(Finding the money to make money)
Volume VI, No. 3
Smart Struggles for Fast Growing Companies
by Marlene A. Prost
Looking for money to launch your new venture or product line? In the Delaware Valley, there are many groups ready to help you raise venture capital, or find your own angel.
"It takes money to make money." It's a cliché. But like most clichés, it rings true. Whether you're launching a new start-up enterprise, developing a new product line or taking your business to the next level, chances are you, as an entrepreneur, will at one time or another anxiously be seeking new sources of equity capital.
There are many ways to finance your business' growth, from bank loans to going public with an initial public offering
(IPO). But the most desirable method of financing for businesses looking for $250,000 to $5 million is a substantial investment by a third party-primarily venture capitalists or individual angel investors. So how do you proceed? And what are your chances of success in getting the money you need.
Nothing Ventured, Nothing Gained
Remember Tony Wedo? When Boston Market was still viable as the classy alternative to McDonald's, Wedo was president and CEO of Mid-Atlantic Restaurant Systems, a major franchiser of the national restaurants.
But Wedo sold his interest to the troubled chain in 1997 and has been busy creating a new business in home sales. His new enterprise, Homes for Living, is a retail direct-selling business of candles and upscale home décor accessories based in Wilmington, Del. Since launching the business last October, Wedo has built a network of 200 sales representatives and, on March 29, had his first show on the QVC shopping channel. He expects to be selling on the Internet by the end of this summer.
To find capital financing, Wedo went the route of many start-up businesses and set up an exhibit at the Early Stage East venture fair last year in Delaware.
"Tony was an exhibitor, not a presenter. He wanted to be an exhibitor so he could focus on dealing with the crowd and having substantial visibility," said David
Freschman, chairman of Early Stage East and president of the Delaware Innovation Fund venture capital investment group, a sponsor of the fair. "By attending, he attracted a lot of interest. In 90 days, he raised $1 million."
Besides investing $250,000 of his own money, Wedo obtained financing from the Delaware Innovation Fund, GS Capital (a sister company of the Safeguard Scientifics group) and Progress Bank. This year he expects to sell $5 million to $7 million; his five-year plan is to become a $100 million company.
It was a case of the right person in the right place-meeting the right investors. The DIF was attracted because Wedo "had a track record and an interesting economic model that grows exponentially," Freschman said. "That industry [home sales] is off the radar scope of most traditional venture capital, which is focusing on technology."
Venture capital investment reached a record $14.3 billion nationwide in 1998, an increase of 24 percent over the previous year, according to
PricewaterhouseCoopers' "Moneytree" survey, which tracks venture capital investment quarterly. Not surprisingly, investment in technology-based companies was 74 percent of total dollars in 1998.
In Pennsylvania, venture capitalists invested $335.8 million in 1998, up from $190 in 1995; investments were $266 million in New Jersey and $10 million in Delaware.
The survey cited the following Delaware Valley firms as among the most active venture capital firms in the fourth quarter of 1998: Ben Franklin Technology Center in Philadelphia, TL Ventures in Wayne, Early Stage Enterprises in Skillman, N.J., S.R. One Ltd. in Wayne, Cardinal Health Partners in Princeton, Edison Venture Fund in Lawrenceville, Keystone Venture in Philadelphia, and Pennsylvania Early Stage Partners in Wayne.
There are at least 25 venture capital firms in Philadelphia with at least $25 million each in assets, said Michael Bolton, managing director of Pennsylvania Early Stage Partners and senior vice president of Safeguard Scientifics in Wayne.
Pennsylvania Early Stage Partners was created several years ago when the Commonwealth, based on its Technology 21 report, decided to invest more seed money in start-up companies. It began with $50 million from there investors: 60 percent from the Pennsylvania State Employees Retirement System pension fund, and 20 percent each from Safeguard Scientific and the Commonwealth.
"There's a lot of venture capital around, but a lot has gone for start-ups. Most venture capitalists say, "After you've got $100 million, come see us,'" Bolton said. "The key point for me is, as a start-up source of financing, we are ensuring the future."
Besides start-ups, the fund also finances "catalyst stage" companies that want to develop a new technology or "take advantage of a new paradigm shift."
The fund, which has received almost 1,000 inquiries and nearly 60 business plans, has made 17 investments, from $200,000 to $2 million each.
Next door in Delaware, the $10 million private, nonprofit Delaware Innovation Fund may be the state's biggest booster, with an unabashed goal of promoting new business growth in the First State.
"Delaware is a very, very, very entrepreneurial and aggressive government, with a very accessible governor," DIF president Freschman said. "When we set up the fund, the governor recognized the best thing to do is leave funding in private hands." The state invested $3 million; the other $6 million or so came from local banks and investors that include the Delaware Economic Development Office, FCC National Bank, First USA Bank, MBNA Bank America, and private foundations.
Freschman has this advice for businesses pursuing venture capital:
A. Identify your industry niche and needs to target the right venture capital source for you. Select your growth strategy: Are you going for slow growth or to "ramp it up?" Finally, what is your exit target and strategy: Do you envision selling, arranging a merger or taking the company public through an
B. Attend venture fairs. An increasing number are catering to early-stage businesses and they are all attended by both venture capitalists and wealthy individual angel investors. Last year, 24 entrepreneurs displayed at Early Stage East, and half were invested in; the next Early State East '99 will be held June 14 to 15. The Mid-Atlantic Venture Fair is jointly presented by the Greater Philadelphia Venture Group and the Baltimore based Mid-Atlantic Venture Association; the fair will be held next November in Maryland.
"The venture fair environment is fabulous for a number of reasons," Wedo said. "It's getting years' worth of exposure in a day or two. It's a high-impact environment; you shake hands with people who could be a match."
C. Hire advisors, accountants and lawyers in entrepreneurial spheres who will introduce you to the venture community.
D. Contact a venture capital firm directly. Do your homework first. Make sure that your company's mission and product fit the goals of the firm.
Money to Grow on
Foxfire Printing and Packaging, of Newark, Del., had been in business for several years when it applied to the Delaware Innovation Fund for capital to go national.
Until then, the private company had been totally self-financed, said president and partner John
Ferretti, who invested $50,000 to start the business in 1991.
Foxfire is a production management company that provides a range of services, including graphic design, printing and distribution, for technology firms. It posted $5.2 million in revenue in 1998 and expected that to go up to $7.5 million this year. It already has a sales office in Greenville, N.C., and a salesperson in San Francisco.
Ferretti sought equity capital when he realized the firm wasn't large enough yet for an
IPO; he still hopes to go public eventually. According to Freschman, DIF got to see the business in action when Foxfire was hired for printing services at the latest Early Stage Fair and expects to invest "six figures" in the business.
If yours is a later-stage company, the only reason for you to seek venture capital is if you plan to grow, says Philadelphia attorney Frederick D.
Your motivation for growth plays a key role in your ability to attract outside capital; therefore, you must carefully think through your incentive before you approach any outside capital sources, writes Lipman in his book, Financing Your Business with Venture Capital (Prima Publishing). For instance, you would be unlikely to attract outside capital if your proposed growth was solely motivated by your desire to provide jobs for your children.
Lipman cites six reasons a later-stage company might be interested in growing.
- Your competitors are growing with outside capital and threaten your market share of the industry.
- You would like to sell your business in a few years, but without significant growth, the sales price would be inadequate to satisfy your retirement needs.
- You need to grow your company to take advantage of cost efficiency enjoyed by larger companies
in your industry.
- You need to grow your business because technology changes are forcing larger capital expenditures that you cannot finance with internal cash flow and normal bank loans.
- You would like to bring your children into the business, but it is not large enough to pay their salaries are well as yours.
It's Who you Know: Angel Investors
Angel investors are the heavenly answer for many start-up and growing companies. And fortunately, they tend to hover over companies, just waiting to help a business in distress.
Independent investors can be members of a venture capital group; they can be part of the crowd at a venture fair; or they can rest somewhere just outside your group of family and friends, waiting to be introduced.
So far, personal networking has worked miracles for Charles Seidman, a founder of RealTime Media Inc., in Haverford, an online sweepstakes management company best known for scratch-and-win game tickets on the Internet. The business was started two years ago with $200,000 in personal resources. This is Seidman's second business venture; he left a previous business, CompuScan Marketing, in New Jersey, to develop his Internet Company.
With the help of family and friends who "made the introductions," Seidman has acquired $350,000 from four angel investors located in Texas. The money has gone into operating capital and to expand the business, which earned $1 million in 1998, and he's working with a financial consultant to seek further funding from venture capitalists.
"We've had some venture capital groups that made offers. We didn't think the valuation was strong enough," said
Seidman. After all, a company similar to RealTime was recently sold to Yahoo! for $30 million. We think that's a benchmark" for RealTime's worth, he said.
Seidman isn't interested in any Internet matchmaking services either, relying on the "personal introduction approach" that has worked so well for him.
"It doesn't work banging doors and cold calls," he said. "It's typically an introduction."
For most companies, equity capital by an independent angel is the absolute optimal form of financing, said David M.
Evanson, an Ardmore-based small-business expert and author of Where to Go When the Bank Says No: Alternatives for Financing Your Business.
What makes angel capital your best bet? First of all, it is the "most abundant form of capital available," says
Evanson. Second, the amount of capital that most early-stage businesses are looking for-typically $250,000 to $5 million-is exactly the amount that angels typically invest.
"To get angels to invest in your business, you must meet with them because your deal will be consummated on personal chemistry and economics," Evanson writes.
Where can you meet your angel? Try venture capital forums sponsored by chambers of commerce, economic development coalitions, venture fairs, business incubators, professional services like accountants and lawyers, private capital networks, university-based entrepreneurship programs and electronic matching services.
Both Sides Now
Norman M. Some is very familiar with the way angel investors think. He met this company, AbleSoft Inc., as an angel and today is an ambitious entrepreneur seeking capital to take that educational software company to the second stage.
A onetime engineer with Bell Labs, Some was owner of GBC Technologies, a computer product distributor which he built from an investment of $100,000 to half a billion dollars in sales before it was merged with another company. He was introduced by Penn
Janney, a venture capital group, to a small computer software company called MicroLeague Multimedia Inc. Penn Janney invested $2 million; Some put in $250,000.
Looking out for his investment, Some became a consultant to exiting management. "In 1998, we took it over. I came on board. The original management faded out, and we redirected the Company away from sports games," he said. "They had one product, Teacher's Toolbox, sitting unattended while they focused on the sports game. I said, 'That's a winner.'" Some also took the company from public to private
Based in Pennsauken, N.J., and Lancaster, Pa., AbleSoft develops and publishes classroom productivity and educational software. Its flagship product, Teacher's Toolbox, is a software package that helps teachers perform daily tasks; it also owns Rabbits Ears educational entertainment product.
"We're now in the process of raising the second stage of capital. We're looking to raise about $5 million . . . to enable us to grow to $50 to $80 million," said Some, who has contacted a dozen venture capital firms, several of which have expressed interest. "We finished the first year with about $3 million in revenue. We were quite profitable. Not only did we provide a viable product, but we could generate profits."