In this article, Mayank Garg who is currently pursuing Diploma in Entrepreneurship Administration and Business Law from NUJS, Kolkata, discusses How to find investors for a small business.
Introduction
There are various types of Industries in the economy, i.e. manufacturing or service industries etc. Each of them requires finance accordingly and the decision of financing the business varies from situation to situation. Small enterprises are defined in various legislations in India and each legislation has its specific objective to clear and give the meaning of small business. According to MSMED Act, 2006, Small Enterprises, where the investment in plant and machinery is more than twenty-five rupees but does not exceed five crores.[1]
Finding Investors is a major task for an entrepreneur for his business plan as not everyone is interested in investing in small business. Investors always require a blueprint for securing his investment that communicates ideas and information. In India, venture capital financing takes place in very rare situations. Only a very few high-growth plans with high-power management teams are venture opportunities. By the regulations under the RBI, banks are not allowed or supposed to invest depositor’s money in new businesses. Furthermore, a business plan don’t sell investors but investor must be convinced on security and profitability point of view that their investment is worth something.
It must be planned that what is the financing ratios of the business and proper SWOT analysis must be done from the side of entrepreneur and the investor both. Investing at wrong place will be futile.
Methods of getting investment
Venture Capital
As it has already been established that venture capitalists are not willing to invest in small businesses, the business of Venture Capital must not be misunderstood. Many start-up companies or entrepreneurs feel bitter about venture capital companies for failing to invest in new ventures or risky ventures. The businesses of venture capitalist are to charge investment of general public’s money or some other’s money. It shouldn’t be thought of as a source of funding for new business small business but for exceptional business plans.
There must be extreme solid business plan to get investment of a venture capitalist. To gain the interest of venture capitalist it is important to assure them regarding their investment to be increased as soon as possible and management of the company.
On the side of Venture Capitalist, he must take care of the situation as a whole while investing in any business.
If any entrepreneur is keen to get investment in venture capital, he must assure possible venture capital opportunities. People in these businesses probably know the market situation in a systematic manner.
Starting from this, an entrepreneur must search the internet for venture capitalists. Examples of searching the venture capitalists are given below:
- The Western Association of Venture Capitalists publishes an annual directory. This organization includes most of the California venture capitalists based in Menlo Park, CA, which is the headquarters of an amazing percentage of the nation’s venture capital companies.
- Pratt’s Guide to Venture Capital Sources is an annual directory available online or in print format.
- Angel Investors and Others
Small businesses only resort to get finance is not venture capitalists but other investors as well. If any business doesn’t get investment from venture capital; this does not means that his business plan is a failure. He can invest from other sources as well. Angel Investment are other sources for small business to get investment.
Angel Investment, these are typically sophisticated investors and are considered highly knowledgeable regarding the industry as a whole. These are individual Investors which are keen to invest in the market and especially small businesses.
In 2013, SEBI instituted a mechanism to regulate angel investors. The policy reason behind this is since small business investment is extremely risky, it is in general interest made only by the investors who have high knowledge regarding the industry and aware of the consequences of their investment.
If the investment is made by an individual, it will be governed by SEBI (Investment Advisers) Regulations, 2013and specifically been made on the basis of investment advice. On the other hand, if the investment is made by the pooled investment, i.e. people come together and join their money and a pool of investments are created then the SEBI (Alternative Investment Funds) Regulations, 2012 will be applicable.
Many Angel Investor networks are merely a group of angel investors coming together so that they can have access to small business and investment opportunities.
Commercial Lenders
Banks are less interested in start-up businesses and are also not supposed to grant loan to them but they are very much interested in investment in small businesses. By the provisions laid down under federal banking laws, these commercial lenders are not allowed to invest in businesses (small and start-ups) as it will be against public good, equity and good conscience. Government by virtue of RBI Act prevents these investments by banks because society, in general, does not want banks taking savings from depositors and investing in risky business ventures, as the money is not of
Government by virtue of RBI Act prevents these investments by banks because society, in general, does not want banks taking savings from depositors and investing in risky business ventures, as the money is not of bank, it is public. There is no person in the country who want their bank to make such risky investments and it goes completely against public interest.
Apart from this, federal regulation provisions want banks to keep public money safe, in very conservative loans with proper and valid securities. Why then it is said that bank investments are more likely source of financing companies? All this is so because small business owners borrow money for their business for meeting their day to day expenses and fixed investment from banks. After in coming into existence, company generates enough capital to be kept as security with the bank that the investment from banker’s side is safe. There are various ratios determined by Finance department and Accounting Standards so as to decide whether the investment in particular business must be made or not.
Initially, the personal security of the entrepreneur is the medium to get security for their loans and after that only loan is approved. Hence, personal equity could be termed as the greatest source of small business financing.
Small Business Administration
These are appropriate for investment in small as well as start-up businesses. SBA loans are often done through local banks. There is a requirement of at least one-third capital be invested by the business owner or entrepreneur for start-up businesses and rest of the amount could be guaranteed by personal collaterals. For small businesses, if they have enough security that they could put as collateral to the bank then there is no controversy as they can keep those with the bank and get their loan sanctioned.
Banks need to check the type of business activity and the Accounting Standards so s to decide the loan amount to the small business owners. Proper stock and a green slip is issued to the small businesses as the proof of the stable financial position of their businesses.
Apart from this, bank can also interfere in the administration of the business because they are the money lenders o creditors of the company and in the loan agreement only, it must b clearly mentioned the rights of the creditor and liabilities of the company. So as to secure their investment, bank can also make a time to time survey on the business governance. If any complaint is filed by any person in general interest regarding the investment by the banks, the bank may also look into the situation and grant a green chit that could be served as a valid proof of stable financial position of the business in courts
Other Lenders
Various other lenders such as account receivable specialists, family members, friends etc. could also finance in the small businesses which may or may not be against account receivables.
“The most common accounts receivable financing is used to support cash flow when working capital is hung up in accounts receivable. For example, if your business sells to distributors that take 60 days to pay, and the outstanding invoices waiting for payment (but not late) come to $100,000, your company can probably borrow more than $50,000. Interest rates and fees may be relatively high, but this is still often a good source of small business financing. In most cases, the lender doesn’t take the risk of payment—if your customer doesn’t pay you, you have to pay the money back anyhow. These lenders will often review your debtors, and choose to finance some or all of the invoices outstanding.” [2]
The situation of business need to be completely examined and the risk point along with return on investment also must be taken care of. It would be better not to invest in any business if he risk point is high. There is a say “More risk- more profit” but risk must be calculated and money could not betted as anyone cannot afford to lose. The reason why the U.S. government securities laws discourage getting business investments from people who aren’t wealthy, sophisticated investors. The situation and economy by them cannot be fully analyzed and risk could not be calculated by them properly. If any parents, siblings, good friends or any other relative get ready to invest in your business, they have paid you an enormous compliment. Although you don’t want to rule out starting your company with investments from friends and family, don’t ignore some of the disadvantages. Go into this relationship with your eyes wide open.
Analysis
Private placements, angels, family and friends must not be taken as a good source of investment just because it is easier to get money from them but its implication is that they can provide money only up to a limited extent and it would be difficult for the business to invest and also limits the scope of growth. India, as a developing economy seeks to grow at a pace and for this schemes like Make in India and other schemes launched on 31st December, 2016 are launched just to support and encourage small businesses to develop in the country.
Some investors are also the good source of investment for small businesses and some are not. Entrepreneur must keep their eyes open while making investment in any businesses. It is immaterial that the investment is made by any family member or friends, business must be kept aside to personal relations. There is no family member in business deals. Legal compliance like due diligence, proper contract drafting and terms and conditions must be drafted in a proper manner so as avoid conflicts with nay of the investor. There is no point investing any one’s money without compliance of provisions or without first doing the legal work.
“Never spend money that has been promised but not delivered. Often companies get investment commitments and contract for expenses, and then the investment falls through. Avoid turning to friends and family for investment. The worst possible time to not have the support of friends and family is when your business is in trouble. You risk losing friends, family, and your business at the same time.”
Conclusion
Starting a business is a great opportunity and there must be various new start-ups that the country could grow and GDP rate of the country increases. The prospect of offering a new product or service to the world, designing one’s own future, and creating a legacy are why many people step into the world of business. Yet, there are many mundane facets that must be addressed. One of these is obtaining the requisite funding to begin the business or to facilitate growth.[3]
Reference
[1] Section 7(1)(a)(ii).
[2] Business Articles, https://www.business.com/articles/7-ways-to-finance-your-first-small-business.
[3] Getty, Staff Inc., http://www.inc.com/guides/2010/07/how-to-finance-your-business.html, 30/03/2017.
