Ch 9 Overview

• Introduction • Sources of Capital • Stock Offerings • Valuation • Exit Strategies 1

Exhibit 9-1 Seed Cash Stash

Source:

Data from Susan Greco, “A Little Goes a Long Way,”

Inc. Magazine,

October 2002.

2

9-1 Introduction

• The entrepreneurial venture requires cash to operate and grow. – In the early stages, new ventures require capital from other sources to survive. • Successful entrepreneurs learn how to articulate their venture’s business model and its market potential— elevator speech. – The

elevator speech

is just one of the important skills that the entrepreneur must possess to be a successful fund-raiser.

3

9-2 Sources of Capital

• Two major sources of funds for a business are: –

Debt capital

: Funds obtained through borrowing • Debt capital is categorized into two types: short term and long term.

–

Equity capital

: Does not require repayment • Sources of equity capital include retained earnings.

4

9-2a Short-Term Debt Financing

•

Short-term debt

: Used to finance current operations, with required payback within one year • Can come from several different sources: – Friends and family • Such borrowed funds bring an extra risk • Money borrowed should be handled like any other loan – Commercial banks • They can help with any cash flow problems and can give sound advice. • Developing a close relationship with a local banker is a good idea. • When an entrepreneur needs emergency funds, the banker will be more willing to help out.

5

9-2a Short-Term Debt Financing (cont.)

• Statistics from the U.S. Small Business Administration indicate that commercial banks lent out micro-loans.

• Bank loans come in many different forms: – Unsecured loans – Secured loans backed by collateral – Line of credit – A revolving credit agreement – Factoring – Floor planning is another option in bank financing – Trade credit • The credit given to a firm by the trade—that is, by the suppliers that the company deals with. • Entrepreneur may want to use such terms to encourage clients to pay their bills in a timely manner.

6

9-2a Short-Term Debt Financing (cont.)

– Credit cards • Some entrepreneurs rely on credit cards to help finance the early stages of their ventures.

• Using credit cards to finance a business can lead to problems if the cards are utilized without fiscal discipline.

• The advantages include: – Ease with which they can be obtained – Universally accepted – Convenient to use – Assists the entrepreneur in financial record keeping via monthly statements • The disadvantage includes: – Relatively high rate of interest 7

9-2a Short-Term Debt Financing (cont.)

– Internal funds management • The venture should attempt to obtain its needed funds from internal sources.

• A close review of the balance sheet and accounting ratios will reveal possible sources of funds that have been overlooked. • Entrepreneurs should work hand-in-hand with their accountant to ensure that funds are not tied up in noncash assets. 8

9-2b Long-Term Debt Financing

• Successful companies constantly refocus on their long-term goals and objectives. There are two primary sources of long-term debt: – Term loans • Most term loans have three- to seven-year terms. • The business signs a term loan agreement called a promissory note.

• It requires some form of collateral. • When determining the interest rate for such loans, the bank looks at: – The length of time the loan is for – The type of collateral – The firm's credit rating – The general level of market interest 9

9-2b Long-Term Debt Financing (cont.)

– SBA loans: • For a smaller business, the U.S. Small Business Administration (SBA) can often be a good source of loans. • The eligibility requirements and credit criteria of the program are very broad in order to accommodate a wide range of financing needs.

• To qualify for an SBA guaranty, a small business must meet the SBA’s criteria.

• The lender must certify that it could not provide funding on reasonable terms without an SBA guaranty.

• Most cases, the maximum guaranty is $1 million. 10

9-2b Long-Term Debt Financing (cont.)

– Leverage: • The use of long-term debt to raise needed cash is sometimes referred to as leverage.

• The borrowed cash acts like a lever to increase the purchasing power of the owner’s investment. • It maintains higher rates of return on owners' investments.

• It allows the owners to create a larger firm for the same investment. • It also means a continued obligation to service the debt. Judicious use of leverage can help increase owners' returns. 11

9-2c Equity Capital

• Equity capital: Funds invested by the owners of the venture.

– Five forms of equity capital are: • Retained earnings • Contributions • Sale of partnerships • Venture capital • Public sale of stock – Stock certificate – Authorized stock – Shares sold—issued stock, and unsold shares—unissued stock. 12

Valuation

• See Documents and Document Scanner 13

9-5 Exit Strategies

• The purpose of a venture’s exit strategy is: – To outline a method by which the early-stage investors can realize a tangible return on the capital they invested. – To suggest a proposed window in time that investors can tentatively target as their investment horizon.

– There are

four

basic categories of

exit strategies

(other than and IPO) in order of occurrence: • Acquisition • Earn-out • Debt-equity swap • Merger 14