What are some of the funding options to grow your small business

Written by Troy Trewin

Troy has worked intimately with 26 businesses in 20 years. He knows their numbers, understands their growing pains and people issues and has helped with most financial aspects, as well as having coached on leadership and management.

March 11, 2020

As the adage goes, ‘cash is king. The same challenge of having enough cash when times are tight applies when you are in a phase of funding growth, especially fast-growth. Where can you find more to stoke the fire of growth while also protecting your precious equity until the last moment you have to carve some off to investors.

Here are the main ways you can fund your next small business growth chapter:

  • Cost cutting
  • Suppliers
  • Customers
  • Government
  • Lenders
  • Investors

How cost cutting can help fund your growth

By taking a close look at your major costs in the business you could save considerable costs and therefore cash to help fund growth. Talk with your suppliers about sharper prices. Banks are a good place to start if you take payment via credit card from your customers. Every six months you should call them and ask for a lower merchant fee. They rely on your apathy and leave the percentage they charge (0.7 – 1.5%) on credit card payments high, until you ask. Review other major costs, get quotes from potential new suppliers and use those quotes to lower your current supplier charges at least. If they won’t play ball, look to move.

How suppliers can help fund your small business growth

Review the payment terms you have with suppliers. Ask the bigger ones you have credit with if you can extend these terms, even by a week or two. This will increase the working capital you will need but over time if you negotiate terms with them, this could unlock a little cash for you.

How customers can provide extra cash flow to grow your business

There are a few things you can do here:

  • Review your pricing, look to increase where you can
  • Change the payment terms of your customers, so you get cash earlier
  • Cross or up-sell more products to existing customers

How your government can boost your finances

Look at your local, State and Federal governments for these funding options: 

  • Loans: more-and-more governments provide loans for small businesses when a traditional bank has rejected them; and
  • Grants: free money but with paperwork before, during and after the grant.

How lenders can help fund small business growth

There are a few options from banks and other financial institutions:

  • Overdraft: most banks will provide $30,000 overdraft facility, unsecured. The fees to have in place are $500 – $700 a year and the interest rate when you dip into your overdraft can be 12% – %16%. Shop around, and move banks if you have to;
  • Asset finance: if you have assets in your business, like equipment, asset finance companies or you bank could use it as security and loan you 50% – 75% of the asset value. Interest rates can be 8% – 12%; and
  • Loans: if you have a good trading history banks could lend for your next expansion project. Apart from an overdraft they don’t generally fund working capital, unless it is something like a big export push where you need production costs funded for an extra 3 months before your overseas distributors pay you.

For the latter two options lenders will want security (your house if you have one) and Director guarantees. This simply means – if the business goes bust and the lender is still owed money, they can sue the Directors to pay what is owed.

When should you look to to investors for growing your small business

As late as possible! Hold onto your precious equity as long as you can. 

To raise funds from investors you must sell equity in your business. They do not loan you money, instead they receive shares in your business and are in it for the long haul. Professional and regular investor communication is crucial to not only keep them happy about their current investment with you, but also make them even keener to invest further money if you need it.

There are three main investor groups to consider:

  • The Three Fs;
  • Crowdfunding; and
  • Professional investors.

And within that last path is a good in-between option for you and the professional investors – convertible notes.

The Three Fs of funding small business growth – Friends, Family and Fools

Friends, family and fools! These are people you are close to and could chip in some cash. Unless you are from, and/or mix in wealthy circles, this option can be fairly limiting. This type of funding makes having clear legal agreements in place to ensure everyone is on the same page, and no bad blood is spilt if things go awry. 

Crowdfunding a small business

Selling a small amount of equity to a big group of people, especially if you already have a loyal following. The average investment is usually $1,000 – $2,500 but with a lot of punters chipping in this can roll up to a big amount. In late 2018 we raised $700,000 NZD from 300 investors (~$2,500 on average) for The New Zealand Whisky Collection.

Some key points we learned when running our campaign:

  • You get an absurd valuation on your business, like 3 – 5 times sales!;
  • While we were, the business does not have to be profitable to raise money via crowdfunding – there are plenty of examples of this;
  • The crowdfund shareholders can become a new sales channel for you;
  • Communication with shareholders is not as arduous as you think. An Annual General Meeting (AGM) and quarterly shareholder newsletters are recommended (especially as you want to tap your new sales channel as much as possible!);
  • Structure your investment packages so you only get a handful of investors with voting rights;
  • You will need to lay it all out bear – show your financial performance and projections to the public, so your team and competitors will clearly see how your business is going;
  • Focus on presenting a well-designed, accurate and sexy looking Investment Memorandum; and
  • The cost to raise can be 8% – 15% of monies raised, depending on which platform you choose, how much marketing you invest and all your advisor fees (legal, accounting, marketing etc).

You could also look at the earlier version of crowdfunding made popular by Pozzible and Kickstarter, which is basically just a pre-sales model. You don’t sell equity but customers pledge to buy your product once it is made. If you reach your minimum pre-sales target all the punters must stump up their cash, and you then have enough to go into production.

Professional Investors coming into your small business

Pitching to professional investors takes a lot of time, information and courage. They are brutal beasts, very fixated on the numbers and usually very conservative. We’ve also seen a few of these come and go in the business domains we have worked in. And while it can be great to have a cashed up ‘partner’ you need to do your research and make sure this is the right choice for you. Look for a strategic investor, someone who will add more to your growth than just cash. A good network, specialised expertise that is lacking in your team or access to sales and distribution channels you have not (or cannot) tap.

Consider using a convertible note or loan with your investors

A good tool that is in between a loan and investment is a convertible note. Usually for at least two years so there is enough time for both parties to get to know the other, a legal agreement is signed which basically says:

  1. The lender will provide $X as a convertible loan
  2. The duration of the loan is Y years
  3. Any time before the end of Y years, the lender can nominate to convert their loan to equity (at a share price that is agreed and documented in the agreement)
  4. At the end of Y years, if the lender has chosen not to convert their loan to equity, their loan is paid out with interest
  5. The loan will have some security in the business – assets, or even the Founders’ house perhaps

This is good as the lender gets to see the Founder and management team perform for a while before deciding to come on-board. If they have hit their numbers then the share price in the agreement would make it attractive for the lender to flip to being an investor. 

Interest on a convertible loan could be between 8% – 12% depending on the risk of the business, and risk-profile of the lender.

With most of these funding options you need to have strong financial reporting and controls in place. So make sure you not only know your numbers, but monitor them on a regular basis.

We’ll explore some of these paths in more detail in future blog posts. Sign-up to our Weekly Leadership email to be notified when a post goes live, and hear of other content to help you grow your small business.

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