Note: This was an article I previously wrote for Technorati in 2011. – TCW
I personally know of three company founders who are in the process of raising equity capital for their respective businesses. Two of these companies are revenue generating yet are still very much in the start-up stage. The first company (Company A) is a clothing wholesaler that serves a niche market using US-based manufacturing and eco-friendly positioning. Another (Company B) is a convenience health food product company which now has a presence in some Whole Food stores. The third company (Company C) is a much larger entity in the stable growth phase.
Start-ups vs. stable, growing firm
Because the first two companies are still considered “startups”, they are seeking angel capital. Company A has raised $1.5 million from a large number of small angels and one larger investor. Company B has largely adopted a bootstrapping strategy and has, thus, only raised ~$100,000 in angel investment. Company C, which has largely self-funded growth through operating cash flow, is now seeking a strategic investor, private equity or mezzanine financing.
Whenever business owners or founders tell me they need to raise capital, I ask them, “Why?”. In other words, “What do you need the money for? What will you do with the money you raise and when will you do this?” I ask business owners these questions to get them to separate the money they need from the source of the money. Why? Because too often people get tunnel vision. Separating the source of the funds from the use of the funds helps spark creativity and the identification of additional or more targeted capital sources.
Company A now seeks either a large angel investor with strategic ties and contacts in its industry or a strategic investment from one of the larger companies in its industry. Why? Because Company A wants to increase its distribution channels, raise its industry profile and eventually become the eco-friendly go-to wholesaler in its niche…before other eco-friendly competitors with a US manufacturing base enter the fray.
Company B has relied on its strong banking relationship to obtain a lot more debt than the average startup would typically have access to. It also helps that two of the co-founders successfully sold another company a few years ago. Although the founders are willing to shoulder huge financial risk, they realize they do need some additional equity capital to shore up the balance sheet, so they are seeking a few committed angel investors who are also willing to put in sweat equity to ensure their investment is a success. The founders have utilized creative financing, getting friends and business associates to provide services, products and introductions that enable Company B to conserve cash. For example, they are negotiating with a public relations firm to help them get noticed by the companies and individuals they are pursuing and are considering hiring college PR interns.
Company C needs equity capital to expand its IT infrastructure without increasing its debt load and stressing its margins. The company wants to increase its capital expenditures and amortize the costs over several years instead of expensing the costs in the year incurred. (There is some tax accounting or tax law issues involved here but that has little impact on what the company wants to do.) Because this is what Company C wants the money for, the owners know they are better off pursuing one large investor or company than the numerous small investors they sought when they founded the company years earlier.
These three companies provide a reasonable overview of the various reasons for pursuing equity investors and the varying scenarios businesses must consider to find investors who are a good fit. Determining how much money is needed helps to narrow the field of potential investors. However, going further and asking why, what, and when questions helps identify and target sources that founders and owners may not have previously considered. There is no one size fits all for equity financing. These examples illustrate that.
For more information and actual examples on raising debt or equity capital at various stages of your business’ growth, check out my book, The Funding Is Out There! Access the Cash You Need to Impact Your Business.