Finance Strategy is about determining how to get the money and what to do with it
Securing finance involves setting a strategy. The strategy will include:
- How to present the financials
- When and Where to Obtain the finance and funding
- How to operate with the finance of a capital project
Presenting the financials. The presentation of the financial information supporting your business case to undertake a capital program must outline clearly the following items:
- Capital Expenditure – the cost of the physical project#
- Cashflows – when and how much cash moves in and out of the business on a monthly basis for the capital build period and at least 2 years following
- Working Capital – the extra cash to carry-on operations during construction and afterwards if starting or expanding the business
- Finance Costs – separated out from the expenditures of the business
- Operational Profit – the business must make additional monies to cover risk and finance
- Revenue Streams – presented by activity types
- Profit and Loss for the operations – inclusive of the impact of the capital programme
When and how to obtain finance. The gathering of funding and finance must be strategic. Otherwise you risk long delays or not achieving funding. Assuming you have determined the level of funding and finance needed to achieve your capital project, the next step is determining where this will be derived. It is important to avoid mapping your funder to your need; this usually leads to mission creep. As such, the strategy for when and how to obtain funding begins with:
Mapping out the potential funders/financiers
- A mind map or even a list of funders and financiers is necessary to understand the extent of opportunities for funding.
- The map of funders must be correlated with timescales for achieving funding from each funder/financier.
Assessing scale of grant versus debt
- Start with 100% debt and work down to determine the mininum amount of grant required to make the business model work.
Mapping the process of obtaining the mixture of financial support.
- A group of seed/early stage investors should be sought first. This small, but critical, early money will act as an attractor to the larger sums required to complete the project.
How to operate with finance. After you haveparsed the revenue and expenses, (b) correlated the expenses to those set out by the funding streams, and (c) determined your best course of action; it is imperative you investigate how to flex the finance portion of your support to your near term advantage.
Go interest only for the first few years will not get you any closer to zero debt, but it will give you the chance to build reserves or just survive in the near term. Cash is king and any action to conserve cash, especially when related to expenses that generate revenue (such as your new capital project), should be undertaken.
Negotiate payment holidays or breaks. If you know that the first year is going to be difficult, negotiate a reduced schedule. If you are aware that September – December are your lowest cashflow months in most operating years, negotiate variable payments.
Build a Relationship. This is the most difficult item. Typically, after the money is in, your desire to talk to the bank diminishes by 100%. But, this post honeymoon time is important to the relationship that may help you in more difficult times or provide that boost on the second project. Ensure your reporting is set up properly and is delivered in a timely fashion to your financiers. Additionally, pick up the phone and talk to your account representative and let them know how the business is going.
Typically, the mistakes made regarding finance fall into two categories: (1) a small amount of information is dangerous, and/or (2) debt is bad and we must do everything to eradicate it. These can result in the following mistakes:
Failing to make interest only arrangements on finance in the first two years. This is usually the result of a board or leadership team obsessed with the eradication of debt. This obsession of debt eradication is to the detriment of the practical operational realities of the business. Conserve cash.
Following after the lowest interest rates without regard for (1) closing fees, (2) repackage fees, (3) firm’s customer service (4) covenants (5) and nuanced other variations in the lending package.
Going after the big money first. Avoid the temptation to secure the big money first. Take a small risk on a small amount of seed money to get the project moving. This will increase your confidence (practicing the pitch) and the confidence of the bigger funders. Getting the small money (usually in a soft money loan) is a signal to the larger funders (both grants and finance) that you are a serious organisation and you believe in your venture.
Allowing the banks to have discrete approval for activities in your new capital project. For example, they may want to approve leasing arrangements with new tenants. Get the bank(s) to agree up front to a standard lease document that can be approved without their input. This will save several thousand in legal fees with each lease.
Failing to set up a proper working capital budget. This mistake is usually fatal. You will need more cash than expected, always.
Failing to set up your forecasts using a proper accounting system such as SAGE. Spreadsheets often have errors and they do not properly account for VAT and other nuances of business and construction. Systems do not ensure you are error free, but they force you to think in ways spreadsheets do not.
Case 1
A start-up social business embarks on a development project. They have the business case, the team, the idea crystalised and are tracking down the money. 12 months go by and they have a meeting to decide whether the capital project should be shelved. It is decided that they will borrow £50,000 to carry out some critical surveys and architectural work. This small amount of money gets the attention of the bigger funders and acts as a catalyst for a diverse package of funding and finance. The social business achieves its multi-million pound capital development.
What is the learning? A competent team with a great idea still has trouble convincing funders to undertake a modest capital project until they take some risk themselves. It’s the old adage: someone must go first. In capital projects it is never the bank of big funders.
Case 2
A large social business is putting together a seed package of funding for a capital project. They choose a package containing 100% finance because the interest rate on the mixed soft money package is significantly higher. The social business runs into trouble during the development and is unable to make two payments. The bank calls in the loan and the project is ended because the social business must use its free cash to pay off the debt. The project will likely get off the ground in 2 years time, but the impact is lost.
What is the learning? Do the maths. Not only was the higher interest rate cheaper in the end because it contained a small portion of grant, but the relationship with the funder would have seen the social business through a tough spot in the development. In the end, an holistic picture of your finances will serve you best.
Finance Strategy Reading:
http://www.mindtools.com/dectree.html
Decision Science, by Harvey Brightman
Financial Management: Theory and Practice (with Thomson ONE) (Hardcover) by Eugene F. Brigham (Author), Michael C. Ehrhardt (Author)
http://www.quickmba.com/
“The Balanced Scorecard: Translating Strategy into Action”, Robert S. Kaplan & David P. Norton
Good resources for finance are derived from non-financial reading such as books on risk and probability.