Funding Entrepreneurship & Small Business Management Frank Moyes Leeds School of Business University...
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Funding
Entrepreneurship & Small Business Entrepreneurship & Small Business
ManagementManagement
Entrepreneurship & Small Business Entrepreneurship & Small Business
ManagementManagement
Frank MoyesFrank MoyesLeeds School of BusinessLeeds School of BusinessUniversity of ColoradoUniversity of ColoradoBoulder, ColoradoBoulder, Colorado
Funding
Today’s AgendaToday’s Agenda
FundingFunding SourcesSources Bank debtBank debt
Deal structure: David Kendal, attorneyDeal structure: David Kendal, attorney ValuationValuation
Funding
VC Required Return on InvestmentVC Required Return on Investment
SeedSeed 20x 20x Start-UpStart-Up 10x 10x Early Stage 8xEarly Stage 8x Second Stage 5xSecond Stage 5x Third StageThird Stage 4x 4x BridgeBridge 3x 3x
Return DCFCash on Cash
80% 80% 60%60% 50%50% 40%40% 30%30% 25%25%
Bygraves & Zacharakis
Funding
What do Investors Look For?What do Investors Look For? Management teamManagement team
ExperienceExperience Expertise in industryExpertise in industry PassionPassion
Commitment of CEOCommitment of CEO Market potential: size & growthMarket potential: size & growth Stage of developmentStage of development Scalable product or serviceScalable product or service ProprietaryProprietary Profitability Profitability Acceptable valuation - returnAcceptable valuation - return
Funding
What Methods Are Used To Value What Methods Are Used To Value Entrepreneurial Ventures?Entrepreneurial Ventures?
VC method (see Bygraves & Zacharakis)VC method (see Bygraves & Zacharakis) Financial projectionsFinancial projections Market comps for similar companiesMarket comps for similar companies
Multiple of earningsMultiple of earnings Multiple of salesMultiple of sales
Investor ROIInvestor ROI Usually not a cash flow streamUsually not a cash flow stream Pre-money & post moneyPre-money & post money
Tangible book valueTangible book value P/E ratioP/E ratio Discounted cash flow is not a good method for valuing early Discounted cash flow is not a good method for valuing early
stage companies!stage companies!
Funding
How Are Going to Fund How Are Going to Fund Your New Venture?Your New Venture?
Personal ResourcesPersonal ResourcesFriends & familyFriends & familyDebtDebtEquityEquityGrantsGrantsNon-traditional Non-traditional
Funding
Personal ResourcesPersonal Resources
SourcesSources SavingsSavings Mortgage on houseMortgage on house Credit cards Credit cards
Skin in the game – best indicator of commitmentSkin in the game – best indicator of commitment AdvantagesAdvantages
Prove the conceptProve the concept Establishes value before go to outside investorsEstablishes value before go to outside investors
DisadvantagesDisadvantages Pressures on familyPressures on family
Funding
Friends & FamilyFriends & Family
Easy negotiationEasy negotiation Should have a formal agreementShould have a formal agreement AdvantagesAdvantages
Maintain controlMaintain control DisadvantagesDisadvantages
Unsophisticated investorsUnsophisticated investors Different kind of obligationDifferent kind of obligation Turn a good friend to an enemy?Turn a good friend to an enemy?
Funding
EquityEquitySourcesSources
F & FF & F AngelsAngels Private PlacementPrivate Placement Venture CapitalVenture Capital Corporate venture subsidiariesCorporate venture subsidiaries IPO (Initial Public Offering)IPO (Initial Public Offering)
AdvantageAdvantage Permanent capitalPermanent capital
DisadvantagesDisadvantages Give up piece of company (dilution)Give up piece of company (dilution) Responsibilities to investorResponsibilities to investor Exit for investor – achieve a returnExit for investor – achieve a return
Funding
AngelsAngels
Sophisticated investor who invests in early stage Sophisticated investor who invests in early stage companiescompanies 250,000 + angels in US250,000 + angels in US Invest $5 bill - $10 Bil, 20K – 30K companies annuallyInvest $5 bill - $10 Bil, 20K – 30K companies annually Typical investment = $25K - $250KTypical investment = $25K - $250K High net worth individualsHigh net worth individuals Usually wants to invest in industry where has experienceUsually wants to invest in industry where has experience
Accessing AngelsAccessing Angels Not in the Yellow PagesNot in the Yellow Pages NetworkingNetworking ACE-net.orgACE-net.org
Funding
Angels (cont’d)Angels (cont’d)
AdvantagesAdvantages Early stage resourceEarly stage resource Value-added money : network, advice, commitmentValue-added money : network, advice, commitment
DisadvantagesDisadvantages No follow-on fundsNo follow-on funds Give-up equityGive-up equity Over-control from angelOver-control from angel
Funding
Private PlacementPrivate Placement Private offering to a focused group of investors Private offering to a focused group of investors
Accredited investorsAccredited investors SEC & Blue Sky Laws applySEC & Blue Sky Laws apply If less than $1 million, then any number of small investorsIf less than $1 million, then any number of small investors
Sam AdamsSam Adams AdvantagesAdvantages
Quicker & less expensive than IPOQuicker & less expensive than IPO SEC regulations are not as onerousSEC regulations are not as onerous
DisadvantagesDisadvantages Give up equityGive up equity Lack of advice / mentoring Lack of advice / mentoring Can be complicated, expensive & take a lot of timeCan be complicated, expensive & take a lot of time Minority investorsMinority investors
Funding
IPOIPO Public offering to buy ownership in an organizationPublic offering to buy ownership in an organization AdvantagesAdvantages
Obtain cash for opportunities that would otherwise be Obtain cash for opportunities that would otherwise be unaffordableunaffordable
More capital with less stock dilutionMore capital with less stock dilution To achieve liquidity for owners and investorsTo achieve liquidity for owners and investors
DisadvantagesDisadvantages Costly and time consumingCostly and time consuming Change of leadership focusChange of leadership focus
Funding
GrantsGrants State, regional and municipal State, regional and municipal
development agenciesdevelopment agencies CapCoCapCo
FederalFederal SBIR (Small Business Innovation SBIR (Small Business Innovation
Research)Research) CREDA (Cooperative Research & CREDA (Cooperative Research &
Development Agreement)Development Agreement) Research – university & corps.Research – university & corps. FoundationsFoundations freemoney.comfreemoney.com
Advantage: no equity or debtAdvantage: no equity or debt Disadvantage:Disadvantage:
Red tape and stringsRed tape and strings Grant mentalityGrant mentality
Funding
Non-traditional Funding SourcesNon-traditional Funding Sources
CustomersCustomers SuppliersSuppliers Joint ventures and strategic partnersJoint ventures and strategic partners Leasing of equipmentLeasing of equipment Broker/PromotersBroker/Promoters Microloans – banks & non-profits <$25,000Microloans – banks & non-profits <$25,000 IncubatorsIncubators Equity for professional servicesEquity for professional services
Funding
GovernmentGovernment
SBIC’s – a “government VC”SBIC’s – a “government VC” 450 in the US450 in the US Backed by the SBABacked by the SBA $13 bill since 1958$13 bill since 1958
Small Business Development Centers – state and local Small Business Development Centers – state and local organizations finance job creationorganizations finance job creation
Funding
DebtDebt
BanksBanksSBASBACredit unions, S & L’sCredit unions, S & L’sFactoring receivables & inventoryFactoring receivables & inventoryCommercial Finance companiesCommercial Finance companiesMezzanineMezzanine
Sits on balance sheet between debt and equitySits on balance sheet between debt and equity Debt, but doesn't have to be repaid right awayDebt, but doesn't have to be repaid right away Equity, warrantsEquity, warrants
Guido Guido
Funding
DebtDebt
AdvantagesAdvantages No dilutionNo dilution
DisadvantagesDisadvantages Very difficult to obtain in early stagesVery difficult to obtain in early stages Must pay backMust pay back Interest expenseInterest expense Personal guaranteePersonal guarantee Lack of value-add moneyLack of value-add money
Funding
Borrowing from BanksBorrowing from Banks
Types of loansTypes of loans How banks look at borrowers?How banks look at borrowers? How do you approach a bank?How do you approach a bank? Personality of a bankPersonality of a bank SBA LoansSBA Loans
Funding
Types of Bank LoansTypes of Bank Loans
Short term loansShort term loans One timeOne time Line of creditLine of credit
Term loansTerm loans Monthly installmentsMonthly installments BalloonBalloon
Secured and unsecuredSecured and unsecured
Funding
How Banks Look at Borrowers?How Banks Look at Borrowers? Attitude toward riskAttitude toward risk 4 C’s: credit history, character, capacity, collateral4 C’s: credit history, character, capacity, collateral How are you going to repay it?How are you going to repay it?
Not: “If I default, there are assets to cover it.”Not: “If I default, there are assets to cover it.” Banks don’t like work-out situationsBanks don’t like work-out situations
Cash flow loans Cash flow loans Realizable assetsRealizable assets
Accounts ReceivableAccounts Receivable InventoryInventory
Personal guaranteesPersonal guarantees
Funding
How Do You Approach a Bank?How Do You Approach a Bank?
Establish a good credit historyEstablish a good credit history Borrow when you don’t need itBorrow when you don’t need it
Business PlanBusiness Plan Costs & feesCosts & fees
Loan processing feeLoan processing fee Interest ratesInterest rates
Services providedServices provided
Funding
Personality of a BankPersonality of a Bank
Banks have different policiesBanks have different policies Big company or small companyBig company or small company Aggressive or cautiousAggressive or cautious New companies or establishedNew companies or established
How important are relationships?How important are relationships? Shop around – new customers seem to get better deals Shop around – new customers seem to get better deals
than existingthan existing Keep them informed of how your business is doing – no Keep them informed of how your business is doing – no
surprisessurprises
Funding
Small Business Administration Small Business Administration (SBA) Loans(SBA) Loans
Loan made by a bank, but guaranteed by the fedsLoan made by a bank, but guaranteed by the feds Criteria for receiving a SBA loan similar to bank loan, Criteria for receiving a SBA loan similar to bank loan,
but will take a greater riskbut will take a greater risk FeesFees Interest ratesInterest rates
Funding
Factors Affecting Discount RatesFactors Affecting Discount Rates
Total Discount Rate
Base Rate
Systematic Risk
Liquidity
Value Added
Cash Flow Adjustment
Seed Stage 1 Stage 2 Bridge IPO
Just
ifia
ble
Dis
coun
t Rat
e
Sahlman, A Method for Valuing High-Risk, Long-Term Investments, teaching note, HBS 9-288-006.
Risk-freeinvestment
Marketsensitivity
Risk of failureadjustment
Value ofVC adviceInvestment
not liquid