Lecture Entrepreneurship: Chapter 12 - Zacharakis, Bygrave, Corbett

DEBT  AND  OTHER  FORMS 
OF  FI NANCI NG
Chapt e r   12

Zacharakis, Bygrave and Corbett, Entrepreneurship, New York: Wiley,
2017 ©

1


Figure out how much you need
q

Know the four basic ways to value your business
Ø Earning

capitalization valuation

Ø Present

value of future cash flows

Ø Market

– comparable valuation

Ø Asset-based

valuation

q

Knowing the value of your business is the first
step in figuring out how much you need to get
funded

q

These methods offer tangible formulas but often

Zacharakis, Bygrave and Corbett, Entrepreneurship, New York: Wiley,
2017 ©

2


Financing is a continuing activity
q

q

Factors within, and outside of, your control impact
your cash needs & can change suddenly
Cash needs must be frequently forecasted with a
margin of error
Ø Plan

for the most likely case

Ø Be

prepared for the worst case (maintain access
to a reserve)

q

Remember the 3 “Rules of Cash”
Ø

More cash is better than less cash

Ø

Cash now is better than cash later

Zacharakis, Bygrave and Corbett, Entrepreneurship, New York: Wiley,
2017 ©

3


Align your sources & uses of funds
q

Uses of funds
Ø Start-up

costs

Ø Working

capital

Ø Growth
q

Sources of funds (cash flow)
Ø External
•

Require external analysts or investors to independently appraise the
worthiness of capital investments before releasing funds

Ø Internal
•

Funds you control directly & absolutely

Zacharakis, Bygrave and Corbett, Entrepreneurship, New York: Wiley,
2017 ©

4


Mature firms enjoy greater
access to funds
FIRM MATURITY
INTERNAL
SOURCES OF
FUNDS
EXTERNAL SOURCES OF

FUNDS

Zacharakis, Bygrave and Corbett, Entrepreneurship, New York: Wiley,
2017 ©


Start with internal funds sources
q

Home equity lines of credit
Ø Interest
Ø Better

q

rates are comparatively low

for mid to longer term debt

Credit cards
Ø Higher

interest rates

Ø Miles/points
Ø Better

may be available

for short term debt to minimize cost of

capital
q

Use personal funds to “de-risk” your venture

Zacharakis, Bygrave and Corbett, Entrepreneurship, New York: Wiley,
2017 ©


Optimize your cash collection
cycle (CCC)
q

Ideal - a negative cycle
Ø Customer

pays you before
you pay suppliers

Ø Highest
q

liquidity

Next best – Customers pay
cash, you pay credit
Ø Influenced

q

by industry norms

Optimize your CCC
Ø Extend

payables

Zacharakis, Bygrave and Corbett, Entrepreneurship, New York: Wiley,
2017 ©


Obtain working capital from
receivables and inventories

q

New working capital doesn’t equal liquidity

q

Some working capital is tied up in operating assets

q

Operating assets can be liquidated prematurely at
a cost, if no other sources of funds exist.

Zacharakis, Bygrave and Corbett, Entrepreneurship, New York: Wiley,
2017 ©

Obtain working capital from
receivables by adjusting…
q

the pattern of your sales
ü

q

the ratio of cash vs. credit
ü

q

Forecast sales to plan working
capital
Credit vs. credit cards vs.
cash

your terms for credit sales
ü

A competitive factor within
industries

ü

Consider demand elasticity

Zacharakis, Bygrave and Corbett, Entrepreneurship, New York: Wiley,
2017 ©


Increase payables & decrease
receivables for short term cash
q

q

q

Receivables secure a bank
loan
Maximize existing trade
credits
Negotiate extended trade
credits

q

Use seasonal trade credits

q

Emphasize cash sales
Accept credit cards

q Zacharakis, Bygrave and Corbett, Entrepreneurship, New York: Wiley,

2017 ©


Get short term cash from banks
by financing receivables
q

Pledging
Ø Receivable
Ø Loan

become collateral

is given for a percentage of collateral full

value
q

Pledging with notification
Ø Customer

q

instructed to pay the lender directly

Factoring
Ø Sell

receivables at a discount to a “factor”

Ø Factor

collects receivable payments

Zacharakis, Bygrave and Corbett, Entrepreneurship, New York: Wiley,
2017 ©


Obtain working capital with bank
loans against inventory
q

Chattel Mortgage
q Secured

by property assets (i.e. “Widget
#2873B4”)

q

Floating Lien
q Secured

by blanket assets (i.e. entire
inventory)

q

Field Warehousing
q Lender

secures your inventory on your
premises

Zacharakis, Bygrave and Corbett, Entrepreneurship, New York: Wiley,
2017
q ©


“Finance” working capital
through customer prepayments
q

q

q

Goes back to the ideal
negative cycle...not easy
Common in large, complex,
long-term projects
Customers pay ahead in
installments to fund phases of
work until completion

Zacharakis, Bygrave and Corbett, Entrepreneurship, New York: Wiley,
2017 ©


Obtain Small Business

Administration (SBA) loans
q

For those unable to get conventional bank loans

q

Government backs loans
Ø 90%

under $155,000

Ø Up

to 85%, between $155,000 and $750,000
(max.)

q

q

q

Must be for-profit
Used for working capital, CAPEX, & line of
credit
3:1 Debt-to-equity ratio required

Zacharakis, Bygrave and Corbett, Entrepreneurship, New York: Wiley,
2017 ©

Many factors to consider in
acquiring short term bank loans
q

Maturity of loans

q

Interest rates

q

Collateral

q

Loan applications

q

Restrictive covenants

q

General provisions

q

Routine provisions

q

Specific provisions

Zacharakis, Bygrave and Corbett, Entrepreneurship, New York: Wiley,
2017 ©


Finance equipment needs
q

q

q

q

Non-bank companies charge interest higher than
banks
Collateral (i.e. the equipment) must exceed loan
balance
Loan repayment schedule stays ahead of
depreciation schedule
Conditional sales contracts extend purchase
over 2-5 years

Zacharakis, Bygrave and Corbett, Entrepreneurship, New York: Wiley,
2017 ©

When selecting the right shortterm financing mix, consider…
q

your needs
Ø Current
Ø Future

q

cost of alternatives
Ø Current
Ø Future

Zacharakis, Bygrave and Corbett, Entrepreneurship, New York: Wiley,
2017 ©


Plan cash flows & profits
q

Profitability vs. Solvency
Ø An

unprofitable venture can recover…
measure of health

Ø An

Insolvent venture ceases to exist because
it cannot pay its’ suppliers (insufficient working
capital)…vital sign

q

Profits doesn’t equal cash flow
Ø Some

cash transactions do not impact profits

Ø Non-cash

transaction do not impact cash flow

Free cash flow (FCF); matters to bank

q
Zacharakis,
Bygrave and Corbett, Entrepreneurship, New York: Wiley,
2017 ©

18


Recap
q

Working capital doesn’t equal liquidity

q

Most of working capital is tied up in operations

q

q

q

Cash flow forecasts help to determine financing
needs
Manage customer and supplier payments
Debt options when actual cash doesn’t meet
needs: banks, private placement, leases,
suppliers, government agencies, customers

Zacharakis, Bygrave and Corbett, Entrepreneurship, New York: Wiley,
2017 ©