Although dragging myself out of bed to attend the Peak Venture Group’s breakfast by 6:30am was a challenge at first, the experience proved to be entirely worth the effort. Today’s topic was designed to offer alternatives to the traditional funding path of Friends & Family (& Fools) – Angel Investors – Venture Capital – IPO/Strategic Buyout.
This morning’s panelists:
- Matt Barrett, Colorado Springs Small Business Development Center
- Karl Dakin, DaVinci Quest, LLC
- Jeff Schneider, Entrepreneurial Finance and Accounting Services (This guy is everywhere!)
The moderator for today’s featured presentation was Jeff Chapman of Pivotal Path, LLC. Each of the panelists was asked about creative ways for entrepreneurs to fund their companies. Below is a brief list of their suggestions.
Investor-backed Bank Lines of Credit: Although this is a traditional line of credit from a bank, the difference is that a business that might not otherwise qualify on its own can achieve the same result by getting an investor (or investors) to sign a guarantee for the bank. Provided the investors qualify for the line of credit, the business owner can generally get approved. In exchange for the guarantee, the investor usually receives stock warrants.
Strategic Investments: These are investments made by other companies, generally strategic partners such as a key supplier or customer. If your business is critical to another business or vice versa, consider exploring a strategic investment to support one another. Another way to structure a strategic investment is for a manufacturer to build your first shipment in exchange for equity. After that, cash flow can keep them paid.
Letters of Commitment: So, Wal-Mart is excited about putting your product in 500 stores as soon as you can produce 10,000 units. Unfortunately, you’ll need a large amount of cash to ramp up manufacturing operations. If your key customer will sign a commitment letter promising to purchase a certain amount of product, investors and others will generally loan you the money to get started.
Factoring Accounts Receivable: There are investor groups and factoring companies that will purchase your accounts receivable at a discount in exchange for giving you cash up front. For example, if customers owe you $500,000 over the next six months, a factoring company may give you $400,000 in cash now in exchange for the cash flow from the customers as they pay off the receivables. Factoring has a bad reputation with most business owners because it is extremely expensive. However, it is ultimately less expensive than giving up equity and you may have few other options if you need cash. Be careful with factoring: one of the panelists related a story of a client factoring their receivables and then offering a discount if customers paid early. Unfortunately, the client ended up receiving no additional benefit from early payment but was forced to reimburse the factoring company for the cost of the discount for a double whammy.
Patriot Express Loans: This is a guarantee program through the Small Business Administration (SBA) for veterans and their spouses. One interesting note about these government guaranteed loans is that banks still have the ultimate authority over whether they will lend you the money. In most cases, banks are most interested before the business is actually formed and after the business has at least 2 years of history. If the business is less than 2 years old it is considered much higher risk.
What about Grants? In general, the SBA offers no grants. There are other government organizations that have grants available, but they are usually for very specific uses and have strict qualifications, such as the business being located in a rural area.
Enterprise/HUB Zones: These only apply if your business is located within an area defined by the U.S. Census. Most of the time businesses are incentivized to relocate to otherwise underserved parts of the country in the form of tax credits or other reduced fees.
Alternatives to Cash: All of the above options are creative ways of producing cash for your business. Below are several ways to achieve the same effect without actually using cash at all.
- Joint Advertising: Perhaps you own a fresh new technology or product but lack the cash to advertise properly. Joining with a larger company that has a well established marketing budget that may benefit from being associated with your “freshness” and “newness” can get publicity for you while the larger company still spends the same marketing dollars. For example, if a startup condiment manufacturer teams up with Wells Fargo Bank, the bank’s new ad could read “We’ve got the special sauce” and a free bottle of sauce for all new accounts. The startup benefits from a national ad campaign while no additional cash is actually spent or transferred.
- Equity in Lieu of Salary: Often, a startup is selling stock to raise the capital to hire top talent. Why not give that equity directly to the new hire instead of salary for the first year? The effect is the same but the business avoids the hassle and expense of preparing presentations for investors and managing diverse groups of stakeholders.
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Etienne Hardre is a Senior Associate with BiggsKofford, P.C. specializing in helping entrepreneurs buy, grow, and sell businesses.
