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LEVERAGED CAPITAL NEWSLETTER Leveraged Capital, is a free monthly newsletter that presents growth and strategy issues effecting entrepreneurs and owners of small to medium size enterprises (SME's). Leveraged Capital is published and delivered electronically to subscribers. Your privacy is strictly respected and we do not share or sell subscriber email addresses to anyone outside of Graham Financial Corporation. If you enjoy what we present, please forward a copy of Leveraged Capital to clients and associates. They can subscribe to Leveraged Capital, by clicking on this link: http://www.GrahamFinancial.com/newsLetter.htm and filling out the quick form.
I am hearing a renewed optimism from business owners on both sides of
the border, despite what the pundits have to say in the media. Given that
2002 was the first time in decades that the U.S. stock market had posted
three losing years in a row, it has been encouraging that the S&P 500
increased almost 6% in the first nine trading days of 2003. I always enjoy
January as the start of a new year but definitely not for the weather here
in Toronto. Despite the many exceptions, historically when market
conditions in January are favorable, it has bode well for the balance of the
year. I was going to say let's wait and see but I actually despise that
thinking. Rather let's move and focus to get more deals done, generate
more productivity from our selves and our employees and take advantage of all
that is at our fingertips here in North America to conduct business and create
wealth. I don't believe in new years resolutions - rather I lean
toward adopting a new resolve to increasingly affect change in all areas of my
life and the people whom I cross paths with. Much (long-term)
success to you, DPG.
14 Years of Exceptional Service Contact Nikki Barnett (416) 367 - 1055
In This Months Issue: (Click on the Article Title To Go To The Full Story.)
Quote Of The Month: Investment Hindsight:
Entrepreneurs often have a love/hate relationship with venture capitalists (VC) and private equity (PE) investment groups. A lot of entrepreneurs that I meet often have negative misconceptions about VC and PE groups. The entrepreneur at some point is going to need this type of money to grow an idea and a company and more often than not, the entrepreneur misunderstands the perspective of the investor. Say what you will about tactics, motives, and rational, successful VC’s and PE groups generate wealth and lots of it. You are either using your own
capital, someone else’s money, or most likely a combination of both. Having
acted as a venture capital / private equity investor as well as advising clients
who are pursuing this type investment, I have observed five principles that
define the successful VC or PE investor.
Understanding and implementing these principles are important to how you
create wealth through your business, which is most likely the largest investment
you have in your life. The five key principles of the successful VC or PE groups
can and should be adopted by any size of company.
Profitable VC’s and PE investors all have these principles common to
their success: (1) a clearly
defined investment plan and a time horizon; (2) they only hire management that
will act like owners; (3) they focus management teams and employees on primary
areas of success needed to achieve the investment plan;
(4) they drive their capital to sweat and work hard – if the capital is
not working hard, they retire, sell, or move their investments;
and (5) success is not achieved without trust.
Principle #1.
Have a clearly defined investment plan and a time horizon. Principal #2.
Only hire management that will act like owners. Principal #3.
Centre your management teams primary areas of focus needed to succeed
with your plan. Principal #4. Make
your capital sweat. Capital should
work hard to meet your objectives or be retired, sold, or moved elsewhere. By this point, you should be
seeing the inter-relationship of the principles. Without a well-defined plan, managed by the best people you
can hire, who understand where they need to focus their efforts, you will not be
using your available capital at an optimal level. Your balance sheet is simply not a static report but should
be a dynamic tool for growth. Your
capital should be expended only in areas that will allow your growth objectives
and investment plan to be realized. Capital
is meant to work and generate returns. A lot can be said for and learned from
the success of VC’s and PE Groups that will retire, sell or redeploy capital
that is not working toward achieving the goals and objectives of the firm.
Be honest in assessing just how hard you are making your capital work in
line with your investment plan and your time horizon. Principle #5. Your
success is predicated on trust. D. Paul Graham is President of Graham Financial Corporation.
For many small to medium sized companies, there may be limitations on the
resources of time or key employees needed to develop growth strategies, let
alone the time to execute and measure the success of strategic plans.
Graham Financial Corporation provides outsourced corporate development,
M&A, financial advisory, and restructuring services for our clients.
It goes without saying that the past couple
of years have been a challenging time for fund raising for start-up companies.
The Internet bubble, the decreasing net worth of individual investors, and the
gun-shy nature of venture capitalists have left a wake of companies unable to
secure the financing they needed to grow and thrive and some of them are very
compelling businesses. This fallout in the fund raising market has forced us, as
entrepreneurs, to be ever more diligent and creative in our fund raising
efforts. At wired.MD Inc, due to a combination of factors, we nonetheless were
able to close on a $1.1 million Series B Round in November 2002, primarily from
angel investors. I believe our ability to do so was attributable to four
factors: 1) We told a compelling, demonstrable story 2) We reduced investment
risk 3) We developed strong relationships with potential investors and 4) We
reached a critical mass that accelerated the momentum of our efforts. A Compelling Story. First and foremost, you must tell the story of your business in a way that includes the necessary facts and figures that demonstrate you really are building a business that ultimately can be self-sustaining, as well as create a return on an investor's money. This point clearly refers to the basics of business planning and execution: a business plan and financials that build a framework around the vision of your company. Such an effort involves your taking your pie-in-the-sky dream and putting it down on paper, backed up by industry numbers and simple mathematics. The exercise demonstrates that the intended result is possible, even though you must still execute to reach the desired goals. Tied into the plan and financials are the historical results of your business. In other words, if you accelerate the practice of your business, versus just the theory of it, you can begin to make predictions based on reality, not just guesses. If you can describe how your customers react, interact, and buy with a reasonable sample size, then you can extrapolate to the masses of customers you have yet to touch. This information will demonstrate to potential investors that you have unique business intelligence that you can only gain by executing on the business plan. An important third component to telling a strong story is that other credible people believe in the potential of your approach to your industry. Market research that supports what you are attempting to create should be actively pursued and hopefully continues to trend toward your business approach. Second, you should seek out any scientific research that backs up your product, your approach, or your vision. Lastly, and today almost required, you need the voice of existing customers, applauding what you are doing compared to your competitors. The combination of these three critical voices: the market, industry research, and your customers will assure potential investors that you are not the only person who believes in what you are doing. The more people corroborating your story, the more powerful it will be for investors. A "Low-Risk" Investment. Following a period in which investors aplenty have been burned by the bubble, corporate malfeasance, and here-one-day-and-gone-the-next industries, it is critical that you lower the risks for your potential investors in any way you can. It is easier today for them to choose not to invest, so you must make an investment in your company a compelling opportunity they can't pass up. How do you do this? One way that is painful for the entrepreneur, but may be necessary, is an adjustment in your valuation. This will decrease your position in the company, but a recalibration has been necessary over the past two years. In our case, we made a significant change in our valuation that not only brought in the first investor we needed at the critical moment at the beginning of our round, but based on the fact that we believed enough in the company to make that move in valuation, the investor increased his initial investment in the company. An adjustment in your valuation from previous rounds is important in how it frames the potential return on investment for your investors. If your recent valuation changes can increase a potential return on investment, comparable to others in your industry, from 10 times to 20 times, it will be easier for investors to say yes. Lastly, to create a decreased risk for your investors, you can get creative about how invested monies will be dealt with before the company spends them. This may include an escrow account or an investment minimum on the round. You may be raising $1 million, and if you have a minimum on the round of $750,000, make sure that amount is more than sufficient to get you to your intended milestones for this round of financing. That way, your investors know that once you get to that point in your round there is enough gas in the tank to bring the company to the desired destination. In our case, wired.MD adjusted the valuation of the company and established an escrow account to decrease our investors' risk. Without these moves, we would not have been able to raise the money, plain and simple. Strong Relationships. Like most things in life, the relationships you develop with your potential investors are critical. This is why serial CEOs often have an easier time raising money; they already have established relationships with investors. If you are not yet a serial entrepreneur, you will need to develop these relationships quickly and sincerely. If you are developing a network of investors, you will often meet an investor through introductions. Although this may be how you meet an investor, it is important that the relationship evolve to a personal bond between you and the investor, apart from the relationship that the investor has with the individual who introduced you. The introduction is merely opening a door; you must prove yourself capable of keeping the door open. A one-on-one relationship with each investor is necessary. In a world where corporate scandal is a daily headline, you must demonstrate to your potential investors that you are worthy of their trust, and that you will manage their hard-earned dollars wisely. This can be demonstrated as much by the past actions of your company as by what you promise in the future. Your investors are smart, experienced folks, and they must sense in their gut that you are not going to misspend or misuse their investment. I have made a statement to every investor in our company that we respect their hard-earned dollars, and that we will work our hardest and do our best every day to bring them a return. If it is sincere, it will increase the trust and responsibility between you and the individuals funding your company. The last point regarding relationships is what I call triangulation. In the same way that satellites communicate with each other to determine your position on a GPS system, a successful financing will involve investors meeting and talking about your company at a time when you are not in the room. Not only must this happen, but the investors then need to say positive things to each other about your company when the topic comes up. In our case, we found out after every investment in this round that the investor had spoken with existing investors or potential investors to get their take on our company. You have no control over this situation when it occurs, and it will, so your personal relationship with each investor prepares that individual for the inevitable due diligence from other investors who are reviewing the company. Much like research and experts backing up your story, the support of your company by the trusted peers of your investors will be a component that will be necessary to get funded. Critical Mass. When you meet with an investor, he or she will likely have a mental checklist of 50 items required before making an investment. If you have 47 of those in place, you may still have a chance to prevail even though the final three are missing, but that is about it. You must have a critical mass of check boxes completed to attract today's investor. These include not only previously discussed necessities, such as business plan, financials, valuation, customers, and relationships, but also those that you may not sense or know are being watched. As you prepare for and progress through a financing round, seek out your areas of greatest weakness and work to solve those as quickly as possible. You never know when you will fill that final check box that will push the round over the top. You may hire for a missing position, you may acquire the right customer, or you may add that critical feature which changes the entire equation, and thus make your company one in which investors must put their funding. With that in mind, make sure that your company continues to progress while you are raising money. Along with your major milestones, make sure you have other milestones that are set during your fund raising. For new investors, your company is at point A, and while that may be quite an achievement, they do not have a sense of how you got there. Showing them how you get from A to B and then to C, while they are doing their due diligence, will demonstrate how you execute in your company. Keep all potential investors abreast of everything you are accomplishing during that time. Does this put pressure on you to perform? You bet it does, but if you do it right, you greatly increase your chances for funding. These four factors are critical in securing funding in today's environment; at least they were for my company. Unless your company is self-sustaining, you will need to raise additional funds for it to grow. A compelling story, a low-risk investment, strong relationships, and a critical mass around the business proved necessary for wired.MD to raise money in today's world. I am also the first to point out that in addition, a bit of luck must be present to make it all come together, as it was for us. There are still investors who are actively pursuing start-up companies. They are gutsy, and I believe they are wise. Good companies exist, and they are cheaper to get a piece of than they were in the past. If and when you find these rare individuals, stay close to them, and let them know that you value their participation in your efforts. You can't live without them, and they will likely become valuable partners. Building a fantastic company today is not for the faint of heart. I applaud anyone pursuing that goal. You know your business well and you know which of the suggestions I have offered are applicable to your circumstances. Take the ones that work for you, and best of luck in your fund-raising efforts. Mark Friess, 30, co-founded wired.MD with his brother, John, in March 2000, and serves as chief executive officer. Based in Portland, Oregon, the company develops technological solutions for healthcare providers that benefit patients and practices. Its major product line, called streaMed™, are videos about specific diseases. Suitable for airing in doctors' waiting and examining rooms, the videos are designed to educate patients about their diagnoses, treatment plans and procedures. The company has completed two financing rounds: $900,000 in July 2001 and $1.1 million in November 2002. This article originally appeared Kauffman Foundation's Entreworld . Visit www.emkf.org and www.entreworld.org. The Kauffman Foundation works to accelerate entrepreneurial in America by reaching individuals of all ages through the delivery of education, development, and the promotion of an entrepreneurial environment.
Merchant
banking services in North America range from the very specialized to full
service. Yet, the traditional European-style is not what most of today's North
American merchant bankers are providing. Merchant Banking History. The colonies of other European countries were started in the same manner. For example, the Dutch merchant adventurers were active in what is now Indonesia; the French and Portuguese acted similarly in their respective colonies. The American colonies also represent the product of merchant banking, as evidenced by the activities of the famous Hudson Bay Company. One does not typically look at these countries' economic development as having been fueled by merchant bank adventurers. However, the colonies and their progress stem from the business of merchant banks, according to today's accepted sense of the word. The Historical Merchant Bank. In particular, the merchant banker acted as a capital sources whose primary activity was directed towards a commodity trader/cargo owner who was involved in the buying, selling, and shipping of goods. The role of the merchant banker, who had the expertise to understand a particular transaction, was to arrange the necessary capital and ensure that the transaction would ultimately produce "collectable" profits. Often, the merchant banker also became involved in the actual negotiations between a buyer and seller in a transaction. The Modern Merchant Bank. Since the 18th century, the term merchant banker has, therefore, been considerably broadened to include a composite of modern day skills. These skills include those inherent in an entrepreneur, a management advisor, a commercial and/or investment banker plus that of a transaction broker. Today a merchant banker is who has the ability to merchandise -- that is, create or expand a need -- and fulfill capital requirements. The modern European merchant bank, in many ways, reflects the early activities and breadth of services of the colonial trading companies. Most companies that come to a U.S. merchant bank are looking to increase their financial stability or satisfy a particular, immediate capital need. Professional merchant bankers must have: 1) an understanding of the product, its industry and operational management; 2) an ability to raise capital which might or might not be one's own (originally merchant bankers supplied their own capital and thereby took an equity interest in the transaction); 3) and most importantly, effective skills in concluding a transaction - the actual sale of the product and the collection of profit. Some people might question whether or not there are many individuals or organizations who have the abilities to fulfill all three areas of expertise. The North American Variant. Very few offer the complete range of services that are available through traditional European merchant banks. In fact, most companies that come to a U.S. merchant bank are looking primarily to increase their financial stability or satisfy a particular, immediate capital need. They are not looking for the actual "on-line" operating advice and assistance required to complete the traditional merchant banking process. Capital Assistance. It should be understood that interest rates are not the only definition of capital costs. Restrictions on availability, prepayment terms, and operating effectiveness can often outweigh what might appear to be inexpensive capital with low interest rates. Too often, capital includes costs which force an entrepreneur or a business to undertake undesirable actions. In the short-run, some actions might be necessary, but often in the long-run are detrimental. The traditional merchant banker understands these capital limitations and can structure a transaction which is beneficial to all sides of the table -- not just the capital source. He also knows how to substitute one type of capital for another, sometimes utilizing internal sources from asset repositioning or cash creation from improvements in working capital. He understands fully the risk versus return elements necessary to complete the capital procurement process. Finding A Merchant Bank. It is paramount to know who in such an organization is best qualified to fill these needs. Also, selection of the merchant banker depends on whether one needs to satisfy a short or a long-term objective, or both. In the final analysis, it is the personal relationship between the parties that will determine the chances of success. One may find that the smaller merchant banking companies are both comprehensive in their services and reliable. They may effectively handle all transaction elements, while remaining within one's cost parameters. Moreover, these smaller firms can offer more personalized services, better performance and quicker responses to a client's needs. Locating a merchant bank that fits a particular need can be as difficult as the transaction itself. Even though there are such directories as that published by the American Bankers' Association, the National Association of Security Dealers and the Directory of Corporate Finance, there are no sources that evaluate the abilities of North American merchant bankers. For each transaction's needs, one must assess the skills of a merchant banker while examining the firm's performance record. Bruce W. Barren has been Group Chairman of Los Angeles based EMCO/Hanover Group since its founding in 1971. EMCO has concluded more than $3 billion in financial transactions worldwide as international merchant bankers. Contact Mr. Barren by email at barren@verizon.net or visit www.emcohanover.com . Mr. Barren has been honored in California by various municipal and county governments as well as the State Assembly and Senate for having helped turn around over 100 businesses. He has written numerous articles on corporate finance, mergers/acquisitions, and on-line management. He has also lectured to professional societies and taught courses in California's Continuing Professional Education program.
For those of you who just can't get enough about executive bad boys and girls, CNN has developed a site called Fraud Inc. that tracks the most recent news in sordid executive malfeasance. If your auditors or your CFO are listed here, it might be a good time to adjust your strategic plan for 2003. Click on this link to go to Fraud Inc.: http://money.cnn.com/news/specials/corruption
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