Raising Entrepreneurial Capital

The package features a capital structure with more equity ($600,000) than

debt ($200,000) financing for their long-term needs. They are funding their

capital needs with internal cash flow and short-term borrowing.

The Package

Cost or investment

Required Total cost

Internal cash

flows and operating

line of credit Debt

Risk

capital

New line $1,100,000 $300,000 $200,000 $ 600,000

Marketing costs 225,000 225,000

Additional working

capital

200,000 200,000

Cushion 50,000 50,000

Subtotal $1,575,000 $775,000 $ 200,000 $ 600,000

What New Tech Learned

Stuart and Elizabeth now recognize that:

. There is a range of funding sources open to growing businesses.

. They will have to put together financing from a variety of these sources in

order to meet their funding needs.

. Long-term risk capital financing alternatives include equity and subordin-

ated debt. They prefer to use equity because it allows them to reinve st

earnings into the business.

. Long-term conventional financing alternatives they might consider are

mortgages, leasing and term loans. They will pursue a long-term loan

from their bank.

. They will include cash flow, supplier credit and an extension of their bank

line of credit as part of their short-term risk capital financing.

CASE 3.2 NEW TECH (G): ARE THEY WORTH AN

INVESTOR’S TIME?

T

HE CHALLENGE:ARE THEY WORTH AN INVESTOR’S TIME?

Can New Tech make itself attractive to investors?

Can it prove that it has:

. Growth potential in the marketplace?

. Prospects of exceptional return on investment?

. A way for investors to get their money out?

Alternatives in Venture Financing—Early Stage Equity Capital 105

Grant Argent (New Tech’s financial advisor) stresses that the manage-

ment team must be able to convince investors that New Tech is a fast-

growing business with excellent profit potential. He informs Stuart Chip

(New Tech’s president) and Elizabeth Pratt (New Tech’s accountant) that

this evidence has to be documented in a convincing manner in an investment

proposal. To do this, they must gather critical information that investors will

need to examine before making their decision to invest in New Tech.

Potential investors, not to mention Stuart and his team, will need reliable

information to:

. see what the company’s growth opportun ities are and how it will

exploit them

. put a value on the company’s growth opportunity and expected return

. determine the risk element and expected return on investment the

investors want to earn

. arrive at some parameters for the share of equity the company will offer

Elizabeth can do some of the groundwork on her own, but she asks Grant

for some help with the technical analyses that will be required.

Key Tasks

The New Tech management team will have to take on a variety of tasks:

. assess the external environment, including economic and industry-specific

trends, and an analysis of their competitors

. examine their own procedures and processes, and develop plans to opti-

mize them to achieve the growth targeted

. determine what they feel is the value of the company now, at the beginning

of the investment period, based on their financial forecasts

. decide on how the investor would be able to take his or her money out and

calculate a projected value for the end of the investment period

. determine what rates of return an investor might expect given their pro-

posal and forecasts

THE CHALLENGE:HOW DOES NEW TECH STACK UP?

. Are the market condit ions right for New Tech’s growth?

. How does New Tech compare to its competitors?

New Tech in Context

Elizabeth starts by developing background information on New Tech’s

industry and how it is being affected by current economic trends. She tries to

answer these questions:

106 Alternatives in Venture Financing—Early Stage Equity Capital