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So, you have a great idea for a business and, more importantly,
the know-how to bring it into creation. The only thing you’re
missing is the cold hard cash to get started. What are your options?
Assuming you don’t have a ready line of credit, an expansive bank
manager, wealthy relatives or a substantial stash of retirement
savings you’re willing to risk, you’re going to have to do some
serious homework and legwork. Fortunately, there are a number of
sources of finance for the fledgling small business entrepreneur, at
least one of which may be right for you.
SBA LOANS
Available only to U.S.-based businesses (but look for similar
programs in your own country if you’re outside the U.S.), the SBA
(the U.S. Small Business Administration) has assisted thousands of
entrepreneurs start their own small businesses. The SBA doesn’t
issue grants (money you don’t have to pay back) or make loans
directly, rather, it guarantees loans made by private lenders
thereby reducing or eliminating the risk inherent in new business
ventures and making lenders more willing to lend.
The primary consideration for the SBA is repayment ability from
the cash flow of the business as well as “good character, management
capability, collateral and owner’s equity”. You will be expected to
personally guarantee your loan. This means your personal assets are
at risk.
As for the types of businesses eligible for SBA loans, the SBA
imposes the following criteria: the business must be “for-profit”
(all that means is that your business have a profit motive, not that
it have actually generated a profit yet), be engaged in business in
the United States, there must be “reasonable” owner equity (what’s
reasonable will depend on the circumstances) and you are expected to
use alternative financial resources first, including your own assets
where practicable.
The SBA also imposes limitations on the use of loan proceeds. For
example, although the proceeds can be used for most business
purposes (the examples given by the SBA include “the purchase of
real estate to house the business operations; construction,
renovation or leasehold improvements; acquisition of furniture,
fixtures, machinery and equipment; purchase of inventory; and
working capital”), you can’t use the loan proceeds for financing
floor plan needs, to pay existing debt, to make payments to the
business owners or to pay delinquent taxes etc.
As a general rule, loans for working capital must be repaid
within seven years and loans for fixed assets must be paid for by
the end of the economic life of the assets (but not to exceed 25
years).
Interest rates are negotiated between the borrower and the lender
but the SBA imposes maxima which are pegged to the Prime Rate.
Finally, the SBA charges lenders a guaranty and servicing fee for
each loan approved, and there is nothing preventing the lender on
charging these fees to the borrower. The guaranty fee for a loan of
$150,000 or less is 2% of the guaranteed amount; over $150,000 but
below $700,000, it’s 3% and above $700,000 it’s 3.5%. The annual
servicing fee is 0.5% which is calculated on the then-current loan
balance.
Where the borrower meets the SBA’s credit and eligibility
requirements, it will guarantee up to 85% of loans $150,000 and less
and up to 75% of loans above that amount (up to a maximum of
$1,000,000).
For more information about the various SBA loan programs, visit
the SBA website at http://www.sba.gov.
PRIVATE GRANTS
At present, there are no U.S. government grants offered for small
business. If you're outside the U.S. check with your own government
about the availability of small business grants. You never know!
Various corporate grant makers make grants available for small
business though. For more information, visit http://www.fdncenter.org/funders/grantmaker/index.html
.
ANGEL INVESTORS
Angel investors are good souls with a healthy sense of
self-interest. Figuring they can get a higher return if they’re
prepared to take a bit of a risk, they’re also often successful
entrepreneurs themselves and want to give their fellow travelers a
hand up.
Think of funding from an angel investor as a bridge or gap-filler
between being a start-up and qualifying for venture capital. The
kinds of dollars we’re talking about here are between about $150,000
and $1.5 million. Beyond that point you’re in low venture-capital
territory.
The SBA estimates that there are around 250,000 angels in the
U.S., funding about 30,000 companies a year. So, how do you hook up
with one? Not an easy task, unfortunately. It comes down to
networking. Start by talking to professional and business associates
- they will often know someone who knows someone etc. Also, check
out ACE-net if you’re prepared to sell a security interest in your
company. It’s an internet-based listing service for securities
offerings of small, growing companies. The website is at
https://ace-net.sr.unh.edu/pub/ .
VENTURE CAPITAL
You’re in the big leagues now. Generally you’re in the ballpark
of millions (of dollars that is) rather than thousands. Venture
capital firms look for their return on investment from capital
appreciation rather than interest (unlike banks, for example).
They’re generally looking for a return of 500-1,000% on exit.
It won’t surprise you to learn that venture capitalists are
particularly leery of internet-based businesses right about now and
not surprising. It also serves them right. But if you have a solid
business plan and strong growth potential, this could be an option
for you longer term.
One of the common concerns about this form of financing, however,
is that you may have to part with an unacceptable amount of control
over your own business. In return for their risk, venture capital
firms will usually want some control over how the business is run
and a say in business decisions. A venture capitalist will expect a
seat on the board, for example.
It’s important to remember, though, that it’s in the venture
capitalist’s best interests for your business to succeed, so giving
up some control in exchange for outside expertise may well be
something worth thinking about.
To find venture capitalists, get a hold of “Pratt’s Guide to
Venture Capital Sources” for a listing of 1,500 or so including
names, contact details and areas of interest. Of course, you'll find
no shortage of information online as well.
For most readers of this article, your best bet would be to start
out by investigating the various loan programs offered via the SBA
(or your country’s local equivalent). But don’t overlook more
obvious, close to home sources first. If you have family funds at
your disposal (for example) and you’re confident that your business
will succeed (and unless you're confident about that, don't get into
debt with *anyone*, let alone family members), better to start out
slow and ease into outside sources of financing as your business
(and, more importantly, your business’s cash flow) can support it.
After all, Uncle Jack is much more likely to be understanding about
the occasional cash flow crunch than Uncle Sam.
