13–1 copyright © by south-western college publishing. all rights reserved. ipfw business plan...
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13–1Copyright © by South-Western College Publishing. All rights reserved.
IPFW Business Plan CompetitionIPFW Business Plan CompetitionPre-competition ProgramPre-competition Program
IPFW Business Plan CompetitionIPFW Business Plan CompetitionPre-competition ProgramPre-competition Program
Financing and Capital Sourcing Financing and Capital Sourcing OptionsOptions
ByByDr. Bill TodorovicDr. Bill Todorovic
Department of Management and MarketingDepartment of Management and MarketingNeff Hall 340L, Tel. (260) 481 6940Neff Hall 340L, Tel. (260) 481 6940
E-mail: E-mail: [email protected] Web: Web: http://users.ipfw.edu/todorovz/
13–2Copyright © by South-Western College Publishing. All rights reserved.
The Nature of a Firm andThe Nature of a Firm andIts Financing SourcesIts Financing Sources
The Nature of a Firm andThe Nature of a Firm andIts Financing SourcesIts Financing Sources
• Factors That Determine Financing
–Firm’s economic potential
–Maturity of the company
–Nature of its assets
–Owners’ preferences for debt or equity
13–3Copyright © by South-Western College Publishing. All rights reserved.
Sources Of FundsSources Of FundsSources Of FundsSources Of Funds
Personal
Friends and Family
Angels
Venture Capitalist
Banks
Government
Customers/Suppliers
Start-up
Going ConcernBeginning of Production ?
IPO
Amount
Company Size
13–4Copyright © by South-Western College Publishing. All rights reserved.
Sources of FinancingSources of FinancingSources of FinancingSources of Financing
0 10 20 30 40 50 60 70 80
Personal Savings
Family Members
Partners
Personal Charge Cards
Friends
Bank Loans
Private Investors
Mortgaged Property
Venture Capital
Other
Percentage of Entrepreneurs
Using Source of Financing
Sources of Financing
13–5Copyright © by South-Western College Publishing. All rights reserved.
Critical Financing FactorsCritical Financing FactorsCritical Financing FactorsCritical Financing Factors
•Accomplishments and performance to date.
•Investor’s perceived risk.
•Industry and technology.
•Venture upside potential and anticipated exit timing.
•Venture anticipated growth rate
•Venture age and stage of development.
13–7Copyright © by South-Western College Publishing. All rights reserved.
Debt or Equity?Debt or Equity?Debt or Equity?Debt or Equity?
• Entrepreneurs typically prefer debt– Allows them to appropriate as much as of the benefit as
possible + retain sole control
– Can default
• Debt is unattractive to investors in emerging technology– Usually little collateral or predictable cash flow
– Information asymmetry is lessened by ownership position – shared ownership gives some control
– High interest rate to offset risk will stifle growth or cause default
13–8Copyright © by South-Western College Publishing. All rights reserved.
Debt or Equity Financing?Debt or Equity Financing?Debt or Equity Financing?Debt or Equity Financing?
• Potential Profitability
• Financial Risk
• Voting / Control
13–9Copyright © by South-Western College Publishing. All rights reserved. Fig. 13.1
Equityfinancing
Debtfinancing
HIGH
LOW
LOW HIGH
EquityFinancing
DebtFinancing
PotentialProfitability
Financial Risk/Control
Tradeoffs Among Potential Profitability,Tradeoffs Among Potential Profitability,Financial Risk, and VotingFinancial Risk, and Voting
Tradeoffs Among Potential Profitability,Tradeoffs Among Potential Profitability,Financial Risk, and VotingFinancial Risk, and Voting
13–10Copyright © by South-Western College Publishing. All rights reserved.
$28,000
income on
total assets
of $200,000
14% return
on assets
($28,000÷ $200,000)
14% return
on $200,000
($28,000÷ $200,000)
No debt
equals
$200,000
equity
With no debt and all equity:
Debt Versus EquityDebt Versus EquityDebt Versus EquityDebt Versus Equity
Equity:Equity: Owners get to keep all of the profits Owners get to keep all of the profits in return for accepting the risk of lower in return for accepting the risk of lower
returnsreturns
13–11Copyright © by South-Western College Publishing. All rights reserved.
$28,000
income on
total assets
of $200,000
14% return
on assets
($28,000 ÷ $200,000)
18% return
on $100,000
($18,000÷ $100,000)
$100,000 debt
(10% cost)
equals
$100,000
equity
With $100,000 debt and $100,000 equity:
Debt Versus EquityDebt Versus Equity (Cont’d) (Cont’d)Debt Versus EquityDebt Versus Equity (Cont’d) (Cont’d)
Debt is Risky:Debt is Risky: Lenders have first claim on Lenders have first claim on profits and must be paid even if there are profits and must be paid even if there are
no profits.no profits.
13–13Copyright © by South-Western College Publishing. All rights reserved.
The Banker’s PerspectiveThe Banker’s PerspectiveThe Banker’s PerspectiveThe Banker’s Perspective
• Bankers’ Concerns!
• The Five C’s of Credit–Character of the borrower–Capacity of the borrower to repay the loan–Capital invested in the venture by the borrower–Conditions of the industry and economy–Collateral available to secure the loan
13–15Copyright © by South-Western College Publishing. All rights reserved.
Financial Information RequiredFinancial Information Requiredfor a Bank Loanfor a Bank Loan
Financial Information RequiredFinancial Information Requiredfor a Bank Loanfor a Bank Loan
• Three years of the firm’s historical statements
• The firm’s pro forma financial statements
• Personal financial statements
13–17Copyright © by South-Western College Publishing. All rights reserved.
Getting to know your friendly neighborhood Getting to know your friendly neighborhood Venture Capitalist…Venture Capitalist…
Getting to know your friendly neighborhood Getting to know your friendly neighborhood Venture Capitalist…Venture Capitalist…
13–18Copyright © by South-Western College Publishing. All rights reserved.
The myth… and the realityThe myth… and the realityThe myth… and the realityThe myth… and the reality
• The myth: VCs support good people and good ideas
• The reality: VCs invest in industries with double digit growth in the middle of the S-curve
– Appropriate management team – Specialty funds (earlier and later stages on the S-
curve)– Limits the risk to management risk – Produces attractive exit opportunities
13–19Copyright © by South-Western College Publishing. All rights reserved.
Present Day SituationPresent Day SituationPresent Day SituationPresent Day Situation
Myth: There is less available capital
Fact: The industry has plenty of money, but limited appetite for new investment
Fact: Investor attitudes toward risk have changed
13–21Copyright © by South-Western College Publishing. All rights reserved.
VC fills a voidVC fills a voidVC fills a voidVC fills a void
• Gap between innovation and traditional sources of debt
• Risk inherent in startups typically justify interest rates higher than allowed by law
• VCs must balance high returns for their investors against sufficient upside potential for entrepreneurs to keep them motivated
13–22Copyright © by South-Western College Publishing. All rights reserved.
What VCs get out of itWhat VCs get out of itWhat VCs get out of itWhat VCs get out of it
• 10X return of capital over 5 years
• VCs management fees and high growth funds
• Fund structured with limited and general partners and a life of 7-10 years
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What VCs Do?What VCs Do?What VCs Do?What VCs Do?
13–25Copyright © by South-Western College Publishing. All rights reserved.
The Overhang: Uninvested CapitalThe Overhang: Uninvested Capital
0
50
100
150
200
25019
80
1981
1982
1983
1984
1985
1986
1987
1988
1989
1990
1991
1992
1993
1994
1995
1996
1997
1998
1999
2000
2001
2002
Year
Ann
ual C
omm
itted
Cap
ital (
$M) Buyouts
Venture
Complements of Thompson Venture Economics
13–26Copyright © by South-Western College Publishing. All rights reserved.
AngelsAngelsAngelsAngels
• Well to do private individuals
• Geography and industry specific
• Invest lower amount than VC
• Often a good source of industry experience
13–27Copyright © by South-Western College Publishing. All rights reserved.
Finding AngelsFinding AngelsFinding AngelsFinding Angels
• Private Individuals
• Professionals (lawyers, accountants, bankers)
• Local small business development centers
• Internet associations (e.g., Technology Capital Network at MIT)
13–28Copyright © by South-Western College Publishing. All rights reserved.
Other Sources of FinancingOther Sources of FinancingOther Sources of FinancingOther Sources of Financing
• Community-based financial institutions
• Large corporations
• Stock Sales–Private placement–Initial public offering (IPO)
13–29Copyright © by South-Western College Publishing. All rights reserved.
Why Companies Invest?Why Companies Invest?Why Companies Invest?Why Companies Invest?
• Preemption of new rivals• Replace core earnings lost because of an
emerging technology• Apply existing competitive advantage in a
rapidly growing market• And some degree of autonomy:
– JVs, alliances, flexible internal management structures
13–30Copyright © by South-Western College Publishing. All rights reserved.
Government-Sponsored ProgramsGovernment-Sponsored Programsand Agenciesand Agencies
Government-Sponsored ProgramsGovernment-Sponsored Programsand Agenciesand Agencies
• Small Business Administration (SBA) loans–Guaranty loan–Direct loan
• Small business investment centers (SBICs)
• Small Business Innovative Research (SBIR)
• State and Local Government Assistance
13–31Copyright © by South-Western College Publishing. All rights reserved.
Business Suppliers andBusiness Suppliers andAsset-Based LendersAsset-Based Lenders
Business Suppliers andBusiness Suppliers andAsset-Based LendersAsset-Based Lenders
• Trade Credit (Accounts Payable)
Short-duration financing (30 days)
Amount of credit available is dependent on type of firm and supplier’s willingness to extend credit
13–32Copyright © by South-Western College Publishing. All rights reserved.
Business Suppliers andBusiness Suppliers andAsset-Based Lenders (cont’d)Asset-Based Lenders (cont’d)
Business Suppliers andBusiness Suppliers andAsset-Based Lenders (cont’d)Asset-Based Lenders (cont’d)
• Equipment Loan and Leases
• LeasesFree up cash for other purposesLeaves lines of credit openProvides a hedge against
obsolescence
13–33Copyright © by South-Western College Publishing. All rights reserved.
Business Suppliers andBusiness Suppliers andAsset-Based Lenders (cont’d)Asset-Based Lenders (cont’d)
Business Suppliers andBusiness Suppliers andAsset-Based Lenders (cont’d)Asset-Based Lenders (cont’d)
• Asset-based Loan
• FactoringAccounts are sold to factor at a discount to invoice
value
Factor can refuse questionable accounts
Factor charges fees for servicing accounts and for amount advanced to firm prior to collection
13–34Copyright © by South-Western College Publishing. All rights reserved.
Business Suppliers andBusiness Suppliers andAsset-Based Lenders (cont’d)Asset-Based Lenders (cont’d)
Business Suppliers andBusiness Suppliers andAsset-Based Lenders (cont’d)Asset-Based Lenders (cont’d)
• Commercial Banks
–Line of credit
–Revolving credit agreement
13–35Copyright © by South-Western College Publishing. All rights reserved.
Business Suppliers andBusiness Suppliers andAsset-Based Lenders (cont’d)Asset-Based Lenders (cont’d)
Business Suppliers andBusiness Suppliers andAsset-Based Lenders (cont’d)Asset-Based Lenders (cont’d)
• Commercial Banks (cont’d)–Term loans
–Chattel mortgage
–Real estate mortgage
13–36Copyright © by South-Western College Publishing. All rights reserved.
Formal Vs. Informal InvestorsFormal Vs. Informal InvestorsFormal Vs. Informal InvestorsFormal Vs. Informal Investors
• Funding structure and flexibility
• The fit to the mold
• Involvement in the business
• Rigidity of relationship with the firm