Starved of funding “oxygen” as banks and other “mainstream” finance providers retrenched, UK small businesses have innovated to keep capital flowing. They’ve adapted skilfully, with equity participation emerging as a vital funding source in the fast-growing £1.78bn UK alternative finance market.
Small firms are borrowing from family and angel investors or harnessing crowdfunding models like Kickstarter for seed capital. Many entrepreneurs still worry that equity finance is a panic measure, or a sell-out. In reality, a well-planned agreement will not only efficiently deliver essential capital, it can also deliver lasting growth and value that far outweigh other funding models.
Here are five ways to ensure you successfully bring investors on board your business – and avoid the pitfalls.
Run your own show – or get expert help?
The fundamental for any entrepreneur is whether they want to give a stake in their business to an outsider. The business is often their whole life and certainly their all-consuming focus. Surrendering equity means entrepreneurs giving up some of their dream; there’s a personal cost as well as financial one.
But investors bring a wealth of expertise. They accept risk in ways that bank advisers never will, they’ve taken different firms through growth pains – and they’re often well-versed in the peculiarities of the market you’re disrupting.
Since you’re asking for investment, treat every potential investor as a prospect. Show them you have a credible business model, management team and focus – everyone has to be able to extract value and make money from this investment. The golden rule is: don’t give up equity unless you’re clear on what you want, and what’s in it for the investor.
And if your business has hit a rough patch, or you have short-term needs such as equipment funding, should you be looking at equity investment anyway? Could short-term options like invoice financing or asset finance steady the ship without giving away precious equity?
Investors deliver value beyond capital
Investors bring commercial expertise, market insight, contacts and customers. They’re not in it just for the money: they’re excited by your vision and have the wisdom to help you avoid mistakes. Maintain a healthy debate with your investor and welcome their challenges. If you are not being tested, you may have the wrong investor on board.
Giving up equity – in terms of added value, not simply a cash proposition – is crucial if the entrepreneur is to extract real value from equity finance. Be clear what you want in terms of investor expertise and capital. Accepting the most capital for the least amount of equity is always tempting – but isn’t always the best way to proceed.
Think the same way
Equity participation is a partnership and demands that all parties’ thinking is aligned. Your investment approach also has to be consistent with your medium to long-term strategy. The prospect of new funding is exciting, but don’t proceed if you harbour doubts about the investor’s views on the way forward. You need to complement each other’s areas of expertise to optimise value in the business.
Listen to advice before you commit. Your investor will have done this type of deal before but it’s incumbent on you as the entrepreneur to get an independent view. Advice sources range from government-funded organisations like the Business Growth Fund as well as the usual accountant and lawyer suspects. They can’t necessarily say if it’s right for you but they will look at the options first.
See it through
Successful equity participation is about execution. Commit to the deal from day one. Set clear objectives and meet them with a “define, monitor and review” approach. Accept that you may make mistakes and learn quickly from them if you do.
Sometimes, you and your investor find that you don’t see eye-to-eye. Head off any difficulties by planning scenarios and capturing them in an agreement and exit plan. In most cases, the partners will successfully deliver the value and the document can gather dust in a drawer.
Equity finance can bring results that are much greater than its parts. A well-planned and executed partnership approach means that one plus one really will equal three.
Philip White is managing director of Syscap.
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