BUSINESSES RAISE CAPITAL FOR ALL SORTS of reasons: to expand the production line, to acquire a new business, to reduce the burden of bank debt, to buy out current shareholders … and even sometimesto bridge a difficult period of high or unexpected cash bum. The sources of such capital are many and varied and each form of capital comes with different conditions attached. In these uncertaineconomic times, it is not a simple matter to approach the public equity or debt markets, and often it can take considerable time and distract management from what they do best. For many businesses, aprivate equity fund is an ideal source of new capital, while providing new relationships and a willing partner to assist the growth of your client’s business.
What is private equity?
Literally, ‘private’ means not publicly traded, and ‘equity’ means non-debt. It’s a very flexible form of finance and can be structured via a variety of instruments including convertible notes, ordinary shares and preferred shares. Private equity financiers typically have a long-term investment horizon of between three and five years, and because their return is linked to the performance of the organisation, they are more willing and able to support the growth of the company through mechanisms such as board representation and strategic corporate introductions. In 2001 there was over Million of private equity funding invested in Australian organisations.
Who do I approach?
There is a large range of private equity sources, which is typified by the various terminology such as angel funding and venture capital, which represent subsegments of the private equity market. The breadth of private equity funding solutions means it is necessary to refine the search for the most suitable partner for your client’s business. This search is best guided by answering the following preparatory questions:
* What is the quantum of funding?
* What industry does the organisation operate in?
* What has been, and what is expected to be, the financial performance of the business?
* What is the purpose to which the funds will be put?
* Will more capital raisings be required in the medium term?
Funding requirement
Financiers are segmented according to their preferred investment size. To illustrate, RMB Ventures prefers to make an investment of between $10 million and $20m per business. Other funders may have a mandate to invest between $ 1m and $3m. The preferred investment size is typically quoted in marketing material, and can be used to select which providers to approach based on your organisation’s needs.
Industry exposure
Various industries encompass unique risks, such as aquaculture, agriculture, infrastructure and property development. Private equity funders often seek to limit investments to those industries that they understand. In most cases the industry preferences for a private equity fund will be expressed as exclusions, and be readily apparent in marketing material. When reviewing financiers it is worthwhile exploring their existing investments and industry experience, since this could prove to be a valuable source of assistance and knowledge following the investment.
Company performance
The size, growth stage and current and expected performance of the business will dictate how you should approach private equity funders. Private equity providers are segmented into a number of groups, including early stage (funding start up or embryonic businesses), expansion stage and later stage financiers. In addition, they can be segmented by industry sector (some have a preference for a particular industry) or by the amount of funding that they have available per transaction.
If your client’s business is not cashflow positive, is seriously under-performing, or has sales revenues of below $20m, then it is likely that the appropriate source of private equity capital will be from one of the smaller start-up, expansion capital or specialist turnaround funds, rather than a later stage financier. In the very small businesses (below $ 10m sales revenue) it may be more appropriate to seek capital from early stage or ‘angel’ funds.
Use of funds
One of the early questions that a provider will ask you is “What is the purpose of the funding?” The answer to this question will narrow the range of funds that will be appropriate for your purposes. Some funds are only interested in funding the majority, or total buy-out of the current shareholders. Others are more interested in funding expansions (such as venture capital funds), in which case they may seek a minority shareholding.
Where an organisation is seeking funds to effect a turnaround from poor performance, or to reduce the current burden of debt on the balance sheet, the field of private equity providers willing to take on such risks narrows dramatically.
Under such circumstances, it will be necessary to put together a strong argument for the incoming shareholder to believe in the potential turnaround.
Some providers are better than others at taking on such risks and are also able to provide valuable assistance at board and/or management level for such tasks.
Again, by way of example, RMB Ventures’ most common reasons for funding businesses are (a) to provide a management team with the capital to buy the business from owners who wish to sell, and/or (b) to provide the current shareholders of a business with the capital to acquire a competitor or complementary business.
Future funding requirements
Ongoing funding requirements will mean that a client is best served by sourcing funding from a partner that is able to maintain the relationship over the long term and continue to provide new capital. A need for ongoing funding should dictate that you search for providers that have access to suitable funds and are not bound by prudential obligations that may limit their ability to provide follow-on funding.
Where do I get private equity?
The Australian Venture Capital Guide lists over 100 members and most of these can be broadly described as venture capital businesses. Various other publications list the range and types of providers available and the website of the Australian Venture Capital Association (AVCAL.com.au) is a useful starting point. Choosing the appropriate firm to approach will depend on the answers to the earlier questions.
CPAs have an important role to play in supporting organisational growth by facilitating the fundraising process. The CPA is the lynchpin to preparing the financial statements and working with the board and executives to prepare the necessary business plan and financial forecasts.
This preparation is essential for allowing the financier to understand the business, its growth potential and the way in which the capital can be structured and applied to support that growth.
‘One of the early questions that a provider will ask you is what is the purpose of the funding? The answer to this question will narrow the range of funds that will be appropriate for your purposes’
PHILIP LATHAM
Managing director of venture capital firm RMB Ventures, Philip Latham, gives clear concise advice for those
practitioners looking to help clients with burgeoning businesses acquire equity funding. P.40
PHILIP LATHAM has the lowdown on raising capital for your client from private equity sources
PHILIP LATHAM, IS MANAGING DIRECTOR RMB VENTURES, A PRIVATE EQUITY FIRM WHICH IS PART OF THE AUSTRALIAN OPERATING ARM OF RMB BANK IN SOUTH AFRICA. RMB VENTURES HAS A MANDATE TO INVEST $300 MILLION IN AUSTRALASIAN BUSINESSES. FOR MORE INFORMATION CONTACT LATHAM AT [email protected] OR ON 02 9256 6245.
Copyright CPA Australia Apr 2003
