Making your business investment ready
Businesses with ambitions to scale and move to the next level usually require outside investment. Very often, they just don’t know how to land it
One legacy of the downturn has been an influx of private equity funds, actively investing in the SME space. Photograph: iStock
Irish businesses have traditionally been averse to the idea of bringing in outside investment, being far more comfortable with bank debt than with investor equity. The financial crisis and credit crunch may have jolted that faith, but not shaken it.
Irish companies remain overly reliant on banks compared with their overseas counterparts. In Europe, 30 per cent of small businesses depend solely on bank finance. In Ireland, that figure is 69 per cent.
They rely too heavily on internal financing too, a fact highlighted in a recent report from the Credit Review Office, which found that close to 75 per cent of Irish companies are financing investment from their own funds, well above the European average of 60 per cent.
Trying to fund capital projects out of working capital can be a cause of strain. With cash flow the life blood of any business, the consequences can be commercially catastrophic.
What investors want
If you are going to go out and find yourself an investor, you’ll need to know what to say. Pitching to investors is very different to pitching to your Local Enterprise Office or Enterprise Ireland. For a start, a significant part of their agenda is job-creation. For the average investor, not so much. By and large, they want to know if there is a problem in a marketplace that your solution fixes.
They’ll also want to know about your competition, and whether the market is new or mature, and, if the latter, what’s so different about your solution that makes it compelling.
They will want you to be clear about what you need the money for, so outline precisely how much funding you will require and on what it will be spent.
Put this in the context of milestones you have already achieved, to add credibility. Be clear about the way in which their investment will add value to the business, and so ultimately to their return.
Put your track record front and centre. Even where things didn’t go your way, they’ll see, and value, the experience gained and the lessons learned.
Make sure you have a strong management team in place too. For investors, it’s a way of de-risking their punt – the stronger the collective skill set, the more resilient a business is to marketplace shocks.
Tailor your pitch to your audience
A bank wants to make sure it will get its money back. An investor will pay more heed to potential returns. In particular, they want evidence of a business opportunity that is likely profitable and scalable.
Neither is interested in how your widget works, so sell the sizzle rather than the technical sausage.
Start at the end
Part of the reluctance of Irish businesses to seek out external investors is accounted for by fear it will automatically focus on the end game. But a clear and likely exit is something most investors will expect to have identified for them as part of your pitch. That requires you and any existing shareholders to have that conversation first.
It’s important to ensure both your aims and those of your investor are aligned, but that doesn’t necessarily mean a sale – it could be an agreement to buy back shares.
It’s only fair, however, for an investor to want to know when they are likely to get a return on their investment and, the fact is, if the business does as well as you’re likely to be saying, the exit may well look after itself. For a good business, ideally a buyer will emerge with an offer that’s too good to refuse.
Do your homework
Know your business’s weak points as well as its strengths. Update or create a comprehensive business plan and have high-quality materials showing greater detail on a range of topics. Good business plan templates are widely available for free online and low-cost pitching workshops are regularly run by Local Enterprise Offices.
It’s not all about landing an investor, however, it’s important to land the right one. Corporate finance and professional services firms provide a range of services, including helping to identify, and approach, suitable candidates. They can prepare the ground, establish valuations and advise on the kind of housekeeping required to ensure investor due diligence goes off smoothly.
Grooming a business for investment is not unlike preparing for sale. One legacy of the recession is an interest in business with strong cash flow performance, with a steady recurring income seen as far more valuable than high-valued once-off activities. It makes sense, given that a business with good cash flow is more likely to survive than a profitable one.
Some of the steps you take for both are good business practice in any case, including ensuring you don’t have too great a dependence on a key supplier, customer or employee, or not having a clearly demarcated and strong management team. Even if you don’t land an investor, it’ll land you a better business.
Look for more than money
Look for someone who can bring added value to the business, whether in terms of contacts or experience in markets or sectors of interest to you.
More than that, ensure there is a good personal fit between you and your investor. Very many investees describe it as akin to marriage, so you need to make sure you can work together on a human level.
In some cases, the ideal investor could be your own management team. This can be particularly attractive insofar as it may also provide a succession planning solution where no obvious one exists.
Consider a private equity fund
One legacy of the downturn has been an influx of private equity funds, actively investing in the SME space. These include Carlyle Cardinal Ireland Fund (CCI), BDO Development Capital and Renatus Capital Partners. It’s a route that enables business owners to take some cash out of the business, as well as secure funding for further growth.
Typically, funds will provide you with someone who will sit on your board and give you advice. Having a recognised fund invest in you gives you credibility, putting you on the radar for all sorts of other funding.
The downside is the veto rights they may insist on – actions you cannot take without their permission. There is an element of having to cede control, which may change your business culture, perhaps bringing a new level of formality to proceedings.
Know your terms
Be clear with any investor about terms and the type of instruments being used. Where previously private investors were happy with ordinary shares, they may now ask for ordinary shares with a liquidation element, or, to hedge their bets, loan notes convertible to shares after a certain period, and even secured loan notes. The more investor interest you can generate, the stronger your hand in negotiating.
Be aware that securing investment takes longer and costs more than you think, so you need to plan for that. Fundraising is also a distraction to running your business, so be really clear about the milestones you need to keep to.
Don’t just focus on the short term but the funding your business will need in the longer term too. View that from the investor’s point of view. If there are multiple rounds of fundraising, you will be diluting their shareholding. That’s fine if the business is going to grow enormously, but you need to be aware of that.
What’s more, if you are talking to a sophisticated investor and they can see you will need a follow-on round but you can’t, they will fear you don’t fully understand the journey you are on.