RAISING CAPITAL FOR BUSINESS GROWTH..

As an organization starts taking shape, it requires funds for consolidating its achievements and start growing rapidly.
While the promoter/company brings to the table,
i) Unique, scale-able customer value proposition with strong business potential, ii) Passion to drive the business, iii) Thorough domain expertise, iv) Deep execution competence & management bandwidth, v)100% commitment levels, vi) Transparency, vii) An urge to grow business and multiply value for all stake holders,
Investors bring to the table, a) Financial bandwidth, b) Validation of the business idea, c) Network of people to support the business to grow, d) system driven approach with guiding & monitoring capability to ensure that the progress is on track, e) Experience gained from investing in different sectors over a varied time period and f) Strong business instinct coupled with acumen to help the business grow.
When  both the Promoters and Investors, join hands to pool in their best efforts together and complement each other well, the foundations for take-off of great organizations are firmly put in place.

It is very important to understand that, the type of funding is very much dependent on the risk associated at the time of raising the fund.

In the initial stages, the business is very much in the form of an idea and the risks associated with the execution of the business plan and the development of the business are very high. The investors understand that the capital invested may not surely result in a successful business creation and hence the money may be completely lost and the capital wiped out. The capital that goes to fund the business with the maximum risk is generally funded by the funds from the entrepreneur or the close relatives of the entrepreneur who are ready to bear the loss.

A number of times, businesses are started by loan funds, A loan fund entails compulsory outflow of principal and interest even if it is after a small period of moratorium and becomes a noose around the neck of the entrepreneur. Should the business fail or if there is  a delay or failure in raising money from the business, this will lead to mounting negative cash flows that may adversely affect the working capital and the financial position of the business leading to a high probability of business failure.

Any company raises resources and capital from the following sources:

A)     Promoters , Investors and shareholders who put their  money in the form of cash and kind including time spent to grow the business,

B)     Customers who patronise the company’s products and services,

C)     Banks, Financial service institutions and others who lend money to the company as loans an debentures,

D)    Employees who work for the company and deliver much more value than what they are paid by the company.

E)    Government and other supporting agencies that provide subsidies, grants and other concessions.

As the company starts, the capital required for its establishment come mainly from the promoters and early stage investors. As the company starts rolling out its products, the company starts generating revenues from customers and the overall contribution from employees in the form of profit employee starts growing. In the maturity stage, the company is at steady state earns enough money to pay for its expenses and have surplus to be paid as dividends to investors and/or invest in assets, unless it commissions big projects aimed at furthering the growth.  The capital raised by the company through the various stages is as follows:

The lifecycle of the company determines the type of fund raised and can be outlined in the following table:

STAGE OF COMPANY	KEY ACTIVITIES	FUNDING REQUIREMENTS  & REMARKS
IDEATION	Define the problems and pain-points of the target customers to be addressed. Define the size of the market planned to be addressed, shortcomings of the existing players. ZERO-IN on the area of focus after identifying core strengths of self, organization and partners to be leveraged for the business. Prepare a Business plan giving details of the opportunity, fund requirements, growth plans, market structure, differentiators to enable success, return of investments, payback period and exit options.	Initially minimal and mostly restricted to meetings, secondary research and reports. In case of subsidiaries, the parent company, as a part of its expansion, new venture creation will spend the same by leveraging its existing resources, to be capitalised later.
START UP/EARLY	The top management team is in place. Initial work place and basic office and amenities are setup.  Brainstorming of the idea with potential investors. Clients, partners and employees is undertaken to fine-tune the product/service strategy with clear focus on what to do and what not to do. High levels of focus from the promoters is required to ensure that the foundations are laid strongly for a good future.  Proof of concept is established. Go or no go decision is taken. Focus on customer acquisition to iron out the business value proposition and establish viability.	Funding is essentially from the promoters and close associates. Angel investors and HNIs  co-invest  along with the promoters in the form of Series A round of investment. Series  A refers to the class  of  preferred stock sold to investors in exchange for their investment. It is usually the first series of stock after the common stock and common stock options issued to company founders, employees, friends and family, angel investors, etc.
PRODUCT/SERVICE DEVELOPMENT	Focus on ironing out technical glitches; scale up product/service creation capability. Key focus on getting paying customers and iron out the value-price equation for optimal profitability and growth. Increase employee base at both backend and customer facing levels.	Venture capital funds, Angel funds and Strategic partners interested in taking advantage of high growth potential and subsequent possibility of a higher multiplier effect on investments, provide the much needed capital in the form of Series A round of investment. SeriesA refers to the class of preferred stock sold to investors in exchange for their investment. It is usually the first series of stock  after initial investors. Money also starts rolling in from paying customers and subscribers.
GO TO MARKET- GROWTH.	Start by penetrating pilot markets and try to gain prominence through concentration of limited resources. Once this is achieved, fine-tune Go-to-Market strategies for a larger scale expansion. Growth requires huge working capital investments	Series B round is used to fund the growth stage and follows Series A round of funding from Venture Capital firms and Angel funds and is linked to achievement of certain milestones.
EXPANSION	Rapid growth phase, where the company grows in size,  geographical reach, employee base, number of customers. Growth in the revenue is matched by the expenses and need for further investments aimed at infrastructure development, investment in new projects, marketing activities and net customer receivables & market credit.	Series C & mezzanaine fund to finance the rapid growth and also the need for short term capital. Heavy dependence of short term and long term borrowing, Private equity investments, Public issue offering of shares, convertible and non convertible debentures, suppliers credit etc.
MATURITY & STEADY STATE	Stable growth period, revenues from sales much higher than expenses and returns to investors in the form of dividends and also investment in projects aimed at future growth from available surplus being generated.	Long term secured loans, short term bank loans for working capital etc are raised from banks on a routine basis. Lookout mergers, acquisitions and takeovers during this period for inorganic growth opportunities.
DECLINE	Inability to keep pace with the market place, unable to compete with the competitor or shrinking margins lead to rapid loss of marketshare and eventual death or sale of the company	Stripping of assets, sale of businesses to private equity funds or potential suitors or eventual liquidation to pay off the loans and shareholder if any.

To summarixe,

When a company wants to raise equity capital,  there are many options available like

• Faith capital
• Angel Capital
• Venture Capital
• Private Equity capital

Let us define characteristics of each of the above  sources:

• Faith capital

          Faith capital is usually from friends, immediate family members and unsuspecting individuals. They believe 100% in what you are doing and do not mind loosing the money, if you fail!

• Angel Capital

        Usually angels are  individuals with solid experience in your field of operation/technology and/or HNIs with deep pockets. The usual sources are angel networks like Mumbai Angels, Hyderabad Angels, Indian Angels Network etc. Their typical investment is usually less than Rs. 2.5-3 crores. 

Positive aspects of angel investment are 

1. Faster Decision making (Gut feeling)
2. Quick cycle – cash in the bank
3. Value addition possibilities

Negative aspects of angel investment are -

1. Hidden agenda of angel(s)
2. Likely day-to-day interference
3. Negative Network effect (Club)
4. Take a large chunk  (%)of  your company at a low valuation.

•  Venture Capital (VC)

         VCs are large organised institutional investors from both domestic and international ( Including corporate VCs) lineage. Their typical investment size ranges between Rs. 2.50 crores and Rs. 50 crore. Your company should be generating revenues with referenceable customers and ideally should be EBIDTA +ve for attracting VC investment.

Positive aspects of VC investment are  -

1. Institutional investors bring lots of credibility to company,
2. Large appetite for investment (2/3 rounds),
3. Better valuation,
4. Value addition – network effect/strategic partnerships,
5. Due diligence of investee companies possible

 Negative aspects of VC investment are -

1. Value addition by VC is sometimes a myth,
2. Lucky to get like minded and progressive board nominee from VC .

• Private Equity (PE) capital

PE investors are large institutional investors both domestic and international. Their typical investmet size is between Rs. 25 crores to Rs. 500 crores.  Your company should have sizeable market share and revenues of atleast Rs. 30-40 crores with good growth track record in revenues and profitability.

Positive aspects on PE investment are -

1. Institutional investors bring lot of credibility to  company (especially, for IPO),
2. High corporate governance levels,
3. Large appetite for investment,
4. Valuation discovery,
5. Value addition – network effect/strategic partnerships,
6. Due diligence of investee companies of PEs is possible

 Negative aspects of PE investment are -

1. Mismatch of aspirations
2. Mid course correction
3. Exit pressures

 Any of the above options depends upon stage of the company like

• Stage 1 : Idea /Seed
• Stage 2 : Early
• Stage 3 : Mid
• Stage 4 : Late.

Though fund raising is not a must activity for every company, the funds raised apart from providing cash for fuelling growth, can also benefit the company from the  experience and wisdom of the venture capital firms who, upon becoming the stake holders, lend their helping hand in growing the business by putting their investees, clients and network to work.

Fundraising is an exhaustive process that may take 6 to 9 months on an average if everything works out.

While Venture capital firms and funds are on the lookout for excellent firms to invest money and provide excellent return to their partners/investees, the companies aiming to raise funds have to knock on an average of over 20 doors before they can raise funds.

The companies aiming to raise funds successfully and provide excellent return to their investors should  have the following traits:

A)     Aim to build a company for the long term by focussing on genuine market opportunity mapped to core competencies of the founding team and management. They should focus on building products/services that customers would be willing to buy at a price profitable to the organization.

B)      100% focus and single minded commitment of the top management.

C)      Clear cut business plan with a crisp executive summary and an elevator pitch to explain the market opportunity to busy fund managers bombarded with too many requests than what they could manage at any time,

D)     Cultivate and showcase satisfied customers,

E)      Have practical business plans backed by believable, factual and substantiated financial projections

F)      Have a clear milestone backed project delivery schedule backed by a  clear exit plan

Usually VCs invest in any company using one or combination of following instruments -

- Equity @premium

- Optionally /Compulsorily Convertible Preference shares/Debentures. The conversion linked to performance of next year or next 2-3 years

They are open on performance based "Claw back" provisions for promoters (usually 2-3% of company) / Options /MSOPs (Usually 5-15% of company)

Various modes of investment are -

 

I. Primary – Investment in company for  :

    * Product development (Salaries – R&D staff, Product Proto-types etc.)

    * Marketing expenses (Salaries, Advertisement, Branding,  Conference expenses, Travel etc.)

    * Reasonable CAPEX - commensurate with your project plan

    * OPEX (Till you become EBIDTA +ve)

    * Transaction expenses (Due diligence, ROC costs, Intermediary fees)

II. Secondary – Buy-out of existing shareholders  (Money does not go to company)

    * Promoters (Part time/Sleeping Partners)

    * Other  minority shareholders ( 3 Fs)

Funds assess the potential of Market attractiveness, team competence, the uniqueness of the product/service and the entry barriers an enterprise can create in the market place along with the attractiveness of its financials to decide whether to consider investing or not. Next comes the valuation. Valuation is based on one or multiple methods like -

- Revenue multiple

- EBIDTA multiple

- Price Earning Multiple (PECV)

- Discounted Cash Flow Method

Ultimately valuation is that value, that is negotiated and agreed upon between the investor(s) and the promoters seeking investment which may take the above as a guideline, but not necessarily stick the value thrown out by the above calculations.
Negotiation of valuation and required shareholders' rights is more an Art than Science. It depends upon exceptional negotiating capability of promtoers & investors and also compulsions of promoters/founders to raise capital to execute the plan. It is a Give and Take principle of the promoters, which will get the money to the organization. One has to appreciate the desire of the investors to make money at the time exit. It is desirable to approach multiple investors to evaluate your plan and negotiate hard with interested investor(s) to get best deal for the company. 

Organizations seeking investment have to hire a good corporate lawyer who will advice them on various legal terms and implications of them on the company. Lawyers fees (usually high) will be worth an investment to avoid confusion and anxiety later.

Once the investor(s) and the company arrive at a common understanding regarding the valuation at which the investment is to be made, the following steps are undertaken:

i)         Draw up a Term Sheet which forms the basis for a detailed legally binding agreement later:

                 A  Term sheet is drawn depicting the terms at which the VC fund agrees to invest funds  
                 in  the   company. The key aspects of the term sheet include amount of investment, price
                 per share, pre-money valuation, liquidation preferences, percentage stake sought, anti-dilution
                 provisions, registration rights, Drag along rights, operational issues & exclusivity regarding
                 investment, usually for a period of 90 days.

ii)        Undertake due diligence to check authenticity of information and compatibility of the promoters and investors -

Due diligence involves going into details of the project, projected financials, assumptions underlying projections, past financials (atleast 3 years), Statutory registers like Minute of meetings, shareholder's register, fixed asset registers, legal documents/contracts, project deliverables, credentials of founders/promoters/management team, reference checks, market visits and other issues legal and non legal that may have a bearing on the performance of the company.

For successful completion of the due diligence process, a team of founder(s), CFO, statutory auditor, company secretary, lawyer and the company's own support staff to collate the data and understand complexity of assessing the data.

iii)       Once the due diligence is completed, sign the Shareholders agreement with all the shareholders, investor(s). Funds are transferred as per the schedules drawn  and the modalities planned i.e. after meeting conditions & precedents.

Some of Do's for raising venture capital  -

-  Emphasize of  team’s experience & company track record.

-  Be  clear about roles & responsibilities of each team member.

-  Be upfront about failures in previous jobs/earlier ventures.

-  Clearly specify the market opportunity with your Go to Market strategy. 

-  What are the target customers presently doing to solve problem?

-  Rigorously study the competitive landscape.       

-  Be open to criticism & discuss assumptions for financial projections.

-  Appreciate Investors’ investment strategy 

-  Be aware about background of person you are meeting with, in the Venture Fund

-  Talk with a few investee companies of target investor about “Value Addition”

-  Clearly define exit strategy for the investors

-  End meetings on positive note and line up definite ‘next steps’ with timelines (minute the meetings!)

Some Don'ts for raising venture capital - 

- Show desperation for capital infusion

- Approach  investors directly  (mostly references work!)

- Critical of investors’ investment strategy / failures

-  Go unprepared for the meeting  w. r. t. Growth Strategy, Industry /competition data – vagueness/no source / gut feel, Financial data & assumptions for projections /fund raise, Any other  critical issues which affect your business

-  Not business like personal appearance

-  Lie / bluff about strategy / data

-  Un-necessary arguments over  trivial issues (incl. amongst team members) 

-  One upmanship –  No-nonsense /I am always right attitude!

-  Attempt to bribe the investors/IC/Board members

-  Use the capital raised for personal gains/ buying personal assets

It is important for the company receiving funds to maintain transparency of reporting utilisation, take utmost care to utilize the funds as per the project plan and strive to exceed the expectations of the investors. This will help build the trust and a sound partnership that will enable the company grow steadily with ability to raise more funds as and when required.