While there appears to be some light at the end of the tunnel for emerging growth and mid-market companies regarding the availability of capital, it will likely be a while before we return to what we expect to be “normal” market conditions. . So where do you get the funds to support growth in today’s market? Many CEOs, CFOs, board members and their advisers are asking this question… looking for money to support strategic initiatives. Many operating companies with revenues from a few million to several hundred million dollars (emerging growth and middle market) experienced difficult business conditions throughout 2008 and 2009.
Some companies may have had losses or reduced revenue with minimal profits that resulted in a weaker balance sheet. In addition, many businesses may have cut costs and become more efficient…and are now ready to rebuild in 2010. However, your bank may have tightened the reins on available credit and taken a more conservative stance. While increasing a company’s capital or share base might be an option, many private and institutional investors have withdrawn from funding commitments as their sources of liquidity dry up and focus on their existing portfolio. Oh, there is hope!
Finding the right capital depends on having a solid, well-thought-out strategy and operating plan and a strong management team. With the fundamentals in place, you can find investors or lenders that align with the type and horizon of financing required to implement the strategic initiatives. Here are four sources of capital for emerging growth and mid-market companies that leadership teams should consider:
one. Asset Based Lenders (“ABLs”)
There is a wide range of ABLs, from commercial bank-owned lenders who lightly monitor collateral to very aggressive private lender-to-own financiers. Bank ABLs are likely to be almost as stringent as their corporate finance counterparts given that they have some of the same regulatory pressures and risk aversion. Unregulated non-bank asset-based lenders are a more likely source…those that can tolerate higher debt leverage ratios and inconsistent earnings history. They typically provide working capital based on accounts receivable, inventory and, in some cases, customer contracts or purchase orders. In the past, some ABLs would tolerate short-term current operating losses or even slightly negative cash flow, but not in today’s market. Most of these ABLs have lines of credit that are daily or weekly tracked lines of credit. In addition to traditional factors, there are hybrid factors that provide working capital in a facility-type line of credit…making these solutions less intrusive. Finally, there is now the ability to directly and selectively auction receivables through an online exchange. Although more expensive than traditional bank debt, ABLs prevent capital dilution and provide cash availability for short- and medium-term working capital needs.
Barry Yelton, senior vice president of federal domestic accounts payable, advises executives to “keep in mind that there are far fewer non-bank GLAs today than there were a few years ago. obtain financing from a non-bank ABL as well, particularly in the less than $5 million financing tranche Borrowers should present as complete and positive a picture of their business to a new lender as possible This includes providing financial information and collateral including a credible picture of revenue and cash flow forecast for the coming year ABLs, like their banking cousins, are being more selective and demanding more of borrowers than in recent years As a result of the current market environment market, borrowers can expect to pay higher interest rates and get lower down payment rates than historically.
two. growth equity
For initiatives that require permanent capital, growth capital may be a suitable alternative for your company. Growth equity funds make up a smaller percentage of the total population of private equity investors. You can think of growth equity investors as being at the intersection of venture capital and private equity funds with no control in their risk appetite balanced with cash flow and control. Unlike a venture capitalist whose interests extend to start-up or early-stage opportunities, growth equity investors don’t make investments expecting many to fail, so their risk tolerance is lower. These investors look for operating companies that have revenue, a proven technology or service, and proven market demand. As Ed McCarthy of River Cities Capital Funds puts it, “they seek to avoid concept risk and prefer to invest in execution.” Growth equity investors will finance operating losses if the business is in a growth or expansion mode and when the losses are an investment to capture market share or long-term customers. In some cases, growth stock investors may be willing to finance a partial recapitalization or outright buyout by minority shareholders.
3. capital mezzanine
Mezzanine funds are similar in their positioning in the world of private equity relative to growth capital. However, their investments are mainly in the form of subordinated debt with a capital stimulus (guarantees to buy shares) that allows them to participate in the growth of the value of the business. Like debt, they have a defined payment period to recoup your initial investment (usually four to seven years). In some cases, you will find that mezzanine funds will make a portion of your investment in the form of pure equity. Mezzanine is considered a hybrid type of financing that provides a lower cost of capital and has some characteristics of capital in that it is subordinated to any bank or senior debt and most banks will exclude subordinated debt in the calculation of debt. total to test leverage. ratios Repayment is usually interest only with principal due at maturity. Keep in mind that mezzanine capital only works if your business generates positive cash flow, which will likely need to be at least $1 million in EBITDA (earnings before interest, taxes, depreciation, and amortization). Typical uses of the funds include an acquisition, major new initiatives such as product launches or business unit start-ups, and partner acquisitions or recapitalization.
Four. key partners
In an almost counterintuitive move, strategic relationships among key suppliers and partners are providing capital as many companies seek to stabilize revenue and profits. The capital provided is usually not in the form of direct investment (ie, they write a check), but rather in the form of providing services, resources, or new business on increasingly favorable terms to secure sales and margins. This working capital raising technique can be the cheapest and fastest way to raise funds for many businesses. Executives are encouraged to look at their company’s customer and supplier relationships to determine who has the most to gain from its success. Then look for creative agreements or relationship structures that provide value to both parties without jeopardizing the opportunity for the business.
You will find that there are no silver bullets in fundraising, especially in tough times. But it’s helpful to understand the overall financial environment, clearly align your financing needs with the lender or investor and your priorities, and seek financing before you really need it…that is, proactively manage your capital structure as you would with any another aspect of your business.
