
You have to invest your personal savings and assets in your business
before other investors will risk their capital. Your investment shows
your belief in the business model and a willingness to accept the risks
Be Prepared to Be Prepared: Before Seeking Financing
and rewards that your business generates. You should be the most
cautious of all investors: you face personal, financial, career, and fam-
ily risks, while other investors only risk capital. (Fortunately small
business owners and other entrepreneurs are willing to barge ahead
anyway. Otherwise there would be no new enterprises.)
What do you want? If you’re like most people, you want a profit-
able business that affords a living first, with the possibility of signifi-
cant capital gains second. Perhaps you have a vision of establishing a
family business or a fortune.
You can raise cash from your savings and other investments, from
the sale of assets (such as a boat or a car or art), home equity, or refi-
nancing a major asset such as a house. You might have an insurance
policy with cash value. After conferring with your accountant for pos-
sible tax consequences, you can tap retirement assets such as your
401(k) or IRAs. People have been known to use credit cards, but that
route is expensive and risky.
Friends and Family
These are people who essentially invest in you. This has good and bad
consequences. They want you to succeed (all investors want this) but
if you don’t they are not likely to hound you. It’s a good idea to docu-
ment their investment: Do they want interest on their investment or are
they willing to let their capital stay with you until such time as you can
cash out? Do they want part ownership? Do they want some say in the
management of the business or are they willing to be passive investors?
The more you understand their wants, the better. Hidden agendas
have wrecked many a growing business and even more relationships.
Yes, friends and family are more willing to invest in your business
than outside investors.
There are compelling legal and tax reasons to spell out the terms
of the investment. Is their investment a loan to be repaid? What are
the terms? Or is it an equity investment that gives them partial owner-
29
ship? The IRS has been known to impute interest income to people
Chapter 5
who have informally loaned money to a small business.
SBA
The SBA has two main functions. First, it provides a wealth of free
and low-cost advice to small business owners through publications,
What Do Investors Want?
its Web site, trainings, seminars, and workshops. Second, it guaran-
tees bank loans, principally through the 7(a) program.
What it doesn’t do is provide direct investments or grants to small
businesses. While there are a few programs on the books that purport
to do this, they aren’t funded—so don’t waste energy pursuing them.
The SBA’s mission is to help small businesses prosper. It won’t back
just any loan application; the applicant has to have a good chance of suc-
cess. The SBA doesn’t want to squander its resources on high-risk ven-
tures, so in many ways it operates with the mindset of a careful banker.
The loan guarantees can make a difference between qualifying for
a bank loan or not. The SBA can guarantee up to 85 percent of the
principal, thus limiting the bank’s exposure to loss.
Who’s eligible? If you’re unable to secure traditional bank financ-
ing, you are probably eligible. Go to the SBA Web site (sba.gov) to see
if you qualify for any of the specialized SBA programs. This Web site
has been greatly improved and is worth a visit, if only to get an idea of
what the SBA can provide.
Your Business
Your profitable business should generate capital. This isn’t a speedy
process by any means, but over time it’s the major source of capital for
growth. For a short-term source of funds you might sell assets (equip-
ment that you don’t use, for example) or refinance assets. You might be
able to sell a major asset to a leasing company (see below) and arrange
to lease it back, thus enjoying use of the asset at a lower monthly cost.
Factors
Factors are big players in some industries. A factor will buy some or
all of your receivables, either with recourse or without, and take over
the collection of those receivables. The advantage to you is immedi-
ate cash. The downside is that this is an expensive mode of financing.
The factor’s interest is in establishing a continuing relationship with
30 A Crash Course On Financial Statements
your business—repeat business in which they get to know and under-
Part One
stand the rhythms of your sales and collection cycle.
Trade Credit
Trade credit is another major source of financing. Your suppliers want to
continue to sell you their products and services, and if you a. are profit-
Be Prepared to Be Prepared: Before Seeking Financing
able, and b. have a good credit history, they may be willing to extend terms
to you. New businesses have a tough time getting trade credit, but once up
and running you’ll find this a valuable part of your financing plan.
Leasing Companies
Leasing companies range all the way from banks to manufacturers’ internal
leasing programs. Think of car leases—the leasing company owns the asset
and gets the depreciation on it, which makes it possible for you to enjoy
the use of the asset at a lower monthly cost than you would otherwise.
What gets leased? You name it: airplanes, railroad boxcars—equip-
ment of all kinds.
Angels and Venture Capitalists
Angels and venture capitalists play an interesting role in financing
small businesses. Authors like to include them in financing books be-
cause angels and VC investors are exciting. However, their role in small
business is tiny. Consider this factoid: Of the 750,000 new businesses
that spring up each year, only 900 will get the attention (let alone the
cash) of these investors. That works out to about one tenth of 1 percent,
concentrated in high tech, medical, and big media industries.
That said, angels (individual investors, sometimes ad hoc groups
of individual investors) provide seed capital for small businesses with
significant growth potential. They tend to invest in areas where they
have experience (doctors in medical software, for example). They invest
through loans, direct equity, or a combination, such as convertible loans.
They want to get their money back, of course, and want to get a good rate
of return on their capital, but often have other motives than purely finan-
cial. Some want to help their community, others want to encourage the
coming generation of entrepreneurs, and some just want to keep busy.
Venture capital firms invest to make money. If you don’t have a
blowout technology or a huge potential secured by a proprietary lock
on some important process, they’ll ignore you.
Excerpt from A Crash Course on Financial Statements for Small Business by David H. Bangs.
Copyright © 2010, by Entrepreneur Media, Inc. All rights reserved.
Reproduced with permission of Entrepreneur Media, Inc.
Related docs
Other docs by entpress
Dirty Little Secrets: What the Credit Reporting Agencies Won't Tell You_Chapter 6
Views: 8632 | Downloads: 0
