While entrepreneurs often face common challenges – including landing new customers, creating marketing strategies, and understanding accounting – their greatest challenge is usually money, i.e. “access to capital”. This is a meaty topic, but one that is on many business owners’ minds today. As our economy shifts and evolves, this is a good time to talk with fresh perspective on the familiar topic of what this community needs to help businesses grow.
The money an entrepreneur puts into a business is referred to as capital, and there are essentially two types of capital: debt and equity.
Debt is a loan that an entrepreneur has to pay back. Equity is capital that the owner or an investor puts into the business. An investor who puts capital into a business does so in return for becoming a part owner in the company. While most businesses use debt capital for start-up costs and purchasing equipment, Grand Valley businesses are particularly dependent on debt financing for their capital needs. In other words, when local businesses need money to grow, they head to the bank. This approach to financing growth works well for those business owners who want to retain complete control of the ownership of their company and have a slow and steady approach to growth.
Debt works well in many instances, but not all. Wells Fargo puts on a wonderful course called “Financial Management for the Closely Held Business” that walks, step by step, through how to debt-finance a business intelligently. The class helps entrepreneurs to understand what a sustainable growth rate is for their business: A sustainable growth rate calculates how fast a business can grow without putting more equity into the business. The challenge is that if you have expansion plans that include more than a steady 10 percent growth year over year, they will exceed the sustainable growth rate. The business owner is going to need to invest more equity into the company.
And what if you have already invested every dollar you have into the business? Well, entrepreneurs sometimes have goals that require outside funding. This can mean looking for investors. That raises the hairs on many business owners’ necks as they shriek, “Why in the world would I give away my company?” True, it’s not for everyone, but there are sitations when itworks.
High-growth companies are ones that sprout from a small shop to a large company in just a few years. They might have an innovative product that is ready for distribution in a national chain or a new technology that serves the Fortune 500. To “go big,” they will need to purchase materials, buy equipment, rent larger facilities, and hire employees. Wouldn’t that be great for our local economy? The challenge is that that kind of dramatic growth carries a burden of risk that matches the scope of the opportunity.
This kind of scenario is frequently viewed as too risky for banks and even venture capitalists, yet many fledgling companies require more investment to grow than can be raised from friends and family. One solution is to work with angel investors who are increasingly stepping in to fill this gap and provide the capital necessary to grow the business.
Don’t let the name food you: Angel investors are not angels. They are wealthy individuals willing to invest money in a business in hopes of recouping significant returns. They tend to have a business or technology background and can provide entrepreneurs with not just capital, but also connections and guidance. They provide early-stage financing in a space once occupied by venture capitalists, who now invest primarily in larger deals and more mature companies. Individual angels invest between $5,000 and $250,000 in local and regional ventures, giving their investments local impact. In the past decade, many angel investors have formed and joined groups because investing through groups offers several advantages — most notably a large and more diverse portfolio, access to expertise, and higher deal flow. The Grand Valley does have its fair share of high net-worth individuals, but we do not have an angel investor group … yet.
Our local economy still has its challenges, but one of the biggest is our business community’s dependence on banks to finance business growth.
As our economy recovers, businesses will need to be creative about how they find the cash to support their growth. I hope that as we move forward, more businesses can see the benefits of working with investors, sharing ownership, and shooting for the big opportunities.