This post is part of a series called “Starting a Small Business,” where we look at the steps to start a business and make it big.
You have been in business for a while now. You are making money, but you are constrained by capital requirements for growth. You have been following your business plan, marketing plan, and have done what you can to increase revenues and cut expenses. To keep a high growth rate, you likely need to expand your business. Expanding is expensive. However, there are people that will give you the money and help you grow. It is just important to know how to find it and what you are giving up in exchange.
If you have ever seen the show “Shark Tank,” you might already have a good idea of the basic mechanisms for venture capital and angel investing, the two main growth capital sources for small companies.
As a small company, finding funding can be intimidating. While in college, I worked as an associate at a boutique financial advisory firm where I was integral in growth deals. In this case, I speak from experience, and will tell you all I learned working in this industry.
Before a company decides to grow through investors, it is important to decide if that is the right move. If you enjoy the 100% freedom of being your own boss, know that investors will take ownership in the company and you will be reporting back to those investors regularly. If they take over 50% of the company, they are your boss and you lose control. However, the potential returns from large growth investments can be very lucrative. It is up to you, as a small business owner, to decide if it is worth the loss of control.
If you decide to take the growth capital, you have to value your company. I highly recommend you take on the assistance of a professional advisor for this process unless you are an expert. You may lose millions of dollars if your assumptions are wrong. This guide to valuation is very brief. If you want help doing this, I am professionally trained with experience. See my financial services page for details.
Begin valuing your business by putting together a full, detailed income statement, balance sheet, and cash flow statement for your business. Be as accurate and detailed as possible. From those statements, you will calculate your free cash flow, as I discussed in this post on the value of stock. Then, you will enter your free cash flow into a discounted cash flow model, simply called DCF model in the industry. That DCF model gives you your enterprise value. It is also best to run comparison figures to value your company compared to others in the industry.
Update Your Business Plan and Build a Prospectus
Investors will want to know what they are getting themselves into and how your company operates. Update your business plan, that you should already have from when you started your company, and include your financial statements, including projected, or pro-forma, statements for the next two or three years. This should be perfect. No errors, no typos, nothing wrong at all. Remember, this is the document you are giving someone to tell them why they should give you a ton of money.
Finding Potential Investors
Odds are you don’t just happen to know a guy who wants to give you a few million dollars, so there is leg work involved here. Call every venture capital firm in the world that services your industry. If you are not working with a professional, who will have contacts with angel investors and venture capital firms, CrunchBase from TechCrunch may be a good resource.
Stick to the phones and understand how investors look at the opportunity. They want something that can yield them an enormous return in a period generally less than ten years. They usually want control when they invest. Be ready to talk through this and see if you can spark their interest.
Negotiating a Deal
Once you have a small list of investors, put your deal together. For their investment, the investors are looking to own a part of your company. Just like on “Shark Tank,” these people do not care about you as a person, they care about you as a business partner that can make them money. Be smart, don’t show all of your cards, and fight for the best deal possible. You want to give away as small of a share of your company as possible for the highest bid possible.
This is not a simple process. It is stressful, time consuming, and might not lead anywhere. However, it is the standard method to bring in money so you can build a new or bigger company. To buy new equipment or hire employees, you need the money. If you are happy being a small business, you can skip this step. However, if you want to be the next Google or Facebook, you have to stick to this process. In time, you might be involved in this process several times. These “funding rounds” allow you to build up to the big time.
Please read all of the posts in the series: