Raising Equity Capital: Part 2 of 4

RAISING EQUITY CAPITAL: THE ESSENTIALS YOU NEED TO KNOW

This is Part 2 of 4 Parts

Warning: There is a considerable amount of information here and in the other sequential Parts concerning the process and issues involved in raising equity capital. I understand how important this information is to you when making up your mind as to who can best help you with the expansion of your business. Consequently, as the guide covers a lot of ground, expect a long read.

Part 2: The equity raising process

Investor reactions to receipt of an equity offer

Initial evaluation. You can expect that an investor considering your investment proposal for the first time will  initially ask you to respond personally to the following questions as a very minimum. At such a point, it can be safely assumed that the investor will have already perused the offer information statement that sets out the essential broad details of your venture plus details of your equity offer. At this point, the investor may or may not have yet read your business plan:

  • How do you verify or justify how much money will be needed to get the venture started, and sustain it through the establishment phase, at least until the cash flow is consolidated through regular sales?
  • Why should your venture’s net profit projections for the first five years after start-up be accepted as realistic and achievable?
  • What practical knowledge and expertise in the industry in which the venture will operate do you and your colleagues or management team have?
  • Can you present a practical, achievable and cost-effective marketing strategy to generate sales?
  • Can you demonstrate that your target sales are realistic, achievable and will result in cash sales?
  • Can you show that your venture will generate adequate and continuing levels of profitability and shareholder value?
  • Most importantly, can you confirm that your venture has a pro-active and experienced management team across all the fundamental business disciplines necessary for your venture, and that the team includes at least one person who has proven business management experience at a senior level? This is a particularly critical point of concern to venture capital firms and professional investors.

Initial hurdles. If the investor likes your responses to these initial questions and wishes to examine your investment proposal in more detail (Hooray! you have just jumped over the first major hurdle), the investor will ask for your formal business plan, if he or she has not already read it, and perhaps ask to meet you. At a meeting, the investor will normally ask you many further questions that will be much more comprehensive and pervasive that the initial questions set out above. If the meeting goes well, the investor will normally submit a written questionnaire for you to complete. (Hooray, again! you have just jumped over the second major hurdle).

The ‘Venture Appraisal Questionnaire’

Investors require detailed personal information. This questionnaire, popularly referred to as a ‘Venture Appraisal Questionnaire’ contains very detailed personal and business-related questions that many persons feel invade their privacy. This is the wrong attitude to adopt. Using your venture as the example, you must expect to receive and complete a ‘Venture Appraisal Questionnaire’ for the simple reason that you are asking the investor to commit substantial funds to your venture (which can be more than a million dollars), so it is not unreasonable for the investor to want to know a great deal about you personally and the members of your team.

Investors are looking for reasons to deal with you. The investor is not doing a ‘third degree’ on you to dig up dirt. The purpose of the ‘Venture Appraisal Questionnaire’ is the exact opposite. The investor simply wants to confirm that that you are a suitable person to do business with and that you will protect his or her investment to the highest degree possible in accordance with a Shareholder Agreement. Venture Appraisal Questionnaires therefore contribute greatly in building confidence between investors and you.

This is your action point. At this point, let’s take stock. By this point, you and I will have developed your business plan to present a comprehensive, investment ready, investor friendly proposal. At this point, you will have to use all your sales skills to present your venture to investors in the most favourable light possible; this is therefore the point of make or break. At this point, you are on your own; there is little more that I can do to help. That is because investors expect venture Principals to personally present their proposals effectively, with authority, knowledge and confidence in a face-to-face situation..

Your role is the key. Investors will not support ventures where, for whatever reason, venture Principals do not represent themselves in the discussions or negotiations with investors. At this time, I can only help you from the sidelines as your team coach, because it is you as team captain with your team in support who has to personally play the game to win the gold medal. In the discussions or negotiations with investors, it is also vital that you develop a good rapport with the investors. Investors generally will only invest in companies where a good personal and open working relationship is established in the venture investment negotiation stage.

A few words about the discussions and negotiations with investors

Discretion required. When talking with investors, here are some important words of warning about the influence of the law. Where an investor indicates interest in your investment proposal and direct discussions commence, it is very important that you use a great deal of discretion in how you promote your investment offer. You must be careful not to use any words, either spoken or written, that may be considered as deceptive or misleading or cannot be supported by reasonable forecasts or projections in your business plan.

Red alert issues. In particular, you must be careful not to give or imply guarantees or assurances that specific business objectives can or will be achieved, or that the investment is ‘risk free’, or is ‘low risk’, or has ‘high returns’, or has ‘high yields’. Additionally, you must be careful not to give the impression that you are soliciting for money, share hawking, dealing or trading in securities, exerting sales pressure on the investor, or offering securities advice or investment advice.

No official endorsements. Most importantly (and this is critical), you must not give any impression or imply that the investment is endorsed or approved by the Australian Securities and Investments Commission or Graham Segal trading as Chiron! the business doctor.™. The regulations under which ASIC permits me to work in the private equities market specifically prevents me from making any judgements on or providing any recommendations to third parties about the commercial viability of any specific venture.

That is because ASIC classifies me as a ‘business matchmaker’ bringing companies with growth potential into contact with private investors and venture capital firms that wish to participate in investment opportunities with growth companies. Neither I, nor any of my officers, employees, advisers, agents, affiliates or representatives are securities dealers, financial advisers, finance brokers, share brokers, remisiers or an intermediary to any established stock market and cannot buy or sell securities as a broker.

Never under-estimate the amount of equity capital required

Not too much, not too little, just the right amount. Business owners and entrepreneurs are historically notorious for under-estimating the amount of funds required to get their ventures started, and sustain them through the establishment phase until regular sales can consolidate the cash flow. This is probably a natural reaction to the philosophical rationale that it is probably easier to raise a lesser rather than a greater amount of equity capital. However, nothing turns off investors more quickly than a venture running out of money – after all, the investors contributed the disappearing money!

It’s a question of professionalism. Such a situation shows a serious lack of professionalism and business competence or capability on the part of the business founders, because the venture’s sales and cash flow forecasts must obviously be way off target. This situation places the investors in a difficult position. For example, do the investors put in more money, which they haven’t budgeted for, or do they let the venture fail, and lose their investment? The imperative that must be considered here is this: the investors may not be in a position to be able to commit more funds to the venture at that particular time.

Don’t get your existing investors offside. Investors, by and large, do not have large dollops of money sitting around in bank accounts or hidden under their mattresses doing nothing. Their funds are always working in various ventures. An investor may have to juggle his or her investment funds to commit more money to a venture in trouble, but that may not be possible in the timeframe available to save the troubled venture. The business owners and entrepreneurs will also lose their investment in this situation. As a matter of general principle, it is better to over-estimate the funds required, rather than under-estimate the funds required. Of course, whatever the level of funds needed, the figure has to be justified through the business plan.

Raising equity capital: there are no guarantees

This is an immutable rule; note it, heed it, prepare for it! I have already said this, but I must stress it again. There are no guarantees in any capital raising program that investors will contribute funds to a particular venture. As a sidebar issue, there is also an element of luck involved in business owners and entrepreneurs being in the right place at the right time. This is because venture capital firms and individual investors do not always have investment funds available at the specific time that a business owner or entrepreneur submits a funding proposal.

Investors who may be keen on a venture but do not have investment funds immediately on hand have been known to reach agreement with a business owner or entrepreneur to commit investment funds at some pre-determined or agreed point in the future.

… this is the end of Part 2: where would you like to go next? Please select from the following options: 

Yours sincerely,

Graham  Segal

Chiron! the business doctor.™ ... relieves business pain!™ 

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© Graham Segal, Author. March 2013. All Rights Reserved

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This website and the associated webpages content are produced by Graham Segal trading as Chiron! the business doctor.™. They are licensed under a Creative Commons Attribution-NonCommercial-NoDerivs 3.0 Unported License based on Graham's work at http://chironthebusinessdoctor.com.

Date this webpage last reviewed/updated: 5 May 2013

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