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What must I know before applying for venture capital investor funding?

A guide to applying for venture capital funding.

Entrepreneur

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Venture capitalists are a group of investors operating in a partnership to make and manage investments in young, early stage companies. VC. Funds made available for start-up firms and small businesses with exceptional growth potential.

Venture capitalists (VCs) represent the most glamorous and appealing form of financing to many entrepreneurs.

They are known for backing high-growth companies in the early stages, and many of the best-known entrepreneurial success stories owe their growth to financing from venture capitalists.VCs can provide large sums of money, advice and prestige by their mere presence.

Just the fact that you have obtained venture capital backing means your business has, in venture capitalists’ eyes, at least, considerable potential for rapid and profitable growth.

VCs make loans to and equity investments in young companies. The loans are often expensive, carrying rates of up to 20%. Many venture capitalists seek very high rates; a 30% to 50% annual rate of return.

Unlike banks and other lenders, venture capitalists frequently take equity positions as well. That means you don’t have to pay out hard-to-get cash in the form of interest and principal instalments.

Instead, you give a portion of your or other owners’ interest in the company in exchange for the VCs’ backing. The catch is that often you have to give up a large portion of your company to get the money.

In fact, VC financiers so frequently wrest majority control from and then oust the founding entrepreneurs that they are sometimes known as “vulture capitalists”. But VCs come in all sizes and varieties, and they’re not all bad.

What are the different types of Venture Capital investors?

There are several types of venture capital:

1. Private venture capital partnerships.
These are perhaps the largest source of risk capital and generally look for businesses that have the capability to generate a 30% return on investment each year. They like to actively participate in the planning and management of the businesses they finance and have very large capital bases – millions of rands’ worth – to invest at all stages.

2. Industrial venture capital pools.
These usually focus on funding firms that have a high likelihood of success, like high-tech firms or companies using state-of-the-art technology in a unique manner.

3. Investment banking firms.

These traditionally provide expansion capital by selling a company’s stock to public and private equity investors. Some also have formed their own venture capital divisions to provide risk capital.

Applying for Venture Capital

What do venture capitalists investors expect of business plans they receive?

A good quality business plan can greatly assist in communicating the relevant points in order to obtain successful funding.

Venture Capital companies typically seek out high growth potential early-phase companies and often place more importance on the management team, entrepreneurial concept and potential for aggressive growth than the quality of the physical business plan itself.

Great emphasis is placed on the entrepreneurs’ ability to clearly communicate a unique business concept and growth strategies in a polished pitch to give the funder confidence that they can easily sell this concept to their market.

That said, obviously a good quality business plan can greatly assist in communicating the relevant points in order to obtain successful funding.

Advice from a venture capital expert

Take note of the following advice offered by venture capital expert Keet van Zyl of HBD Venture Capital:

  1. Spend significant time on the business plan
  2. Business plan must be clear, well arranged and not too long. Supporting info can be presented in the appendix
  3. Write a good one-page executive summary. There is a good chance that the potential funder won’t even read any further if this is not compelling
  4. Ultimately view the business plan as a motivation for you to continue. You need to convince yourself that this will work and a business plan is one way to do this
  5. Write your business plan yourself. No-one knows your business better than you. There are various business plan templates available on the internet. However, the areas where you need help – make sure you get it. Use consultants and experts where necessary but don’t outsource the whole process
  6. Clearly identify your target market
  7. Clearly identify the need for this product/ service
  8. Use facts and figures where possible, specifically in the Industry Analysis
  9. Don’t over-emphasise the technical aspects of the current product or concept. Make it easy to understand and focus on the future growth strategies and implementation.
  10. Polish your oral pitch to dovetail with your business plan
  11. Never make false claims or misrepresentations
  12. Do a ‘due diligence’ on your funder and tailor-make specific elements of your business plan to their needs. Go to their website; study their investment criteria; understand their investment process; look at their investment portfolio; read some press releases and articles; ask around if anyone you know has dealt with them before
  13. Contact the potential funder before just sending off a business plan to someone’s inbox. A personal referral is even better
  14. Update your business plan regularly as your thoughts, business activities and market insights evolve
  15. Have a clear ‘shopping list’ of what you want to do with the funding, and the timelines involved
  16. Let someone who you trust read through the business plan for feedback and advice

Regardless of the quality of the physical business plan it is only the first step in the process. The entrepreneur will have to pass a number investigative stages before an investment is made.

How do Venture Capital companies typically define their Investment Mandates?

Before approaching a Venture Capital company, entrepreneurs need to do their homework. It is critical to learn as much as possible to about the VC’s Investment Mandate and to ensure that their concept and business plan fits within its scope.

Here is a list of common criteria for VC Investment Mandates:

  • Most VC companies shy away from start-ups in favour of companies that are able to demonstrate revenue that has been generated for anything from six months to two years
  • Qualities and proven ability of the management team
  • Equity based funding is a likely requirement
  • VC companies typically favour specific bands of financing requirements – R10 million to R50 million, or R100 million
  • Sufficient barriers to entry, cutting down many competitors and ensuring a largely uncontested market space
  • Potential for fast-paced, high growth
  • Many VC companies will favour certain industries, and exclude others

What attracts VCs?

Venture capitalists typically invest in companies they anticipate being sold either to the public or to larger firms within the next several years. Companies they will consider investing in usually have the following features:

  • Rapid, steady sales growth
  • A proprietary new technology or dominant position in an emerging market
  • A sound management team
  • The potential for being acquired by a larger company or taken public in a stock offering

VCs define their investments by the business’s life cycle

VC’s often define their investments by the business’s life cycle: seed financing, start-up financing, second-stage financing, bridge financing, and leveraged buyout. Some venture capitalists prefer to invest in firms only during start-up, where the risk is highest but so is the potential for return. Other venture capital firms deal only with second-stage financing for expansion purposes or bridge financing where they supply capital for growth until the company goes public. Finally, there are venture capital companies that concentrate solely on supplying funds for management-led buyouts.

How does the process for evaluating proposals for Venture Capital investment typically work?

Not unlike other venture capital investors, the HBD Venture Capital process is designed to provide crucial decision points at each step of the investigation in order to ensure that the business owner experiences no unwarranted delays. Keet van Zyl of HBD Venture Capital explains the procedure for evaluating business proposals received by the organisation:

Step 1 – Initial Screening:

The information provided in your business plan is evaluated to determine if it is in line with our funding mandate and whether it is likely to yield venture capital expected returns.

Step 2 – Assessment:

In this initial meeting the business owners will present their business case with the objective of determining possible synergies and the way forward.

Step 3 – Term Sheet:

A short investigation is conducted and a report is presented to the Investment Committee. If the decision is to proceed with due diligence, HBD will negotiate with the business owners a term sheet and exclusivity agreement.

Step 4 – Due Diligence:

Due diligence is carried out by our core team and outside expert consultants. A typical due diligence process can take between one and three months as it requires a very detailed review of the financial, human capital, legal, market and product Components of the business.

Step 5 – Deal Execution:

If our Investment Committee approves the transaction, the legal documents are negotiated, implemented and the funding is disbursed.

Your Chances

What is the percentage of successful Venture Capital funding applications?

According to venture capital expert Keet van Zyl of HBD Venture Capital organisations such as his fund on average less than 1% of proposals received. As van Zyl explains, HBD is a niche venture capital company and due to the large number of proposals received, they are forced to judiciously apply both human and capital resources.

The HBD screening process funnels down proposals until a deal is struck:

  • Of the total number of proposal received by HBD Venture Capital, on average, only 25% fit within the HBD funding mandate.
  • That number is shrunk to 10% post the initial meeting with the entrepreneurs
  • Half of those entrepreneurs, a mere 5%, pass the test and make it to the next round
  • Only roughly 1% will make it beyond the due diligence and legal negotiations to be successful in their acquisition of finance
  • HBD therefore typically funds less than 1% of business plans received. What will make you that one that stands out from the 99% of other applications at any given time?

What are the key factors Venture Capital organisations typically find in a successful proposal?

VC companies will be on the lookout for the following factors will when analysing an investment opportunity. Venture Capital companies typically favour early stage companies with high growth potential. VC companies will be on the lookout for the following factors will when analysing an investment opportunity:

  • Match with the VC company’s Investment Mandate
  • Viable current business model
  • Aggressive growth strategy
  • International expansion opportunities
  • Growth in their Industry itself
  • Passionate entrepreneurs/ strong management teams
  • Can this entrepreneur be an industry leader?
  • Can the business model create a ‘Network Effect?
  • Unique differentiating products/ concepts
  • Barriers to entry
  • Scalability

What are some of the red flags that cause a plan to be rejected by a Venture Capitalist?

Nine danger areas to avoid. Most venture capital companies make financing decisions that are based on a company

  1. Investment Mandate – a mismatch with the mandate will result in rejection
  2. Slow revenue and profitability growth projections
  3. Lack of uniqueness
  4. Lack of scalability
  5. Lack of understanding of the industry in which the entrepreneur operates
  6. Inadequate strategic plans to be able to implement and grow a great business concept
  7. Unreasonable expectations of the valuation of the business concept
  8. False claims being made or misrepresentations
  9. Misalignment between the business plan and the entrepreneur’s oral ‘pitch’

 

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Company Posts

Why Spartan Is Focusing On SME Funding And How They Can Support Your Business

Spartan doesn’t just fund entrepreneurial businesses, it is an entrepreneurial business. Kumaran Padayachee, CEO, Spartan reveals this is why his team understands SME financing needs and the unique challenges founder-led businesses face.

Spartan SME Finance

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fast-and-flexible_spartan

Historically speaking, entrepreneurs don’t typically have the quantity and quality of collateral needed to secure debt finance. It was this realisation that led Spartan to develop and deliver a solution that would help SMEs to grow their businesses, even though they didn’t always meet the criteria of more traditional lending institutions.

“We understand that many business owners don’t want to go the equity funding route, selling shares in their businesses in exchange for funding. Without the collateral needed to secure debt funding however, this is often the only route available to them,” says Spartan CEO, Kumaran Padayachee.

“We decided to approach things from a different angle. To service this sector, you need to be flexible. The same rules don’t apply as they do for corporates. To achieve this, we’ve assembled a team that really understands SMEs, their inner workings, the finance they need and the terms that will give them the best ROI for the funding they receive — after all, the point of funding is to help your business grow, so ultimately that’s what it needs to achieve.”

Spartan’s offers financing

kumaran-padayachee_spartan

At its core, Spartan finances small businesses (fast-growing companies with R5 million to R10 million annual turnovers) and medium businesses (R10 million to hundreds of million in annual turnover).

Spartan finances specialised asset finance (tech, software, plant and machinery, office fit out and furniture); working capital finance (bridging finance, medium term loans); and growth finance (expansion, BEE deals, acquisitions).

Working capital in particular is a big portion of what Spartan assists its clients in. “This is project and growth-related finance, and many of the enquiries are for working capital, for which there is a huge need in the SME landscape.”

Related: Financing That Backs Entrepreneurs

What finance suits your business?

As a debt funder, Spartan’s team carefully evaluates what the finance will be used for, and if the return is greater than the repayments — in other words, does finance make financial sense for the business?

“There are numerous ways that finance can be applied incorrectly by SMEs,” says Kumaran. “One of the first flags we look for is debtors age. If the industry norm is payment in 30 days, but a business is typically paid by its clients in 60 or 120 days, then we know there is something wrong with their internal processes.

Either the company is too shy to be assertive with clients, or it lacks the capacity or capability to invoice clients and collect cash. Either way, the result is a shortage of cash. Business owners in this situation apply for cash in order to be able to pay the bills, when they should be reviewing their business, pulling one or two levers, and improving their cash flows.”

Growing your business with alternative funding methods

On the other hand, there are many situations where working capital and bridging finance can help a business to grow beyond its own, organic abilities.

“A customer project or contract that requires a new product line or opening a new branch are both positive, expansionary situations. The problem is that there’s a lead time gap. You need to start the project, spend cash to hire people or purchase equipment, build internal capacity, deliver on the project and then the customer only pays you. Working capital and bridging finance allow the entrepreneur to do just that, and the company grows as a result.”

Bridging finance in particular is high risk and requires a large amount of flexibility, which is why more traditional funding institutions shy away from it. Spartan on the other hand offers revolving bridging loans to customers the team has worked with. “We understand this space, and our aim is to support the entrepreneurs within it,” Kumaran concludes.

Related: Alternative Finance – Filling The Gap

Alternative finance solutions

Spartan is an Alternative Finance company  that specialises in financing Small and Mid-sized businesses by providing: Growth Finance (structured finance for expansion); Specialised Asset Finance (equipment/machinery/technology/software/office fit-outs/energy/etc.) and Working Capital Finance (bridging finance & medium term loans).

Bridging Finance

Bridging Finance is available for one to three month terms and is ideal for contract or project-based businesses. It is a solution that assists businesses with solving cash flow issues due to growth-related challenges in their business and is either for a once-off need or for revolving business use.

Spartan is an Authorised Financial Services Provider 47631 and Registered Credit Provider NCRCP8669. e finance solutions.

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Funding

What do I need to do in order to get a successful crowd funding campaign?

Advice on getting the gold you need for your crowd funding campaign.

Ambassador Tal Edgars

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I recently read through crowd funding and though this might be of benefit to me. What do I need to do in order to get a successful crowd funding campaign?

70 percent of most crowd funding campaigns never reach their funding laid out plan. If you only reach a portion of your desired pledge amount all donated funds are then returned to investors once your campaign date is up. Do your homework and make your campaign count.

To get the best out of your campaign, I would strongly advise you do the following:

  1. Lay out your plan way in advance
  2. Keep a proper and well-articulated business plan
  3. Create a compelling story.
  4. Use the social media and start a social media campaign
  5. Frequently promote your fundraiser, connect and interact
  6. Dish out rewards and incentives
  7. To go viral, go for educative, informative and entertaining videos
  8. Be more than unique and creative as more exposure will translate to more potential pledges
  9. Choose the right crowd funding site for you.
  10. Know and understand your end target audience

 

 

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Funding

Where can I turn when banks are not helping?

Getting bank finance for my restaurant is almost impossible.

David Lewis

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Getting bank finance for my restaurant is almost impossible.  How else can I access the funding that I need?

Most small businesses will experience a cash flow challenge at some point during the next 12 months and raising capital from traditional banks is becoming a real challenge. Conservative lending policies and onerous application processes mean that finance applications can take up to twelve weeks or longer.

Banks require significant securities, which many business owners are unable to meet. In short, banks are making it very tough for small businesses.

The business cash advance

For businesses that accept credit or debit cards as a form of payment for their goods and services (termed merchants), the business cash advance is now available as alternative source of funding.

In simple terms, a business cash advance offers the merchant an upfront advance to buy a discounted amount of future business turnover.  For example, you may be advanced R80,000 for R100,000 of future turnover, so the fees can be easily calculated as R20,000.

The payback is an agreed percentage of your turnover, paid daily until the full amount is paid across.  Payback increases and drops with your business turnover and the smaller daily payments are often easier than monthly fixed instalments.

Quicker turn-around and more accessible

Comparing it to a bank loan, the business cash advance is more accessible, operates over a shorter term and requires no personal security.  It is also much faster, typically available within two weeks.

The advance amount is based on historical credit and debit card sales and pay overs are daily.   The costs are fully transparent and there are no penalties for late payments or extended payback.    However, accessibility, flexibility and convenience come at higher cost than traditional bank lending products.

As with any financial product, it is important that the benefits gained from using the money are more than the costs, so it is important to have a good purpose for the funding and carefully consider the available options.

Over the last three years, the business cash advance has becoming more main-stream and this funding is used by business with a relatively high card turnover, such as restaurants, retailers, beauty salons, supermarkets, convenience stores etc.

What to use the advance for

The advance is typically used for a business opportunity, such as expansion, new stock, new equipment, marketing etc.  Alternatively, it also offers through a difficult trading period or to cover an unexpected expense such as equipment failure when the money is needed quickly.

Small businesses are a vital part of the South African economy, contributing over 65% of South Africa’s employment and over 50% of GDP – accessing funding is imperative for these businesses to survive and grow.

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