Let’s be honest. If you don’t have a pile of cash then getting the funds for your venture is stressful. It can suck all the joy out of the startup experience. Very few people enjoy the chase for investors. You are lucky if you love it.
Your mindset may already be caught in the VC/Angel funding rounds paradigm not realising you don’t actually need any of that if your business model is designed a certain way.
Don’t enter a paradigm blindly like thousands of other lemming startups. I say lemmings because I mean it. the vast majority (99% won’t IPO) will fail running off the cliff using the same funding playbook. All their successful peers (sarcasm) have probably told them how to go about “being a startup”.
What’s the experience of funding a business?
One of the first key things is that there is a lot of fear around finding money. It’s an endless cycle, and it always seems like for some businesses that it never ends. They’ve got to keep finding more money until they get profitable or in some cases an exit pre IPO. It can be a bit demoralising when you get no’s constantly. I think people just have to shift their mindset to a Sale brain. You’ve got to collect lots of no’s to get the one yes you need.
Sometimes, people feel a bit deceptive in this exercise of funding because they’re trying to dress up what they’re doing. Highly morally conscious people don’t enjoy it because they feel like they’re painting lipstick on the pig if things aren’t good in their business. They might be really trying to win the money and not fully disclosing what they’re doing. It can be tough for some people to go through this.
It’s another job just raising money, it’s hard work! Losing is obviously not something anyone wants to do at this game, but it does happen. That’s the reality. Sometimes you just can’t find the money and you’ve got to pivot your growth strategy to make sure you’ve got some way to keep the business growing and sustaining.
Default sources of external funding
The typical default sources for small businesses when they’re first starting out is friends, family, and finance. Finance is there because overwhelmingly small businesses are dominated by credit card debt. It’s a trend when looking at ABS stats etc, a lot of small businesses and startups are funded by credit card debt. It can’t be ignored as being one of the primary sources of money. This is because it is possible to get $20k-$50k debts off the card and people can roll money across cards. So for a lot of people, that’s the typical starting point.
Beyond credit cards some are lured into the LoanShark 2.0 market. Loan Sharks that seem more reputable, probably are but when you reverse engineer an interest rate out on their fee structure you are having your fins ripped off. I never touch these unless the rates compared to credit cards. Also it’s critical to understand the impact these loan types have on your credit rating and risk scores.
Dispelling some funding myths
Funding is not a treasure hunt or a business model.
Many startups quickly end up being in the business of raising money.
Funding is definitely not a treasure hunt or a business model. Their entire startup plan is often altered. I don’t think startups necessarily do it on purpose, they just kind of slip into it as they look for money. Even traditional services and bricks and mortar businesses can fall into this trap. They take in a partner or do something that compromises the way they run their business model. Taking in a saviour partner (just for the cash and not for the match) is a rookie error. I have advised many startups not to do this before, but often this is ignored at their peril.
Growth models are not funding models.
Growth models are not funding models either. People often make that mistake. They’ll go “raising more money is how I’m going to grow my business”. That’s just the wrong way to look at things. I think that’s fairly obvious one once it’s pointed out. Growth is merely the direction of any KPI you happen to be interested in. For some it will be employee numbers, for others they might like revenue. Personally I think these are vanity metrics. I think growth in customers (market share) and earnings are more authentic.
You don’t have to fund sales operations.
There are plenty of ways to create off-balance-sheet sales teams and sales activity. It’s just a myth that you’ve got to hire salespeople to grow your business. Obviously it can help, but you don’t have to do it that way.
Growth isn’t a capital problem, it’s a decision problem.
Growth isn’t a capital problem, it’s a decision problem. If you’re making fantastic decisions and you get things right at a high frequency, you’re not going to have a problem getting capital. Plenty of businesses have grown from nothing to massive without raising capital just because they’re simply really good at getting their decisions right.
All business models need high momentum
Set the momentum appropriately for industry vertical, product life cycle and other factors specific to your situation.
I struggle to find any startup that hasn’t been told by a VC or other that “you need to go fast at all costs. You need to have massive momentum”. That’s good if you’re trying to get in and get out fast and you want to take the risk, be the one in a thousand that make it, and you want to back yourself, but it’s not for everyone.
The main take away is that you can get the momentum argument wrong for the industry dynamics. There might be some of the specifics around your situation that just might not work for a high momentum strategy. Something more organic might suit you better due to lifestyle considerations or other things you’re trying to do.
Setting good funding behaviours
One of the classic traps new businesses fall into is that they operate in half-and-half mode when raising capital. You’ve really just got to have it off or on. Don’t try and do something in between. The reason for that is if you’re going to search for money, you want to be following up lots of different leads at once in parallel to create price tension. Doing it off and on does not achieve price tension, all it does is cause you to invest in a higher risk, half-focused way
Never presume markets will be viable. S&P and Moody’s, despite their many failures in the GFC to understand risk, are good at pointing out statistically that if you have a meltdown in the markets, everyone who’s not making money really struggles to survive. It’s because of two factors. The first is they don’t have an avenue to raise capital anymore. The second is they can’t reinvent in themselves fast enough to solve their problem, so they end up in a real quagmire. It’s the one to be careful of as well. I’m mentioning this now in particular because markets are still tense and will be uncertain over the next couple of years.
Sometimes, it’s better to back off the accelerator pedal and conserve fuel. That’s about sparing cash flow. A lot of people are really tempted to go fast. They think they can go fast, and then raise money of that momentum.
I’ll be getting lots of sales, and raising money will be easier is the cognitive dissonance they create.
You’re making a bet when you do that. Be conscious of that. If you think the payoffs there, fair enough, but if you’re not that confident of the payoff, it’s silly to make the decision. So maybe just slow down and be a little bit more cautious.
To start off, Founders is the obvious one that comes up. The typical scrounge for money, dipping into savings, drawing down on credit cards, mortgage extensions, whatever it is. Retrenchment windfalls are a huge one these days and a lot of people do startups off their retrenchment money. In reality they often are buying into a self employment situation or business – rather than being truly entrepreneurial.
If you’re going to go down this road and go into a partnership with someone, you’ve got to be really careful on the equity splitting side. I’ve covered Equity Splitting techniques before in detail.
You really have to get equity splitting right at the start. It’s a perfectly valid way of funding a business in the first six months to two years even. Sometimes, it’s better just to kick off and go, “okay, we’re not going to be worried about funding. Let’s just focus on product and service offering” and think what customer experience you want to create in the new business and move forward from there.
Having multiple founders can help with this, but having multiple founders for the explicit purpose of having more cash is not necessarily a good idea. I think you have to look at the flip side of having the extra cash, which is questions about who’s going to be in control and so on.
Equity: Family and Friends
When it comes to family and friends money, it’s not always necessarily clear at the start how much influence a family member or friend might have on the business when putting money in. You’ve got to communicate really clearly whether it’s passive or active right from the start.
If you’re taking that money, also be really clear about the risks of marriage stability and health stability. You can very quickly end up in partnership with the investor’s partner if there’s a divorce settlement and the shares are handed over to them, or split, or something else happens. Equally, health can come up if someone is in unknown territory around heart disease for example. Privacy is another factor. People talk, and before you know it, it’s not a private business anymore.
Family and friends is the easiest one by far to get money from. If you think about it, there are hundreds of people you can go to. The thing I’d say is don’t go to a hundred people because it’s against the law to just go solicit a whole lot of investment from dozens of people. You’ve got to bear in mind securities law for your jurisdiction. You may need to be looking at prospectuses or other options which may be legally required and may not be financially viable as they can be expensive to produce. Crowdfunding websites can enable you to deal with this issue because it’s a platform approach to what would otherwise be a legally intensive exercise.
Think too about what kind of expertise is available from those people you’re asking money from. If you’re a really savvy investor and you’re going to a novice investor asking money, you’ve got more legal risk there than you would if you went to someone who is a high net worth individual and is investment savvy. It’s a different type of risk. The money is actually worth different amounts because the legal risk is different. Even though it might be the same amount in dollars, they’re actually technically worth different amounts when risk adjusted.
Equity: 2nd job
I think this is one of the smartest ways people can do things and it’s actually what I did. I was sitting in the bank working away and had Saasu running on the side. It just made it really easy to step into the business when it starts to move and other factors lined up. In my case it was in July 2006 and I was expecting a credit and stock market correction after a long bull market fuelled by the low interest rates and lots of available liquidity.
A second job can be a very safe low-stress way to do things.
You can do things like take up board positions or directorships if you’ve got some experience in running businesses, or do coaching, or do something else on the side that helps you fund the new venture. You can work anywhere for 40 hours a week. That leaves you with a spare 30-40 hours to work on a venture.
Note that when you work on the side and put that money into your business you are investing equity. You could do that as a loan to the business. You’ve got to work that out with your accountant and look at the tax implications.
Free sourcing is what I find the most curious and likeable approaches to starting a business. The whole idea of starting something from just the smell of an oil rag and making something massive out of it is not only pretty exciting from an ROI perspective, but also from a risk and stress perspective.
There’s plenty of products and other things you can get for free. You can work in a small or home office for free, or you can work in a garage. You can get free mentors, and there’s plenty of people will help you sell if you give them a bit of the sales revenue and that’s just then a cost of goods part of your business. It’s just part of your revenue you’re giving away, so it’s like an off-balance sheet salesperson. Not to mention the stacks of free or near-free marketing opportunities.
You’re doing sweat equity, so it’s completely viable to start a business with no money and run it for quite a long time without ever needing to get money if you’re just smart about it.
I think one of the most successful ones, in terms of earlier tech boom, was lean startups. It’s not as successful now because there’s so many more startups now. It’s probably only a tenth of the success rate it used to get, but early on it was super successful. It can still be really good, you’ve just got to look at different models to the traditional ones.
The Lean Startup approach is really just about getting good resources in terms of people that know how to help you grow your business and getting access to a place to work from in an ecosystem where you’ve got some self-supporting symbiotic relationships.
You might be doing a startup in marketing while someone else might be doing a startup in financials. You might be able to share each other’s products, be customers of each others for free and help each other sell. There’s all kinds of opportunities in this sort of incubation environment they’re everywhere.
It’s important to be careful of the places and communities in which you choose to reside. Some have sloppy work ethic culture. (Read about Puppy Culture here). It can rub off. Between 1995 and 2010 startups worked pretty hard. I feel like 2010 – 2019 has seen a softening in work ethic fuelled by late arrivals seeking the startup dream – the wrong reason to start a business. This coupled with lots of free cash and investors desperate to park their money has lead to the pre-stages of the DotCom 2.0 crash around the corner (IMAO).
Accelerators are good to like Y Combinator. It’s a lot more structured than co-working. Incubators are kind of providing operational support and also some mentoring through an ecosystem type mentoring approach where you learn from your peers. Accelerators are more targeted and give you more purist sales and marketing and specific mentors and more structured way. So it’s the next level up from incubators and I think one of the best ones now is the co-investor approach. Pollenizer in Australia was a great example of that in the past. There are negatives though. They tend to drag you down the same cliche approaches to funding rounds approach to growing your business. Finding founders, Angels eventually VC’s etc.
With co-investing, they’re involved too. They’ve got a bit of risk, a bit of skin in the game, and they’re providing some really good resources who are skilled in different areas like marketing, PR and getting you a lot more attention. In my view, they can have a higher probability of success than the other two. So it’s worth exploring. They invest by either taking some equity, providing some resource in lieu of cash and just helping you fund your way through it.
Equity: Guardian Angels and Super Angels
People talk about angels, but I kind of see it like you can carve up angels into different groups. I like the whole guardian angel vs. super angel look at this sector. Guardian angels are really cool. They’re the kind of people that have been really successful, they’ve got some money, and they want to do some very diversified investments in riskier businesses.
With super angels, there’s a lot of angels that will give you a bit of money like $25k to $100k, but there’s also plenty of what I call private money, hanging around in markets everywhere around the world. There’s a lot of that in Australia, the UK and the US. It’s people that don’t consider themselves as angels per se, they’re just people who have been good with money, been good property investors, have had some businesses and sold out, or have businesses making money and have some cash they want invest in other things and they enjoy investing.
Equity: Accretive M&A
Accretive M&A can be a really smart approach for some smaller type young businesses kicking off. You might be in a service business that does cleaning and there might be another service business that does something like mowing. There’s no harm in looking at merging these businesses. You can share brand, marketing and other costs. It’s has the affect of finding some funding because you’re created value through financial savings, which reduces the funding need, reduce cash burn. You can then add value to the business offering because it’s a multi-service/product offering. You can begin to look at things in a different way. Franchising, acquiring more businesses through equity swaps.
Complementary businesses can do this. Another example is when a well-funded startup buys another startup and they get the customer growth rate added to their numbers. The other startup that’s not really well-funded gets the benefit of having access to more cash flow to do what they want inside the new entity.
The typical problems that come up with these deals though is that it’s really hard solving questions around tax and how it works in terms of swapping equity levels. What level are you gonna swap equity at? What are the tax implications of that? Who’s going to be controlling in the new entity? The negotiation process can be really difficult and the greedy bone comes up in this one. Both parties can end up thinking they’re worth more than the other. You can get into a difficult situation over that, so it’s a tough one to do. That being said, it can be quite valuable in terms of trying to grow your business and raise money in a theoretical way. It’s not true cash-raising, but it’s theoretical.
Equity IPO means things are getting serious. Everyone seems to be lured by the long term IPO exit and seeing the flash money at the end. I think it’s something people should just put aside early on focus in the near term goals.
IPO’s have lots of hurdles. You’ve got to be in the millions of dollars of revenue (usually). You need to have track record, a decent management team. You need a board, strong compliance and governance established. Many boxes must be ticked before you can go down this road. However it’s definitely a viable option later on.
Be conscious that it isn’t for the faint-hearted – compliance heavy, lots of investor pressure. You need a good investment bank and frankly you need a hot business in a hot industry.
Hybrid: Venture Capital
Now we’re going to look at some of the hybrid models. When I talk about hybrid, I’m talking about raising money but not necessarily equity or debt. It’s a bit of a mixture. One of the common mistakes people make is assuming that venture capital is just like raising pure funds with equity, but it’s not. There’s actually a lot of debt-like instruments that deals contain. There’s equity risk in there that has optionality. There might be equity that is convertible to debt basis some triggers being met. Equity convertible structures. These deals are technically complicated from legal, pricing and risk perspectives. Do not engage these deals unless you have the right professionals around you assisting.
The venture capital path is a long journey, and you’ve got be prepared for that journey. I often joke that that’s why startups ended up wearing sneakers. They spend so much time walking around raising money and then after that placating their investors. This is a journey like Lord of the Rings. Walk a bit, fight a bit, run, walk, fight, run.
I think the classic thing here is that people don’t really understand how this method works. The above image is a simplified version. Angels or seed money is the first step outside of the initial founders that you’re getting some money from. Series A, B and C is all that dilution. You’re giving away, some equity, you’re getting diluted, you’re getting some money into the business to help try and grow your customer growth rate as fast as you can in order to go into a series B, and then you repeat that to a series C.
It might not happen in this exact order, but the endgame being that the VC is looking for the IPO exit or a sale to a Private Equity firm. They’re looking to do that with some percentage of their portfolio because that’s how it works. It’s a portfolio play for them. They fully expect to lose money on most of their investments. They just know they need to have some big wins on a few of them to do well at this game. They buy into you knowing there’s a good chance you won’t make it, but it doesn’t matter because they’ve got a portfolio approach to what they’re doing from their perspective. You don’t have that from your perspective so you got to keep that in mind.
There’s a lot of interesting hooks inside the VC deals. Now, you could argue that VCs are the best way. Statistically, where money’s been made, that’s probably the main market for a start-up to start to exit their equity in.
This isn’t pure equity because of the optionality and dilution usually exists.
The big win is that risk is reduced once in the VC club from 1/100 to about 1/10.
Hybrid: Convertibles and Bridge Loans
Convertibles, hybrids, bank equity investment are later stage for most new ventures.
Bridge loans, essentially convertibles, are used by VC’s and private money. This is where people will come to you and offer you some cash for some equity. The way the deals are documented has some optionality inside of it. Without going through all the documentation technicalities right now, essentially what can happen is you can have a scenario whereas hurdle rates or liquidity in the business drops to certain levels, there could be triggers that convert essentially a loan into equity for the investor.
It’s also about being higher up the capital structure. You’ve got the first right to claim any residual value in an entity that’s becoming insolvent ahead of other predators in the business because your investment was actually debt-like and ranked ahead of equity investors. There are other reasons these deals are done this way.
The overwhelming thing is if you don’t have access lawyers or better corporate advisors with banking experience and so on, don’t go getting yourself involved in these structures. You need those people to be read through what you’re doing and explaining all the risks and technicalities of it. Explaining why you get diluted and they don’t at the next round, explaining why your equity becomes debt at some point or vice versa. Optionality can get you really unstuck in this space. There’s a lot to be careful of, it’s just a dangerous one for the novice.
Crowdfunding. Now this is what I really like. I think it’s just such a good opportunity for people I think. This is Pozible, it’s a Saasu client actually. They’ve done a fantastic job in Australian crowdfunding. There’s some big ones overseas, like Kickstarter, but there’s a bunch of them.
Essentially, you’re going to the market and you’re asking for money from people in a crowdfunded way. You’re giving them some value in terms of giving them or promising them a product. You can structure it so you can give really high value to someone if they’re going to give you $5k or you might say, “hey, all I’m going to give you is a couple of chooks at the end of this or a thing of eggs if you give me $10 as an investment”.
The nice thing about this is you’re not really giving away equity. I call it a hybrid because technically, what you’re doing is, you’re taking money in advance and you’re creating a contingent liability to deliver a product of value in the future from that money you’re taking from pledgers. So that’s kind of debt-like, in a sense of how you can end up booking this in your accounts, but its equity-like in the sense that the money is yours. You don’t have to be repaying it back if it all fails. So it is a hybrid. It doesn’t belong in the equity space and it’s definitely not debt, so it sits in the middle ground.
It’s probably one of the lowest risk ways to have a crack at a new idea you’ve got other than the free sourcing or lean startup approaches to small business.
Debt: Invoice Financing
Invoice financing is another classic one. It goes by lots of names: factoring, invoice financing, receivables financing, etc. It’s a great way to fund the business as you get more mature. You’ve got to be pretty big though. I think most banks started about a $100k or $500k of invoices of value before you can really start to do these transactions. They will cash you 80% to 90% of your invoice value depending on the type of business you’re offering, because they do a credit assessment on what that portfolio looks like. They’ll give you that money next day based on an invoice you issue today in a lot of cases. The invoices are the security, so they’re not able to hit you on a real property or a mortgage approach to protecting their credit.
Usually, you get a shadow ledger situation where you’ve got to give access to the bank to your invoicing list or your accounting system so they can be monitoring what’s going on. That’s really good if you’re on in a system like Saasu.com because you can give them read-only access to the part of the product you want. It can make it a little bit easier in the application sense. You’re not having to go deliver that information every day, it removes the task. This is monitored by shadow ledger access from the bankers.
The high minimums is the key problem with this funding method.
Debt: Trade Credit
Trade credit. Plenty of businesses have built up literally by funding themselves off their trade credit position with their suppliers. The eBay trader market has a big hook in this one. Example: Your sales cycle on product ABC widget is 7 days on eBay. The suppliers you use give you 60 days credit. You have a lot of stock turn you can do in 60 days, excellent cash-flow impact.
A lot of physical product businesses go down this road that are heavy lifting type products (like in the timber industry), and lots of different places where retailers do it at big long terms but the customer turn cycle for the product might be days, but they’ve got months before they need to pay.
So you can see what impact that has on a liquidity position if you can be turning stock a dozen times before you have to pay for it. You can actually cause a great liquidity position for yourself. The sooner you get paid and the longer your supplier terms the better your liquidity position BUT not your liquidity ratio, which is a better KPI.
I just want a flag, don’t confuse that with the great liquidity ratio, because you still have to pay that money back. It doesn’t it doesn’t create a benefit liquidity ratio, but it is definitely better for your cash flow position. It can allow you to buy more stock quicker or increase stock variants and doing all kinds of stuff around that. You can effectively have the suppliers fund your growth. So the trap there is you may think the supplies are giving you that credit for free, but I guarantee you every business of any significance that gives credit to customers is factoring that into pricing or thinking about that. It’s only really at the very bottom end in really commoditised products that that might come up, such as in our own business where it’s too small to be doing anything like that. You just have to think about that.
You may think suppliers give free credit but they very often factor your account credit and limit into their pricing structures, so you still may pay. I have friends in businesses who do exactly that. They have suppliers who have big credit but they are making them pay because they’re not giving them as decent discounts. So you do see businesses recovering the cost of providing credit.
Debt: Overdrafts, Bank Loans and Bank Bills
It can be a bit of a hassle organising some of these things. In can have fairly high rates compared to say setting up a mortgage draw down on your personal and then lending that money to your business. There’s some negatives, but there’s also some positives. You’ve got to have a great relationship with your banks and sometimes you’ve got to be doing some stuff with them in order to get advantages in other ways. We work with a major bank in our business, and we have multiple products with them. It’s because banking relationships are important, it’s not just about cherry-picking out of the bank what we want to make out of it. We know we have a great merchant facility with them and it’s because we do other stuff with them like guarantees for deposits on our office space and all kinds of other stuff. We don’t really borrow the money in our business model, but I know that because we have all these other things going on with a bank, down the track if we wanted to borrow money, it would make it a lot easier because we’ve built that up.
As you get bigger, the bank bill market gets really interesting. It’s really popular in terms of the margin between what you can borrow from the bank and the cash rates are tighter in that market. It can be better than trying to go and do things like get personal loans or credit cards to get money from the bank. Just talk to your bankers about the different ways you get that from them.
Debt: Credit Cards
Many small business run on credit cards. It’s the easiest money to get. It’s also the cheapest by far because you can get money for free for 6 to 12 months off most card companies. This is because they’re willing to suffer that acquisition cost and give you cash advances and all kinds of things.
You see some really savvy businesses out there doing stuff like rolling those cash advances between cards and taking advantage of interest-free periods banks offer to acquire new cardholders. I’m not recommending you do that. I think you’re just avoiding a problem in the future and I don’t personally like using credit cards to grow a business. That being said, sometimes it’s an only option for people and it’s a great safety net approach when you have a cash drawdown spike and you need some money if you’re in a small and micro business. It’s definitely a real option.
Income: Grants & R&D Tax Incentives
I don’t think that the grant market is as great as people think. They aren’t “free money” as many seem to think.. For some industries, it’s excellent, but it’s very industry-specific. The application process can be very painful, and maintenance is really intensive too. You really have to carve out a big chunk of what you’re getting to allow for that. You’ve got to weigh it up before you spend a whole lot of time going down that road. I see plenty of startups go “I’m going to raise money from a grant. That’s how I’m going to fund the business” and they spend a year getting all of that happening, and then spend a whole lot of time maintaining that. In the same period of time they might have been smarter to use a free sourcing model or do something that is just quicker without all the bureaucracy.
That said, I think that the government has, in the past, done a good job of having R&D tax incentives. Really what you’re getting is access to is, any initial losses you have in your early years as a business, you’re getting to cash those out through the tax incentive scheme.
It’s a very heavy documentation process, but it can be worth it. It’s best to engage an advisor. We use Michael Johnson Associates. There’s a lot of good advisors out there that can help in those areas, but you’ve got to go to an accounting firm or a specific R&D tax incentive type firm to do those. Australia’s programs can be found at industry.gov.au.
One of the lowest risk and probably the smartest ways to get big as fast as you can is to do the consulting services approach. This approach is low stress and you don’t have to go out and chase pure funding from investors.
The best example I’ve seen out of this Basecamp. They started their business as a design agency. Back in 2003 they were doing website designs and over the space of ten years they became a really big web application developer and that’s their full-time gig now.
Amazon used retailing to become a cloud computing business.
It’s a long-term switch of their business model by funding through services. You can taper off or sell off that services part of your business down the track. It’s not like you’re losing out of it. It’s a really viable way of doing things.
Income: Partnerships and Joint Ventures
These work only if done on really tight upfront commercial agreements.
Think of JV’s like producing a movie and pulling together a team. If it works once repeat and continue.
I think people make mistakes with partnerships and joint ventures. They think they need to be in the joint venture for life. I hear, “I’m really confident. I really like these guys. It’s going to happen. It’s all gonna be okay!”.
That’s just naive. You’ve got it assume things are going to bust up right at the start, even though they might be the nicest guys in the world and you really think you can work together. You’ve got assume is going to bust up. So when you document a partnership with joint venture, you’ve got to have massive exit documentation. What needs to dominate the initial agreement is how you get out of the relationship.
They’re really good because you get access to distribution networks, sales resources, advisors if they’re mature business, cross-selling opportunities, etc. There’s a reason partnerships and JV’s happen all of the time. It’s because you can go and raise money and do this stuff yourself or you can go into a partnership and reduce the amount of money you’ve got to raise. It’s a funding option to create a joint venture and raise less capital, rather than purely go out, get the money, and have a DIY approach when trying to create all that stuff.
The last project I was involved in at Deutsche Bank was a classic example of where you have to sometimes do a joint venture. We did a wind farm off the UK coast. It was really tough because, as a banker, I don’t know how to build wind turbines. We involved General Electric in building the turbines and we had some local guys in the local county there working with the council and getting the approval through. There were people who were specialists dealing with the military, who needed to stop the turbines blocking the radar space as it was creating a sort of radar shadow. There was all these different types of people involved so there’s just no way you could have done all that as a single person.
It was like producing a movie. You get all these experts together and make it happen. You produce a movie, and if it really goes well, then you can just do another one. If it works, repeat that type approach. You’ve also got the good exit documentation to fall back on if you don’t like the way it’s working out. People don’t kill off JV’s quickly enough. If it’s not working, you need to move on.
Income: Profit Reinvestment
Instead of taxable profits or dividends. Profit reinvestment is probably my favourite. We’re extremely in this camp here at Saasu. Just as we make more money, we plough it back into the business. So as our revenue is going up at Saasu, we tend to go, “okay, what are we going to spend on next in terms of R&D in sales and marketing activity” and we plough that back in the business. That’s because we pay so much tax in this world. I don’t want to pay a whole lot of tax until I absolutely have to. I’d rather just run the business at cash flow neutral. You’re not having to pay a whole dividend stream out or deal with tax on profits and so on, so it’s good for your cash flow in that sense. You’re pushing the value into the equity value, so you’re not hurting the investors by not playing in the dividend, you’re just delaying the cash flow profile. There are some big advantages in that approach to fund a business instead of specifically going out and getting money.
Pre-planning to spend through R&D and S&M activity can be a tricky balance. So there is some risks. Negative or weak EBITDA value is often a result but it’s a positive on LTCV models
Smarties Guide by Marc Lehmann
Top 5 Funding Tips
- Set your business model and growth strategy.
- Know your founder’s ideals, life plan and lifestyle.
- Fit growth and preferred funding sources based on 1 and 2 above.
- Do a breadth-first search, weighted by expected value.
- Don’t let funding become the business model. Full-on or full off search.
Photo by Mario Gogh