Talking with Investors

For many specialized startups, the only way to obtain funding is to work with a private investor or related group. Most banks and financial institutions will not extend credit to a startup unless the founder has substantial collateral for the loan or line of credit. To this end, many of these entrepreneurs seek to acquire equity funding in exchange for a negotiable percentage of a business. Most importantly, when you are talking with investors it is important to note that you should have a CPA and an attorney work with you in order to ensure that a proper negotiation is taken place. Your CPA can help you greatly as it relates to issues pertaining to valuation. This is especially important if you have developed proprietary technology (including patented technology).

The vast majority of private investors want to see both a pitch deck and a business plan. Usually, they will review the pitch deck first in order to get an overview of what you are looking to achieve. Most pitch decks range in length from 10 to 15 slides. It should not be any longer than this as it is designed to pique an investor’s interest. The business plan is where most of the information regarding how your company will operate can be found. The business plan should feature three to five year financials (profit and loss statement, cash flow analysis, balance sheet, burn rate, and breakeven analysis). It should also include full industry research specifically geared towards what you are looking to achieve.  The business plan should also have sections that discuss what will occur if things do not go according to plan. This is important as it will indicate to the investors that you understand that there are going to be numerous hurdles that must be mounted before your company becomes profitable. Exit scenarios for both the investor and the company as a whole should also be clearly defined in this document. We have a number of documents on this website that showcase potential exit strategies for a variety of different types of businesses.

Once you begin your negotiations with an investor, this is the time where your attorney should be actively involved with the process. They will ensure that all of the necessary investment terms are clearly spelled out within the contract as well as all matters pertaining to contingencies. A properly produced investment contract will mitigate any potential legal matters that may occur down the road. Your attorney may also draft out your operating agreement.

One of the other factors that you will need to consider with your attorney will be corporate structure. This is something that only a qualified attorney can assist you in determining as each entity has its benefits and drawbacks. The limited liability company (LLC) is the most commonly used structure, but this may not fit in with what you are looking to achieve. A simple discussion with a qualified business attorney will ensure that the business is properly formed to receive capital from a private investor.

On a side note, the vast majority of private investors are going to want to acquire an equity interest in the business. Often, many entrepreneurs feel that they can acquire a private loan from these entities but it is rarely the case. They are going to want to obtain the capital appreciation and potential dividends that come from a successful business over a long period of time. As such, you should plan ahead for this very likely scenario when you are developing your business plan. As such, it may be in your best interest to have a formal valuation completed so that you can properly negotiate with a private funding source in regards to what equity percentage will be provided to a private investor. However, this can be expensive. Many proforma valuations can have a cost of $2,000 to $10,000 depending on the scope and scale of the study. Another document that is usually accompanied by a proforma valuation is a feasibility study. This overview focuses on whether or not the business can achieve profitability based on a number of different factors (including market size, number of competitors, etc.). Much like a proforma valuation, a feasibility study can range from $5,000 to $10,000 depending on the scope and scale of the project. It is important that you find someone that has extensive experience in your field as a consultant in order to have these issues addressed appropriately.

Another consideration when working with an investor will be to determine what would occur in the event of a business liquidation. Most importantly, some investors want to ensure that nearly all of their capital will be returned in the event of a business failure. The terms of your investment contract may include providing the investor with all tangible assets in the event that things to do not go as planned. These are further issues that your CPA and attorney can guide you with as you progress through this process.

After the contract is signed, the funds are usually deposited into the corporate account (all at once or in steps) within a few business days. From there, your business has officially launched. Good luck with your new venture!

Private Placements and Business Plans

Today, we’re going to talk about the difference between a private placement memorandum and a business plan. Often, many entrepreneurs make the mistake that a business plan is a legal document or the investment contract between the business, the entrepreneur, and the private investment source. However, a business plan is not a legal document. It is a sales document that focuses on the product or service offered by the business, how much money is going to be needed to launch the company, and the anticipated financial results over a three-year to five year timeframe. A private placement memorandum, commonly referred to as a PPM, is the actual legal document that is used between the entrepreneur with a business and a group of private investors.

Not every company that is seeking private investment requires a private placement memorandum. Usually, if an individual is sourcing capital directly for a venture capital firm, a single investor, or private equity group in a private placement memorandum is not going to be needed. However, there are a myriad of both federal and state securities laws that guide the capital raising activities when funds are being sourced from individuals or non-bank entities. Only a qualified attorney can make a determination as to whether or not a specific business will be subject to securities laws as a result of the capital raising activities. If the individual is seeking to sell shares of the business to a number of different private investors in a private placement memorandum is always going to be needed.

The private placement memorandum documents the risks associated with the business, how much capital is going to be used, the allocation of profits to each partner, and all the necessary risk disclosures that are required by law. The private placement memorandum typically does not focus significantly on the forward-looking financial statements related business activities but rather focuses on the control that investors will have as a result of owning a share of his business. These are highly complicated documents and most private placement memorandums run anywhere from 30 pages to 60 pages depending on the complexity and structure of the business. It is expensive to have this type of documentation produced by a qualified attorney. As we discussed in a previous article, most PPM documents have a price of around $4,000 to all the way up to $20,000 depending on the scope and scale of the business.

There are some companies out there that are operated by non-attorneys that offer a fill in the blank template for a private placement memorandum. However, given the legal nature and the complexity of this type of document it is important that a qualified attorney develop this documentation so that new mistakes are made. A mistake in a private placement memorandum or similar investment contract could have substantial legal ramifications if there is a dispute among the entrepreneur and the group of investors who have put the money into the business. Although this is a significant upfront expense, the benefit is that in the event of a disagreement the contract can be easily reviewed in arbitration or in a court of law.

Unlike the private placement memorandum, the business plan has no such disclosures of risk outside of general economic and business risks. Additionally, the business plan does not focus on the percentages of equity that each partner will get as a function of how much capital they are contributing to the business. Again, the business plan primarily serves to showcase to a potential funding source exactly with the business is looking to do, how will market its products and services the general public, and related information as it relates to the management and general operations of the company.

One of the key things that can be done prior to even developing the business plan is to work with a qualified attorney to determine what documentation would be needed based on the types of capital being raised. This will ultimately save the entrepreneur a significant amount of time and money given that they will understand exactly what they need to do prior to engaging in expensive business plan writing firm or a securities attorney that is going to have to draft a large-scale private placement memorandum.

Crowdfunding a Business

In lieu of directly raising capital from a bank, investor, or other private investment source – many entrepreneurs have taken to raising funds for the establishment of a new business through crowdfunding platforms like kick starter and related platforms. One of the nice things about these types of platforms is that they typically do not fall under the guise of raising capital through the sale of securities given that it is a product that is going to be provided in exchange for the needed capital. However, the entrepreneur that is looking to raise capital through these platforms still must conform with all laws relating to acting in good faith and wanting to provide a product to the general public.

On a quick side note, crowd funded projects typically do not require a business plan. However, with the greater competition that is constantly going on among entrepreneurs that are looking to raise capital – some entrepreneurs that raise financing through crowdfunding campaigns have begun to provide a small business plan that showcases what they intend to do with the money so that customers do not feel ripped off if things do not go as planned. However, this business plan can be on the smaller side of things and it can omit certain financial sections given that this is not a document that is going to be specific for capital raising activities with the intent to provide a return on investment for investors.

In the coming years, it is expected that a certain greater degree of regulatory oversight will occur within the crowdfunding market. This is primarily due to the fact that there have been a few instances where unscrupulous individuals have raise capital for specific types of projects without ever providing the product in return. As such, certain individuals have complained about this aspect of the crowdfunding  nature of specific projects. In future operations, there may be a substantial verification process that a potential investor needs to go through in order to be able to showcase their product or future service to the general public. However, this is not yet occurred and it will probably be about five years from now for any type of major regulatory oversight occurs for this type of market.

When the key things to remember when raising money through a crowd sourcing platform is that the individuals that are putting up the money are seeking a product or future service in exchange for their current funds rather than a return on investment. As such, and again – this allows entrepreneurs to effectively raise capital for new and innovative products without having to go through the extensive process of registering securities or finding private investors that are able to put up the needed capital for their new invention. At this time, the vast majority of capital that is raised through crowdfunding campaigns is specific for products given at the people who want the services once of intangible and hand. This trend is expected to continue in perpetuity.

In closing, crowdfunding can be a great way to source a significant amount kept capital relatively quickly for a new and innovative product. However, any entrepreneur that is looking for capital raising should be prepared for substantial number of orders and to be able to fulfill these orders relatively quickly.

In the future, we will continue to develop new documentation and articles regarding this type of capital raising as it has become very popular among new entrepreneurs that do not have a direct amount of capital or an established group of individuals will finance their entrepreneurial ventures.

Auto Broker SWOT Analysis

One of the key strands of an automotive brokerage business is that they are able to generate substantial gross margins from placing a buyer with a seller of a vehicle. These businesses do not have to take the normal risks associated with selling a car in that they carry zero inventory. Among busy buyers and people seeking specific types of vehicles, automotive brokers are able to provide a very valuable service. The gross margins generated from the successful placement of a broker vehicle are substantial and are usually about 10% of the purchase price. This is a high gross margin business. Once the marketing apparatus that is needed in order to engage in this type of automotive brokering activity is developed, the ongoing operational risks and marketing costs are substantially meliorate it.

As it relates to weaknesses, automotive brokers do have substantial marketing expenditures and that they need to maintain an expansive website that brings potential buyers of vehicles to the business. These companies often have very high pay per click marketing as well as search engine optimization marketing expenditures. The ongoing payroll costs associated with an automotive brokerage are somewhat moderate and these are usually done on a scaling basis as the company expands its revenue base.

As early’s opportunities, automotive brokerages frequently expand their operations by acquiring some inventories of in demand vehicles that are sold directly to customers. Additionally, many of these businesses will frequently increase the scope and scale of their marketing budgets in order to attract a greater number of buyers that can be placed with sellers of vehicles. One of the other opportunities for these businesses is to operate on a commission basis on behalf of specialized car dealerships especially as it relates the high-end sports car market. These businesses frequently work with companies that specialized in classic car inventories as well.

For threats, automotive brokers are very susceptible to negative changes in the economy. However, this can be remedied if the auto broker specializes in working with wealthier buyers that are seeking highly specialized sports cars or classic cars. These individual buyers are far less swayed by negative changes in the economy. The competitive issues faced by these businesses is also one of the major threats that we face on an ongoing basis. However, once an auto broker develops a very strong reputation, this risk is substantially mitigated.