Raising Money Sources of Finance

Raising Money How will we finance the opportunity? Where will the money come from?

Typical New Venture Funding Sources Angel Investors Venture Capitalists Private Equity Public Equity Banks Self-financing

Angel Investors Who are they? – Wealthy individuals – Often successful entrepreneurs What drives their investment decision? – A belief that the entrepreneur has done the homework – A belief that the idea holds great upside potential Where does their money come from? – Usually funded from personal savings

Venture Capital Investors Who are they? – Professionally managed investment vehicles – Usually in the form of a limited partnership What do they expect to get? – Equity – Significant return on investment (~ 30% CAR) – A clearly pre-defined exit for 5 – 7 years later Where does their money come from? – Pension funds – Wealthy individuals

Private Equity Investors Who are they? – Professionally managed investment vehicles – Can be in the form of a limited partnership, also mutual funds What drives their investment decision? – Track record of the business – A belief that market conditions allow for expansion of the business Where does their money come from? – Pension funds – Insurance companies – Mutual funds

Public Equity Investors Who are they? – Retail investors Individuals – Institutional investors Pension funds, mutual funds, corporations What drives their investment decision? – Retail investors Emotion, hot tips, their own analysis – Institutional investors Investment policy (hurdle rates, sector & country allocations, etc.)

Banks Who are they? – Lending institutions What drives their investment decision? – The creditworthiness of the borrower Ability of the business to service the loan (make payments of interest & principal) Collateral (can be supplied by a third party) Where does their money come from? – Depositors

What do these investors look for in common? Significant shareholder value growth (“$”) for expansion capital or reliable cash earnings – Consideration of: transparency, honesty, creativity, responsibility, accountability, teamwork, etc. – Appropriate industry, investment size, stage of company development – can vary depending on risk tolerance and desired ROI

Pros and Cons Advantages: – allows companies to access situations otherwise closed to “high risk” investments – someone to share the risk – ensures better analytical discipline – access to investor’s network of financiers, customers, suppliers advisers

Pros and Cons Disadvantages: – high cost of funding if successful – partial loss of control – extra reporting requirements

Self-finance From where? – Family – Friends – The entrepreneur What drives their investment decision? – Based on a belief in, or relationship with, the entrepreneur – Based on a belief that the idea is at least feasible Where does their money come from? – Usually funded from personal savings or new borrowings (mortgage on real estate)

Funds are often applied to different purposes SourcePurpose Self finance Initial start-up funds Angel Investors Initial start-up funds Venture Capitalists Just after start-up Private Equity Longer-term growth of an established company Public Equity Capital investment requirements of an established company, exit for VCs Banks Financing for most operating needs

Do all businesses have to raise money? The answer is ‘No’ but instead…

You can Bootstrap! InvestRun BusinessGenerate Cash Redeploy

Bootstrap Get operational quickly. Look for quick, break-even, cash- generating products Consider high-value products or services that you can sell directly Don't chase high-priced talent Source: "Bootstrap Finance," 1992 HBR article by Amar Bhide, Columbia University

Bootstrap Keep growth in check Focus on cash, not profits, market share, or anything else Cultivate banks before the business becomes creditworthy Source: "Bootstrap Finance," 1992 HBR article by Amar Bhide, Columbia University

How to Bootstrap? Do not buy new what you can buy used, Do not buy used what you can lease, Do not lease what you can borrow, Do not borrow what you can barter, Do not barter what you can beg, Do not beg what you can scavenge, Do not scavenge what you can get free, Do not take for free what some one can pay you for!

Some Final Lessons on Raising Money The longer you wait (and the more developed the opportunity), the less the cost of capital (less risk to the investor) Seek money BEFORE you need it Investors will probably give their money in stages, providing you achieve pre-negotiated targets Not all ventures require venture capital Bootstrap when possible

How to Approach Investors Research potential investors Only approach appropriate investors Prepare a very good Business Plan Prepare and rehearse a very good presentation (no set standard: 30 seconds / mins) Be clear about what you need (how much, when, what for) and have some idea about what you’re prepared to offer (% of equity) Progress your venture as much as you can on your own before approaching investors

All materials used in this session are available in the NEN CD Kick-Starting the Entrepreneurial Campus under Inside the Classroom – section “Entrepreneurship Concepts”, subsection “Finance and Fundraising”