I was recently in Chennai speaking to a group of MSME entrepreneurs at a CII conference, and all of them appeared very enthused to raise funds for their business. I took that opportunity to make them apprise of the real world of fund raising, and with that same objective I thought of sharing my views to a larger audience through this article. What people rarely understand is that “as thrilling, fascinating and interesting as it (fund raising) sounds, it’s equally challenging, frustrating and tedious”.The usual perception is that fund raising is like a cake-walk, but what they don’t understand is that the success rate of raising funds is less than 5% even for highly probable / viable businesses, let alone others where there are fundamental and / or operational issues.
While almost every business claims that they have done their homework and are ready for fund raising, in reality, it’s far from being ready for raising capital. So when I ask business owners / management if they are ready with their business plan, market assessment, financial feasibility, returns and information memorandum; most of them say “yes”. But, in reality, none of these are bankable/marketable documents that can be used to pitch to the investors. The first step that I tell my clients to take is to discard whatever they said “yes” to my above questions, and be prepared to start this exercise from the scratch. There are three golden rules that every business should religiously follow if they are keen on raising funds.
The first golden rule of fund raising is that every business should hire professional advisors to undertake the fund raising exercise and let them prepare the bankable documents, unless the company has an experienced in-house corporate finance team. Having an experienced in-house corporate finance team is highly unlikely for small businesses – the MSMEs.
The second golden rule of fund raising is to gauge the seriousness of the business requiring funds and the objective of raising funds. This has to be done by having a detailed discussion with its professional advisors so that the objective and problem statement is identified, and the theme for the fund raising narrative is set. This will help the professional advisors to craft the ideal solution framework and the storyboarding that would go into the pitch document.
The third golden rule of fund raising is to work as a team with its professional advisors. The business / management should be up on its toes 24X7 to immediately provide whatever is required by the professional advisors to prepare the bankable documents, conduct road shows, negotiations, and furnishing details post due diligence. Speaking from my experience, any business that showed lack of interest or procrastination is unlikely to be successful in their fund raising pursuit.
Investment Returns and Exit Opportunity is all that an Investor is Primarily Concerned
It’s imperative for every business to understand that when a PE/VC invests in a business, it’s not because they want to stay married to that business, but because they think that this business provides the best investment opportunity – in terms of returns and liquidity – as compared to all other investment alternatives. Therefore a company’s business model, ability to scale up, ability to generate significant cash flow, and the opportunity to exit at a phenomenal value becomes extremely critical for an investor at the time of evaluating the investment proposal / opportunity. Therefore, when a professional advisor / investment banker works on the narrative for its client, he/she works around this framework. The other important thing to be taken care of during the entire process is to keep doing pre-due diligence and prepare the client/company for the due diligence process that an investor will deploy post signing the term sheet. This is what I call it as “Investment Evaluation Model”.
Requirements for Preparing Bankable Documents – Argon Capital Advisors’ Model Framework
The following needs to be taken into consideration while working on investor presentation / pitch book:
- Performing a diagnostic review: Going back to the drawing board, revisiting the past performances and aligning it with the business model. Plot the gaps, if any, and the underlying reasons for such gaps
- Re-visiting the business model: Based on the above gaps, revisit the business model, align it with the larger vision, create the scalability framework, and lay the elements of the business plan to achieve the targeted scalability
- Knowing the market: Based on the client’s (to be read as “company’s) operational capabilities, business model and the proposed scalability plan, assess the market potential and the opportunity that can be tapped i.e. sizing the market. Equal emphasis should be placed in structuring the market from sourcing – to warehousing – to distribution – to end markets
- Knowing the competition: Mapping the competitors on the same market and operational grid and plotting the gaps; assessing the opportunities that can be leveraged based on the gaps; and carving out an unique value proposition for competitive advantage
- Creating the strategy roadmap: Based on the core elements of the business plan to achieve targeted scalability and growth, the strategy roadmap should be prepared that would include setting the concepts and theme, marketing strategy to capture the market opportunity, sourcing, and operational and distribution (delivery platform) strategy to optimize cost, among others
- Assessing the investment requirement: Based on the strategy roadmap, total funding requirement to be computed along with stages of funding, if any
- Testing the financial feasibility: Based on the funding requirement, targeted growth and scalability, and the strategy to achieve it, a detailed financial model with cash flow forecast, returns and IRR to be built. This will become the base for pricing the equity for fund raising and / or negotiate on favorable coupon rates in case of debt funding
- Assessing the valuation: Based on the cash flow forecast and the targeted risk-return profile, arrive at the fair value of the equity
- Writing the investment thesis – Based on all the above, write the investment rationale for the client, which will become the key investment considerations for the opportunity in question
- Writing the investment risks – Based on the industry, business model and the operational capability, write the key investment risks – market specific risks and company specific risks – along with risk riders
The Takeaways…
While a company is certainly competent and capable of running its own business, fund raising may not be their core / domain expertise. In such a situation, if a company is keen on raising funds to support its growth strategy, it should, without any hesitation, hire the experts who knows how and from where to raise the funds. This also creates a synergy in a way that while the company continues to focus on its core business and growth plans (for which it’s seeking funds), the advisors are simultaneously working on creating a framework that would help raise the money in the shortest possible time.