Finding cash for your business: entrepreneurs who are shut out by bankers and venture capitalists can stay in the game by finding alternate sources of financing.

Karen Tappin Saunderson has been an entrepreneur ever since she was a college student putting together gift baskets for parents to send to their children. While working as a high school teacher in New York, she continued to sell the baskets at selected times of the year in shopping malls.

"One year," says Tappin Saunderson, 29, "my husband, Damani, and l put together spa gift baskets with shampoos, scrubs, fragrances, and so on. The response was overwhelming. As a result, in 2004, we rented retail space nearby and opened Karen's Body Beautiful." The couple used $45,000 of their savings to finance their new boutique, but they came up a few thousand dollars short. They couldn't afford a kitchen in the new space so they had to prepare their products at home and carry them around the corner.

"Fortunately," says Tappin Saunderson, "we were able to get a micro-loan, which paid for a kitchen on the premises. Not only has this made our lives easier, but our new kitchen has become a huge draw. Our store is something of a local tourist attraction, where people come to watch us work, and they usually buy something when they're here."

A new kitchen may not be the answer to every business owner's problems but an appetite for more capital is a familiar feeling. This appetite, though, is often hard to satisfy from traditional sources. Bank loans can be difficult for African American entrepreneurs to snare without adequate collateral, proven cash flow, or good credit history. Thus, small business owners frequently are forced to turn to expensive credit card debt or friends-and-family financing, which can create touchy, personal problems.

Those aren't the only financing alternatives, however. BLACK ENTERPRISE takes a look at three nontraditional sources for raising money: micro-lending, angel investments, and accounts receivable financing. These alternate sources of funding can provide crucial cash as long as entrepreneurs know the true costs of accepting what seem to be pennies from heaven.

MICRO-LENDERS

As the name suggests, micro-lenders make very small loans to emerging companies. A micro-loan helped Tappin Saunderson make her move away from home-brewed products. "I saw a newspaper ad, went to a one-day workshop, and was assigned to a group," she recalls. "Some of the group discussions helped me with marketing and publicity ideas. I applied for a $3,000 loan, which I used to pay for my in-store kitchen."

The new kitchen, Tappin Saunderson reports, helped business so much that she was able to repay her $3,000 loan early. "I have since received another loan, for $5,500, which I used to increase my inventory and ramp-up for Christmas."

Tappin Saunderson obtained her micro-loan from Project Enterprise, a micro-lender that supports and develops entrepreneurs and small businesses in underresourced communities in New York City. "We don't require collateral and we don't do credit checks," says Arva Rice, executive director of Project Enterprise in New York. "We've made over $500,000 worth of loans in seven years, with a 93% record of current repayment."

Instead of traditional credit criteria, Project Enterprise relies upon a "peer lending" approach that originated in the villages of Bangladesh. "Groups of entrepreneurs get together to discuss each other's companies," says Rice. "They share experience and expertise, and then eventually recommend one of the group members to get a loan. They have an incentive to make good recommendations because a default by a group member will reduce the amount we'll lend to others in the group."

Such success stories are common among Project Enterprise's borrowers. "They go to group meetings, either monthly or biweekly, where they get real help with their businesses and with preparing loan applications," Rice says. "Loans are generally meant to be repaid in 12 to 18 months at 12% simple interest. As the loan balance declines, so does each monthly payment." To see if there's a micro-lender in your area, go to www.microenterrpriceworks.org.

The Small Business Administration has a MicroLoan program that makes funds available to nonprofit, community-based lenders that, in turn, make loans averaging $10,500. (The maximum is $35,000.) To find local intermediaries working with the SBA on this program, go online to http://www.sba.gov/financing/sbaloan/microloan.html. According to the SBA, participating lenders generally require some type of collateral and the borrower's personal guarantee. Some micro-lenders, not necessarily working with the federal government, have other policies in place.

ANGELS

An "angel" is a wealthy individual willing to invest personal money into a business with growth potential. Wiley Mullins, who runs Uncle Wiley Inc., in Fairfield, Connecticut, found an angel who provided almost $250,000 on the strength of an improved business plan.

"I had received some SBA loans," recalls Mullins, 46, a Procter & Gamble marketing veteran who started his spices-and-seasonings company in the early 1990s. "I was looking for more money in order to expand, but I didn't find much interest among venture capitalists when I told them I had a food company."

In 1999, though, a magazine article about Uncle Wiley helped attract the attention of a winged backer, a New York financier who prefers to remain anonymous. "Before I received the money," says Mullins, "I worked with this angel on strengthening my business plan." In effect, he repositioned the company.

"We sell ingredients that can be added to foods such as collard greens, sweet potatoes, and kale," says Mullins. "Our products bring out all the flavor of such foods so you don't have to add bacon or other high-fat items. Therefore, my new business plan treats Uncle Wiley as a wellness company, a theme we carry through on our Website. This is a much more attractive concept for investors."

The angel has a 10% equity stake in the company and receives dividends on those shares. "He doesn't try to tell me how to run the business," Mullins says, "although he has put me together with other influential people, which might lead to more financing in the future. I send him regular reports to let him know how we're doing."

Uncle Wiley, Mullins reports, is doing just fine. "Because of the angel financing," he says, "we were able to expand our product line, repackage our products, and launch a massive public relations campaign. We're now selling at Wal-Mart Supercenters, in all of its districts, and we're expanding in the food service industry. Uncle Wiley has become the largest ethnic spice brand in the country."

"Your typical angel is a person who has made money as an entrepreneur and wants to reinvest some of it to help new companies succeed" says Dan Mitchell, a consultant to entrepreneurs in New Haven, Connecticut. "Sometimes, they want to take a hand in running the new company. Typically, angels look for a solid market, good management, and a sound business plan."

According to Mitchell, angel investments are often in the $1 million to $3.5 million range but they may be much smaller. Terms vary considerably from one transaction to another. "There might be straight equity deals," he says, "with the angel receiving common stock, or the angel might get stock options. In some cases, the angel might make a loan, which calls for repayment, and also receive some equity in the company. There's a lot of flexibility in the way these arrangements are structured." In the end, though, angels want to fly away with returns far in excess of those from safer investments.

"Generally speaking," says Mitchell, "angels are looking for annual returns of 16% or more with a payout within five years. That payout could come from a public offering or an acquisition by another company. If it's a family business that the owner has no intention of ever selling, an angel might not be interested."

Mitchell tells of one entrepreneur who came to him with a company that was barely in business--about $25,000 in annual sales. "He wanted $1.5 million in financing. I knew of an investor who was interested in this business area--homeland security--so I arranged a meeting. They negotiated for about six weeks before coming to terms. Ultimately, the angel agreed to invest the $1.5 million, with $250,000 upfront. The rest was scheduled to be paid according to a performance contract."

That is, additional financing would depend on certain goals being met. "Sample products had to be created," Mitchell says, "demonstration kits put together, and so on. The last two payments of $250,000 each were based on meeting revenue objectives." So far, the process has been under way for two years and the company is probably a few years from being a buyout candidate, but annual sales have reached $10 million and the participants in this deal are "all smiling," as Mitchell puts it.

If such success appeals to you, proceed with caution. Mitchell's "No. 1 tip" to business owners seeking angel financing is to check out the credentials of the would-be benefactor. "Most people holding themselves out as angels are legitimate," he says, "but some are not. Some of them just want to steal your technology, so they can do the manufacturing themselves, or steal some other type of intellectual property."

To find an angel who'll bless your venture, Mitchell recommends starting with the Kauffman Foundation at www.emkf.org, as well as your local small business development center.

ACCOUNTS RECEIVABLE FINANCING

"About 75% of our customers come to us from a bank referral," says Jerry Pavlas, CEO and chairman of Presidential Financial Corp. which is located in Tucker, Georgia. "They don't qualify for bank loans, perhaps because they lack collateral or have a short operating history."

Pavlas says his firm will go over a would-be borrower's books and records to see if there are any red flags, such as an IRS lien. "If there are no problems, we will lend money against all the accounts receivable or against selected receivables. Generally, we lend around 80%." That is, a company using $50,000 worth of receivables as collateral would get $40,000 in cash right away.

"Our P.O. Box number goes on those receivables, so the borrower's customers send their payments to us. In addition, the borrowers continue to generate new receivables while receivables that pass the 90-day mark are usually considered ineligible. We net out all of those events and tell borrowers how much credit they have available each day."

Pavlas says that borrowers use his company's services for an average of 30 months. "Most of them have built up their finances and their operations so they qualify for traditional bank financing by then." However, not all users of accounts receivable financing are in for the short-term.

"We've been working with Presidential Financial since 1997 and we continue to do so," says George Lloyd, 48, who runs G.D.L. International, a telecommunications company in College Park, Georgia, that does construction and installation, mainly for cable TV. "Even though we've grown to the point where we can get bank loans for equipment purchases, we still borrow against our accounts receivable for cash flow."

According to Lloyd, this relationship began when he was a subcontractor offered a general contract for the first time. "I received $50,000 in cash that I needed to proceed with the contract," he says. "Such loans have helped my company grow to become a multistate operation, with 20 employees." G.D.L. International works with about 60 subcontractors now, so its business has become more complex.

"To our customers, it looks like the payments are going to us," says Lloyd, "yet we're relieved of having to handle collections. Not only do we get the fast turnaround and the liquidity we need for payrolls, insurance, and so on, we also get accounting support. A quarterly audit, for example, makes sure that we've paid our payroll taxes. Altogether, considering the services we receive, we have found that borrowing against our accounts receivable costs less than borrowing from a bank in the short-term."

Technically, there is a difference between accounts receivable financing, where you get a loan that's secured by paper you're holding, and "factoring," in which you sell your receivables at a discount. Either way, you get faster cash flow from work your company already has performed. And in both cases, you'll pay a price. Such expenses may be worth incurring if you have few other financing options.

"In a pinch, you can use these techniques when you need money right now," says Lloyd C. Grant, publisher of the New York-based The KIP Business Report. "They're expensive, though--you might wind up paying 4.5% a month. In some areas, you might be able to find a nonprofit organization that charges much less, say 1.5% a month. Check to see if there's a local business opportunity center."

DIVINE INSPIRATION

Lloyd says that business owners usually are better off if they can find angel financing, rather than incur the high costs of accounts receivable financing, month after month. "Some entrepreneurs are reluctant to look for angels because they think an angel will take control of the company. In truth, angels generally don't want to run your business. They're looking to get involved in an interesting project and have a chance to make a large return on their investment. Even if an angel gets some equity in your company, you can remain in control." What's more, an angel may provide know-how as well as cash.

"You might be a great baker," says Lloyd, "but not a salesperson. By teaming up with an angel who knows marketing, you may allow your business to grow much more rapidly than you anticipated."

According to Lloyd, angel financing can be a more practical goal for a small-business owner, compared with venture capital. "Often," he says, "venture capital comes from groups who want to make large investments, especially in sexy areas such as high-tech." Small companies in other industries, though, may have a chance of attracting an angel.

"There are many capable individuals who are interested in being angels," says Lloyd. "They might be willing to make investments as small as $30,000, if they like your business strategy and relate to you on a personal level. A potential angel may ask more questions about your background and your beliefs, less about your projected profits and your credit score."

SOMETHING VENTURED

In some situations, private equity firms and venture capitalists also go where angels are willing to tread. The National Association of Investment Cos. is the industry association for investment companies serving an ethnically diverse marketplace. NAIC (www.naicvc.com) offers a Private Equity Link service to help entrepreneurs find equity capital. For a nonrefundable fee of $250, company information is posted for 90 days, during which time NAIC member firms can review the opportunity, contact the entrepreneur, and, if interested, begin the process of making an investment.

The community development venture capital industry, which includes over 100 members, explicitly supports companies located in low-income and distressed neighborhoods.

"Traditional venture capital funds tend to focus on a limited portion of the U.S.," says Kerwin Tesdell, president of the Community Development Venture Capital Alliance in New York City. "There's a focus on certain types of companies, especially in high-technology fields, and a desire to make very large investments."

"Our members have the same focus on potentially strong investment returns," says Tesdell, whose organization acts as the trade association for this group of venture capitalists, "yet we are willing to make an extra effort to look for deals in early-stage companies in urban and rural areas. In particular, we focus on companies where there's a potential for job creation." As is the case with most venture capital arrangements, support as well as money is provided.

"We are very involved in helping the businesses in which we invest," says Tesdell. "We may take a seat on the company's board, help to develop new markets, and line up other financing."

A list of the various community development venture capital funds can be found at www.cdvc.org.

With all of the financing options available to small businesses, a well-run company with a well-reasoned business plan need not run short of cash. Even if traditional banks and venture capitalists turn you down, there are plenty of other capital ideas.

debits & credits

Here is how some financing techniques stack up:

Traditional Bank Loans

Pro: That's where the money is

Con: Collateral and a long record of profitability might be required

Venture Capital

Pro: Some community VC firms target urban and rural areas to promote job creation

Con: Host traditional VC firms focus on making very large investments in high-tech industries rather than back small, low-tech startups

Alternative Techniques

Micro-Loans

Pro: Entrepreneurs might be able to borrow small sums that other lenders won't consider, sometimes without collateral or a credit check

Con: Loan size is limited and the process may be time-consuming

Angels

Pro: Financing arrangements can be very flexible as angels often provide knowledge as well as capital

Con: Not only can angels be hard to locate, they need to be investigated by entrepreneurs seeking to protect intellectual property

Accounts Receivable Financing

Pro: Accelerated cash flow

Con: Costs may be considerable

--DJK