The issue of Business financing for entrepreneurs is a very important one. You will already be aware of the challenges you face when it comes choosing the most appropriate source of business finance for your business.
Insufficient business financing is one of the most common killers of potentially great small business start-ups. Whether an entrepreneur is expanding a business or starting a new one a major choice must be made regarding how to obtain funding. As an entrepreneur or business owner the key starting place will be to draw up a reliable business plan which considers all the issues relating to the business and it’s market. Once this is done you will have a clear picture of the financing needs of the business as well as the leverage you will have from a business point of view with which to negotiate with potential investors or lenders.
A recent study by McKinsey & Co outlined the importance of SME’s to the South African economy.
Do you really need additional capital or would it be smarter to use your current cash flow more effectively?
Is the capital for expansion or as a buffer in case cash levels get low?
Do you need money immediately? You can get better terms if you are not under pressure.
How high and realistic are the risks your business faces? Risk level effects the terms and types of financing available.
Is the company in a transitional stage?
Do you know exactly what the capital will be used for? Lenders will want to see a well thought out plan.
What is the state of the economy and your industry?
Are you thinking about the seasonality of your business?
Do you have a strong management team in place?
All funding sources will want to see the right people driving your small start-up business.
The same study by McKinsey & Co mentioned above, also referred to the fact that very few SMEs in South Africa are aware of the post Covid financial support they are able to access.
This issue is of vital importance for such a large portion of businesses in the country which effect jobs and have a significant impact on the South African economy.
Choosing Between Debt & Equity Financing
Most small or growth-stage businesses use limited equity financing. As with debt financing, additional equity often comes from non-professional investors such as friends, relatives, employees, customers, or industry colleagues. However, the most common source of professional equity funding comes from venture capitalists. These are institutional risk takers and may be groups of wealthy individuals, government-assisted sources, or major financial institutions. Most specialize in one or a few closely related industries. The high-tech industry of California’s Silicon Valley is a well-known example of capitalist investing.
Venture capitalists are often seen as deep-pocketed financial gurus looking for start-ups in which to invest their money, but they most often prefer three-to-five-year old companies with the potential to become major regional or national concerns and return higher-than-average profits to their shareholders. Venture capitalists may scrutinize thousands of potential investments annually, but only invest in a handful. The possibility of a public stock offering is critical to venture capitalists. Quality management, a competitive or innovative advantage, and industry growth are also major concerns.
Different venture capitalists have different approaches to management of the small business start-up in which they invest. They generally prefer to influence a business passively, but will react when a business does not perform as expected and may insist on changes in management or strategy. Relinquishing some of the decision-making and some of the potential for profits are the main disadvantages of equity financing.
There are many sources for debt financing:
banks, savings and loans, commercial finance companies, Industrial Development Corporation (IDC) are the most common.
The government have developed many programs in recent years to encourage the growth of small businesses in recognition of their positive effects on the economy.
Family members, friends, and former associates are all potential sources, especially when capital requirements are smaller.
Traditionally, banks have been the major source of small business funding. Their principal role has been as a short-term lender offering demand loans, seasonal lines of credit, and single-purpose loans for machinery and equipment. Banks generally have been reluctant to offer long-term loans to small firms. The Governement guaranteed lending program encourages banks and non-bank lenders to make long-term loans to small firms by reducing their risk and leveraging the funds they have available. The Governement’s programs have been an integral part of the success stories of thousands of firms nationally.
In addition to equity considerations, lenders commonly require the borrower’s personal guarantees in case of default. This ensures that the borrower has a sufficient personal interest at stake to give paramount attention to the small start-up business. For most borrowers this is a burden, but also a necessity.
There are several major types of equity investments for a small business:
1. An Equity Loan
This extends an ownership position to induce the loan or may be originally a note (debt) with an option to convert from debt to equity.
2. Seed Financing
Generally used by a business in the startup phase with no operating history. This kind of investment depends heavily on a business plan, the management team, a strong marketing plan, and sound financial analysis.
3. 1st Round Financing
For a company getting ready to go to market. Research and Development is most likely complete and the company is ready to grow. This loan typically takes the form of a convertible bond.
4. 2nd Round Financing
Company is achieving early stage maturity and is looking for a merger or acquisition, or is looking to go public (IPO)
5. Later Stage Financing
Company is now mature and is in need of funding for expansion either in facilities or product lines. Their financial state should be profitable or at least not losing money.
6. M & A Financing
Two companies combine resources and if one survives it is the acquirer. If both survive then there is a merger.
Whichever type of financing you go for the key issues is firstly how important it is for you to maintain full ownership of the organisation, whether you want to borrow the money and be burdened with paying the loan back or if you want to op for joining up with either an individual (Business angel) or organisation (venture capital) to not only provide the funds for your business but also contribute both know how, experience and contacts for through which the business can grow.
,The Caban Group has compiled a significant infrastructure of service providers who support entrepreneurs with access to business finance, support with restructuring, access to grant funding and support in improving cashflow challenges. Our ,Corporate finance team in the UK supports the South African head office to ensure you have the best possible chance of securing the support your business requires. Contact the team at Caban through the contact form on the website or by emailing Info @ Caban.co.za