No.1 / November 2006
Lack of Capital: The Biggest Hindrance to Business Growth?
By Tiffany Wright, President, Toca Family Business Services
The biggest issue most entrepreneurs say they encounter is lack of capital. However, capital in 2006 appears to be plentiful. There is more money flowing into and out of the stock markets- in the U.S. and Europe through brokerage firms, investment banks, hedge funds, and mutual funds than ever before.
A number of private equity groups have amassed sizable funds, a few which qualify for Superfund status. $2.2 Trillion now reside in hedge funds. The ongoing banking consolidation has spawned a resurgence in the creation of small community banks. Much of this capital is accessible to small and medium-sized businesses.
Therefore, lack of capital, in a broad market sense, is not the problem. What is the problem then? you ask. The problem is lack of access to capital in a company-specific sense. Most entrepreneurs that say capital is an issue simply have no idea where to go to get it. Sometimes owners have beaten their head against the wall applying to numerous banks only to be turned down every time. .
Another issue with obtaining capital is the general lack of preparedness of most companies when they go in search of capital. They do not have financial statements and may have not filed a business tax return in two years! The bank has no financial data it can corroborate or verify, therefore the bank has no option but to deny the loan. Would you lend money to someone you did not know who claimed they made x amount of money but had no verifiable data to support their claim? I have spoken to many entrepreneurs and the answer is an overwhelming No! However, many business owners expect a bank to say yes. Many of the companies that have approached us for help do not have business plans, despite having revenue of $1 Million to $2 Million. If you do not know where you are going, how do you know when you get there? The answer is, You do not!
For most types of financing, you will need an Executive Summary, which is a three to five page succinct synopsis of the business plan with information that is the most highly relevant to the funding source. You need an Executive Summary to give to your banker and to send to any interested potential equity investor. Writing the Executive Summary will help you understand the dynamics of your business. This comprehension is a must. If it took you 10 years to grow to $12 Million, you must be able to succinctly explain why you will now grow to $50 Million in five years. What changed? How did it change? If you are discussing your business and you do not seem to know, can you realistically expect someone else who has no familiarity whatsoever with your business to know? To effectively pursue equity, you also communicate this same information in a brief PowerPoint presentation.
Another issue that contributes to lack of preparedness is the presence of serious operational issues that hinder the successful usage of the entrepreneurs choice of capital. A service company with a debt to equity ratio of nearly 50% with few assets will typically not qualify for additional debt, nor should it take on more. Too much debt occurs when the debt service (monthly principal and interest payments) exceeds the monthly cash flow in the event of a business downturn. Insufficient cash flow to service the debt results in financial distress that can lead to financial failure or bankruptcy.
If you do not know your daily spend rate, do not know your breakeven point, are unsure of your operating or profit margins, you are headed for financial trouble. Or you may already be troubled stressed out, continually seeking capital, continually trying to increase revenue even though you lose money with each sale. If you are loaded with debt, additional debt is not the answer. You need an equity infusion or you need to re-structure the terms on your existing debt to more favorable terms. You may need to address your operational issues to increase your operating margins significantly so you can begin funding your growth out of operational cash flow (cash generated from sales).