Financial fundamentals to fund a growth strategy
With the Federal Government currently promoting innovation and risk-taking in Australia through support and generous tax concessions, it’s now more attractive to invest in Early Stage Innovation Companies (ESICs), and also for these businesses to obtain capital funding.
So what about other SMEs, whether it’s a new business or an existing sustainable business? Where do you go to obtain funding to continue to grow and expand your business?
Generally SMEs seek funding through two sources, capital contribution from owners and debt financing with a corporate lending institution. As a common practice, SMEs tend to provide the last set of financial statements to their banker and hope for the best. Lenders will evaluate the business to determine the ability to repay debt (and in most cases, securing against equity). The healthier the business looks, the more the funding options available, and usually at better rates.
How can you avoid the pitfalls of seeking finance?
One of the key steps that businesses fail to consider prior to seeking funding is reviewing their credit profile. This can be critical for businesses within certain industries and even new businesses with limited financial history. Whether you are seeking financing through debt or equity, here are a few key areas that will assist in increasing your credit profile for lenders or your business profile for potential investors:
1. Preparation of an Information Memorandum (Business Plan) outlining the key information that investors (including banks and financiers) will be seeking, such as:
• Growth plan and forecasting
• Identify the opportunity within your business
• Clearly set out how the money will be spent
• Valuation of the business
• Core drivers of the business
• Highlighting ability to repay debts or return on capital
• Strategic value and key assets
• Identifying and outlining key stakeholders within the business.
2. Clearly identify the amount of funding required to uplift the business through the growth stage. This ensures profits are not diluted through debt repayments or capital return.
3. Seek professional advice and assistance from tax and legal advisers. Having a core support team around you at this important time will ensure you are thinking straight when considering your options, and will help you to maximise the potential at the outset.
Through the process of raising capital, linking with the right investor may be valuable beyond purely the financial aspects as you may be able to leverage off their experience and networks. When seeking investors, look for opportunities where the investors can add more value to your business or to your knowledge and experience. Consider whether you are able to leverage off their experience and networks (this is known as ‘Smart Money’).
As the initial business owner, you are the heart and soul of the business, and as much as you would like to work with a particular investor, they would need to want to work with you too. Potential investors will not only be looking at the business opportunity but who they will be partnering with.
What other financing is available?
Besides larger scale debt and equity financing, your business may require short-term capital. For example, where you need additional funds to satisfy short-term cash flow requirements. This type of funding generally doesn’t require the same level of detail as above. Before embarking down the short-term capital route, it’s recommended that you partner with an adviser who can help you to analyse your situation to determine what funding would best suit the circumstances.
Capital for cash flow management could take the form of one or more of these arrangements:
• Debt Factoring – selling outstanding invoices to third parties at a discount to help with cash flow management.
• Trade Financing – with international trading getting easier, there are still some risks involved such as currency fluctuations and non-payment for goods or services. To protect against these risks is to issue a letter of credit, i.e. the exporter is guaranteed payment by the bank upon receipt of confirmation the goods have been shipped or services provided.
• Inventory Financing – loan or a line of credit to assist the purchase of inventory which then serves as collateral should the business be unable to sell the products or repay the loan. This can help cash flow during seasonal fluctuations and/or slow moving inventory.
• Credit Card Stacking – using credit cards to finance purchases of supplies or equipment. As credit cards tend to have higher rates, planning is required to ensure consideration for:
- minimum amount required
- ability to repay debt
- timing of repayment (also considering the rate of interest)
• Reward Crowd Funding – A way to raise capital (as well as increase your customer base) through products, gift cards, rewards etc.
It’s vital the primary financial controller of the business takes a commercial approach to the different funding options available and how each will lead to improvement in the business performance and ultimately meets the requirements of the business and its investors.
Overall, when it comes to any form of financing, ensure you seek financial and legal advice. With the array of options available, it’s important to determine which financing options suits you and your business now and for the future.