FINANCING
Raising start-up capital and financing ongoing operations is clearly a wide-ranging subject. It sometimes seems impossible to separate the myriad details you need to be aware of in order to put your business on a firm financial footing. Do not worry needlessly about any bewilderment you may initially experience. Veteran financial planners are the first to admit that the question of raising money is broad and is in large measure a function of the sophistication and experience of the person involved.
How does the “little guy the one who’s never raised capital before go about raising money? Simply stated you can attempt to have others raise the capital for you or try to raise it through your own resources. However a fairly well-defined set of rules comes into play depending upon the course you take. If you seek all of your capital from one large investor you will end up with a much smaller piece of your company. If you attempt to raise the money yourself from among your own acquaintances you can normally arrange a much better deal for yourself.
If there is any single item of advice most appropriate for the new entrepreneur in need of raising money it is that he should make a careful assessment of the proposed value of his business determine how much capital he is going to need in what increments and over what time period. Then decide about the source a Small Business Investment Company (SBIC) a single investor a private placement of securities with friends and relatives a private placement through a securities firm or a public offering either through a securities firm or through a self issuer distribution.
In any of these approaches you’re going to need a business plan. Once you’ve chosen a course of action follow it without deviation and abandon it for another course only when your first choice has clearly proven unfeasible. Tenacity is everything. If the entrepreneur’s product or idea has merit a formula that works can usually be found.
Tap Yourself First
The best source of financing for anybody wishing to start a business is of course his or her very own money. It is the easiest and quickest form of capital to acquire there is no interest to be paid back and you don’t have to surrender any equity in your business. But getting any venture off the ground can be a very costly proposition one that may be beyond your immediate cash reserves. If this is the case then there are several avenues you can turn to in order to obtain the necessary capital.
Friends & Relatives
After your own money your friends and relatives are the next-best choices. Any money raised through this avenue however should be treated as a real loan. In fact have your lawyer draw up loan papers for each friend or relative who contributes money to your venture.
Having friends and relatives who loan you money actually sign loan papers serves two purposes: It protects their loan and it prevents them from gaining equity in your business unless you default on the loan.
Borrowing from Banks
Banks are probably the most visible source of ready financing available and you should already have contact with a few through your personal and business accounts. But while banks are logical places to go in order to raise capital they are many times not the best because they are notoriously conservative.
Most banks will require some sort of collateral as security for the loan. They will also want to know what the loan is for so be prepared to show them your business plan. Also your personal background information will have a direct bearing on how your loan applications are treated.
Depending on the size of the loan you request there are several bank loan and collateral possibilities. If you have a savings account at a bank you can use this money as collateral for a short-term loan. This is actually a very good way to get financing because it lowers your interest rate. For instance if you take out a loan at 13 percent and your savings account is earning 7 percent the actual interest rate you’ll be paying is 6 percent.
It may also be possible to use your life insurance policy as collateral if it has any cash value. Usually loans can be made up to 95 percent of the policy’s cash value. By borrowing against your life insurance policy you don’t have to actually repay the loan, all you really need to do is pay the interest charges along with your premium. However if you don’t repay the amount borrowed at some time your policy will decrease that much in value.
Signature or personal loans are a possibility if your credit is good. You can usually take out a loan of this type for several thousand dollars even more if you have a good relationship with the bank. But these loans are usually short-term and have very high interest rates.
Another short-term loan is a commercial loan. These types of loans are usually issued for a six-month period and can be paid in installments during that time or in one lump sum. Stocks and bonds your life insurance policy or your personal guarantee can be used as collateral. If the loan is exceptionally large compared to your assets the bank may require that you post a cash reserve with them that is equal to 20 percent of the loan amount.
You can also use any real estate you own as collateral. Loans of this nature can be secured for up to 75 percent of the real estate’s value and can be set up for a term of 20 years if necessary.
Other loan possibilities include inventory equipment or accounts receivable financing. These types of loans use the value of your inventory equipment or accounts receivable as security for a loan. Using your inventory as collateral a bank will usually loan up to 50 percent of its value. Equipment loans will cover 80 percent of the equipment’s value. And with accounts receivable most banks will loan up to 80 percent of the receivables’ value.
The SBA
Although it is difficult to get a loan through the Small Business Administration it is not impossible. By law the SBA may not make or guarantee a loan if a business can obtain funds on reasonable terms from some other source. Therefore a borrower must first seek private financing before applying to the SBA. The SBA considers itself to be a lender of last resort.
In order to qualify for an SBA loan your loan application must be for financing of an independently owned and operated business. Loans cannot be made to speculative businesses newspapers or businesses engaged in gambling, nor can loans be made to pay off a creditor who is adequately secured and in a position to sustain loss provide funds for distribution to the principals of the applicant or replenish funds previously used for such purposes.
Be fully prepared to prove to the SBA that your proposed company has the ability to compete and be successful in its particular field. Whether you’re seeking a loan for an untried concept or an established one don’t underestimate the importance of the category into which the SBA groups it. The success or failure of your application may rest on the classification the SBA assigns it. Determine which field or area your business can best compete in state this in your application and be prepared to back it up.
In order to help you prepare for this question you should be aware of how the SBA formulates its guidelines. A key publication it relies on is the Standard Industrial Classification (SIC) Manual published by the Bureau of the Budget Washington DC. The SBA also uses published information concerning the nature of similar companies as well as your description of the proposed business. The SBA will not intentionally work against you, therefore it is up to you to steer the agency in the direction most beneficial to you.
The maximum amount you may borrow under an SBA-guaranteed loan is $550 000. This is based on the SBA’s present limit of guaranteeing up to 90 percent or $500 000whichever is less of a bank loan to a small firm. Interest on the loan will be set according to a statutory formula based on the cost of money to the government.
Although loans are available for as few as one to two years and as long as 25 years (for construction and real estate purposes) the vast majority run for five-to- eight-year terms with 10 years being the limit (except for working-capital loans which are limited to seven years).
As collateral for an SB A loan you can use certain assets as security:
1. Land and/or buildings,
2. Machinery and/or equipment,
3. Real estate and/or chattel mortgages,
4. Warehouse receipts for marketable merchandise,
5. Personal endorsement of a guarantor (a friend who is able and willing to pay off the loan if you fail).
The above information is a brief overview of the qualifications and terms for an SBA loan. More information on SBA requirements and how to effectively apply for a loan through this agency can be found in Entrepreneur’s special report No. X1315 the Guide to SBA Financing and the Entrepreneurs Institute.
Finance Companies
Geared moss by toward active investor’s finance companies will allow for a greater amount of risk in the loan than will banks but they also charge a higher interest rate. Generally finance companies will be more interested in your collateral your past track record and the potential of your new business rather than the strength of your credit.
Using Suppliers as Loan Sources
Although you won’t be able to finance your complete start-up through suppliers you may be able to offset the cost of the merchandise during your startup period by obtaining a lengthy payment period or trade credit. When you’re first starting your business suppliers usually will not extend trade credit. They’re going to want to make it all C.O.D. But try immediately at the very beginning to get on a credit basis with suppliers. One of the things you can do to make that happen is to have a properly prepared financial plan and negotiate with the owner of the business or the chief financial officer.
If you’re successful you may defer payment for supplies from the time of delivery to 30 60 or even 90 days interest free. While this is not specifically a loan because you don’t have to pay for goods right away the money needed for those supplies is kept in your pocket during the crucial start-up period.
Using Your Credit Cards
One of the most overlooked avenues of obtaining start-up capital is your credit cards. Most charge extremely high interest rates but it is a way to get several thousand dollars quickly without the hassle of dealing with paperwork as long as you don’t go above your specified credit amount.
We know of one person who had three credit cards with a credit line on each card of $3 000. He wanted to start an auto detailing shop and needed approximately $8 000. Using his credit cards he cashed each in for the full amount and started his shop, within six months he had built up a very good business and approached his bank for a loan of $10 000. He received the loan for a three-year term at 12 percent. With the $10 000 he paid off his credit card balances that were incurring a 20-percent annual rate. After another six months he paid off the bank loan of $10 000.
Selling Equity
Sometimes raising start-up capital requires giving up a portion of your business to private investors. Such money is called equity capital. Equity financing means dividing your business ownership among investors who contribute capital but may or may not participate in the operation of the business itself. There are no loans associated with equity capital and there is no legal obligation placed on you to pay back the amount invested. All the investor gets for his money is a percentage of the business and the losses and profits associated with it.
While equity capital may at first glance seem like the best route to take to raise start-up capital there are many draw backs associated with this method. First of all you give up a portion of your business and with it some control. That means you have to share your profits with your new partners and depending on how you set up the company partnership limited partnership or corporation you could become responsible for your painter’s actions. Therefore if your painter’s goes into debt you and your company may also.
Secondly with some types of equity financing you might relinquish control of your company. Have your lawyer draw up documents for equity investors to sign that state the amount and value of the equity being offered. Usually the individual with the idea will retain 50 percent of the equity in the company while the other 50 percent will be sold to investors. While the 50-50 rule is fairly common everything is negotiable in a deal such as this.
Venture Capital
Obtaining start-up money from venture capitalists is a very difficult and potentially detrimental avenue to take. Although professional venture capitalists invest over $3 billion annually in new and growing businesses it is in only about 3 percent of the deals they see each year. Venture capitalists like to invest in relatively new businesses that are risky but have a successful track record and the potential for relatively high profit and growth.
Who are the venture capitalists? There are approximately 400 venture capital firms throughout the U.S. about half of which are private partnerships that have been funded by corporate and institutional investors. They are a diverse group of investors with different investment interest’s skills and objectives. Venture capitalists differ in the industries they will finance the stages of development of the companies they will fund some prefer to provide “seed” money for start-ups some only do later rounds of financing or leveraged buyouts, some may specialize in a particular geographic area and they have differing parameters on the minimum amount of money they will invest. Some may invest in $50 000 to $100 000 mini- mums while some will not invest less than $200 000 to $500 000.
Venture capitalists expect two things from the companies they finance high returns and a method of exit. Since venture capitalists hit the jackpot with only a small percentage of the companies they back they must go into each deal with the possibility of a return of five to 10 times their investment in three to five years if the company is successful. This may mean that they will own anywhere from 20 to 70 percent or more of your company. Each situation is different and the amount of equity the venture capitalist will hold depends on the stage of the company’s development at the time of the investment the risk perceived the amount of capital required as well as the background of the entrepreneur.
The key to attracting venture capital is the potential growth prospect for the company. If your company does not have the potential to be a $30-$50 million company in five to seven years you are going to have difficult time raising money from most venture capitalists. They do not invest in small businesses; they invest in large businesses that are just getting started. There are some venture firms that may have an interest in financing your new tire dealership even if your growth prospects are not that high but they are more difficult to find.
However if you’re willing to give the venture capitalist a piece of the action and if you re prepared to accept the venture capitalist as a partner in your business you might be a candidate for venture financing. The best place to begin your search for funds is to obtain a comprehensive list of venture capital companies. Contact the following places:
1. The National Association of Small Business Investment Companies (NASBIC) 1156 15th St. N.W. #1101 Washington DC 20005, (202) 833-8230. Their membership directory is available for $1 and lists by state all Small Business Investment Companies that belong to the Association. Their directory provides information about the contract person investment policies industry preferences and preferred investment or loan limits of each individual investment company.
2. The National Venture Capital Association (NVCA) 1655 N. Fort Myer Dr. #700 Arlington VA 22209, (202) 528-4370. Their directory includes the names and addresses of all NVCA members and the appropriate contact persons at each company.
3. The American Association of Minority Enterprise Small Business Investment Companies (AAMESBIC) 915 15th St. N.W. #700 Washington DC 20005, (202) 347-8600.
MESBICs are SBICs that invest exclusively in enterprises owned by minority entrepreneurs.
ADDITIONAL BUSINESS RESOURCES
Franchisors Goodyear Tire and Rubber Company 1144 E
Market Street Akron OH 44316-0001, (216) 796- 2121
Big O Tires Inc. P.O. Box 3206 Englewood CO 80155, (303) 779-9991
Canadian Tire Corporation Limited P.O. Box 770 Station K Toronto Canada M4P 2V8, (416) 480- 3000
National Tire Wholesale 2359 Research Drive Woodbridge VA22192, (703)491-7141
Associations
American Retreaters Association P.O. Box 17203 Louisville KY 40217, (502) 367-9133
National Tire Dealers and Retreaters Association 1250 Eye Street N.W. Suite 400 Washington DC 20005, (202) 789-2300
Tire Retread Information Bureau 26555 Carmel Rancho Blvd. Suite 3 Carmel CA 93923, (408) 625-3247
Automotive Information Council 29200 Southfield Road Suite 111 Southfield MI 48076, (313) 559- 5922
Automotive Service Association P.O. Box 929 1901 Airport FWY Bedford TX 76021, (817) 283-6205
Automotive Service Industry Association (ASIA) 444 N. Michigan Avenue Chicago IL 60611, (312)836-1300
Battery Council International 111 E. Wacker Drive Chicago IL 60601, (312) 644-6610
Independent Battery Manufacturers Association 100 Larch wood Drive Largo FL 34640, (813) 586- 1408
National Institute for Automotive Service Excellence 1920 Association Drive Reston VA 22091, (703) 648-3838
Automotive Parts and Accessories Association 5100 Forbes Road Lanham MD 20706, (301) 459-9110
Publications
Auto Merchandising News Division of Mortimer Communications Inc. 234 Greenfield Street Fairfield CT 06430, (203) 384-9323
Automotive Marketing Chilton Co. 201 King of Prussia Road Radnor PA 19089, (215) 964-4000
Automotive Rebuilders Babcox Building 11 S.
Forge Street Akron OH 44304, (216) 535-6117
Car and Driver 2002 Hogback Road Ann Arbor MI 48105, (313) 971-3600
Motor Magazine The Hearst Corp. 555 W. 57th Street New York NY 10019, (212) 399-5655
Motor Service Hunter Publishing Co. 950 Lee Street Des Plaines IL 60016, (312) 296-0770
Motor Trend Petersen Publishing Co. 8490 Sunset Boulevard Los Angeles CA 90069, (213) 854- 2222Q