It’s interesting to see what motivates business owners to come and seek legal assistance for the first time. Often, it’s due to unexpected litigation that a business has to defend. If not, it’s likely that most small business owners will seek out legal counsel as they strive to increase their financing options, one way or another.
For many start ups, particularly Information technology and health care related companies, there is hope that an equity investment will come from an independent, third party, even before a track record of revenue growth and profitability is established. Realistically, businesses at this stage often have a better hope of obtaining a rare equity investment, than they are to be capable of qualifying for a line of credit or other debt financing.
Businesses typically start with an investment from: (1) the owner’s personal resources, like home equity, a 401(k), or other assets, (2) investment from a silent partner who is persuaded to make an investment from a few thousand to perhaps $100,000 to help get the business off the ground, or (3) “bootstrapping” the business with a few personal dollars here and there, then earning its way forward by producing increasing amounts of revenue over time.
It isn’t long, however, before most businesses appetites for growth exceed the amount of working capital on hand. As its principles go out and learn that their businesses’ history is too short, their asset base too small, and their profitability too much in doubt for traditional financing to be easily procured, they seek out alternative sources of financing, and help structuring their business to present itself as more creditworthy. At this point, a conversation with an attorney can become very interesting.
The Buy-Sell Agreement recommended by the bank needs to be drafted; you may need an operating agreement, reliable protection for your intellectual property; other boundaries for “hard assets” that may be used for collateral in a financing arrangement; and many other tools might be considered as well.
Sometimes, another advisor, perhaps a tax accountant, auditor, business valuation expert, etc., might be able to provide more immediate and relevant information, but you will soon need an attorney involved to provide the appropriate documentation for the steps you will take.
But the questions my clients ask typically aren’t about the documents themselves, they are usually questions about where to go and what kinds of financing they should seek.
This is the first in a series of articles devoted to various financing options for emerging businesses. In the future, this column will examine various equity financing arrangements and borrowing options. Below is a brief outline of several debt financing options in the early growth stages of business.
Traditional, Unsecured Lines of Credit: obtaining a traditional line of credit is highly dependent on past credit, cash flow and bank relationships. It’s often difficult to obtain until after other sources have been used successfully.
Factoring: most short term assets, receivables, inventory, etc., as well as month over month cash flows, can be factored to obtain short term financing. The cost of factoring can be very expensive compared with traditional financing, but for many newer businesses, it’s the most efficient way to get to the capital resources needed to grow your business.
SBA Lending: loan guaranties are available with appropriate loan covenants and through approved lenders from the US Small Business Administration. Qualifying is marginally easier than it is for traditional financing, but it’s by no means automatic.
Micro-enterprise Loan Programs: In Hamilton County, Ind., thanks to the joint efforts of the Entrepreneurial Advancement Center (“EAC”), and the Convention and Visitors Bureau, the USDA has provided grant support for loans to new businesses in defined rural areas, by making application though the SELF (Small Enterprise Loan Fund) program administered by the EAC.
There are many different ways a business can obtain funding to meet its needs. From friends and family options, and independent, private means, to various forms of government backing for lending projects. Considering what’s “best” for your business is an important first step, but you are likely to have to go beyond what’s best to consider what’s actually possible.
Early on, if your business is to survive, you have to do what it takes to make it work. The good news is you are surrounded, in this community, by ample resources, and professionals, ready to help you and your business take the next step on the road to success. Call on those resources sooner rather than later and give yourself the best chance to succeed.