Capital Raising for Underperforming Businesses
27 May 2014
Do the following statements sound familiar?
“Our largest customer decided not to renew our contract”
“We just need to win a couple of large new orders”
“Our problems stem from poor decisions by previous management”
Problems like these often result in downward-spiraling performance and a cash crisis. Businesses facing these challenges can find themselves out of cash, struggling to meet payroll and unable to access additional credit from stakeholders (lenders or suppliers).
A frequent response from business owners in these circumstances is “We need to raise capital”.
If only it was that easy…
“Raising” cash internally is the cheapest – and usually easiest – way to fund a business.
Before thinking about raising external capital, first determine if the cause of the cash crisis has been fixed and if the business can be viable in the future.
Assuming that the answer to both questions is “Yes”, the next step should NOT be to simply start looking for investors.
Instead, underperforming businesses should first seek self-help opportunities to improve their cash position including:
- Understand short-term cash requirements via a rolling 13 week cash flow forecast
- Aggressively manage working capital
- Reduce operating costs
- Divest under-utilised assets
- Close/sell under-performing divisions
- Restructure existing tax and debt obligations, or tap additional debt facilities.
Are you ready to Raise Capital?
If the cash position is still untenable after working through the above self-help measures, then exploring outside capital options might seem a logical option to the business owner.
But does a business in such circumstances hold any appeal to an investor? To evaluate chances of a successful capital raise, consider these questions:
- How much capital is needed?
- Is there a commercial angle that would appeal to an investor?
- What will it cost – and is the owner willing to pay the price in terms of dilution and potential loss of control?
- Is the business in a position to start the capital raise process?
If a potential investor can be found, cost of capital is often one of the biggest hurdles to overcome.
There is often a difference between an owner’s perceived value of a distressed business and the value attributed to it by an external investor.
How to get Capital Ready
Getting “capital ready” is critical. If a business is not adequately prepared, it will either fail to source capital or will end up paying a premium for the capital it seeks.
The capital raising process includes:
- Clear strategic plan for the business over the next 1-3 years
- 3 year integrated financial model which demonstrates future profitability and pinpoints the minimum amount of capital needed to execute its plan
- Due diligence business records up-to-date and readily available
- Exit plan that repays outside capital support
- Skill sets assessment of the business to determine its capability to deliver the forecast performance.
It pays to do your homework first and get “capital ready”.
Businesses that can’t demonstrate the ability to effectively manage their own capital usually struggle to attract external capital. If such businesses are successful at raising capital, it will usually come at a higher price and with more stringent control attached.
Positioning any business for a capital raise, finding potential investors, structuring a deal and negotiating terms are no easy tasks at the best of times.
Owners of distressed businesses however have to do all this while simultaneously juggling a cash crisis, keeping stakeholders “on side” and tackling measures to maximise cash flow.
In such circumstances, a competent external advisor skilled in turnaround management and capital raising can prove invaluable in helping a business navigate through such turbulent waters!
Richard John is a client director at Vantage Performance; a leading company in sustainable business improvement, winning national recognition in 2008, 2009, 2010, 2011 and 2012.