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The proof is in the pudding.

Also: Financing sources for your business--a primer

Ronald Stern knew his company had the right ingredients for growth and expansion: a quality product with a recognized name in a high-growth market.

He also knew North American Laboratory Co. in Indianapolis--which makes food products under the names Menu Magic and Chef's Companion--would need some financing in order to realize some of the growth it was capable of achieving, but he was in no big hurry. Then one day last spring, something happened that many businesses can only dream about. The phone rang, and it was a couple million dollars calling.

Actually, on the line was a representative from CID Equity Partners, an Indianapolis-based venture-capital fund. "They had heard about us and liked the market we're in," says Stern, North American Laboratory's president and CEO. "I didn't pay much attention at first, but once I met with them, I found they're truly dynamic individuals."

CID is the state's largest venture-capital fund. It was launched in 1981, and it focuses its investments on Indiana companies. Last spring and summer, CID set out to raise more money to invest, and wound up with $49 million, about $9 million more than it was seeking.

The venture-capital fund tries to involve itself in a variety of business situations. It will help family-owned companies recapitalize so they may boost liquidity without selling outright. It will help operating managers acquire the mid-sized profitable companies where they work. It will help start-up companies whose products have proven market potential. And it will help finance expansions at established companies.

That's the type of arrangement it sought with North American Laboratory Co. The company was doing well with its Chef's Companion food-service products, and Menu Magic was a well-respected name among care-givers trying to feed people with special dietary needs. Among other things, Menu Magic offers fortified products for people who don't eat enough, products low in fat or sugar, and products for people who have trouble swallowing. Items take the form of pudding, milk shakes, ice cream, cheesecake, even Italian chicken and other main dishes.

The products are sold mainly to institutions, but, as Stern notes, the majority of people who need them live at home. So a long-term goal at the company has been to move into the retail market. That, of course, requires development of retail-type products and retail customers, and plenty of money.

The infusion of $2.1 million from CID, Stern says, "allows us to pay attention to going to the next level or two, much sooner than we would have been able to do previously."

But as valuable as the capital has been, Stern says North American Laboratory Co. was especially interested in CID's other resources. "We had not been thinking of seeking outside financing, but this group lent more than just dollars. It gave us a partner willing to share and be a part of our ongoing business." For one thing, CID now has a seat on the company's board.

Indeed, as The Wall Street Journal noted in a recent examination of Midwestern venture-capital funds, one reason CID has been so successful is that it draws heavily upon the experience of its big corporate investors, which include Cummins Engine Co., Ball Corp. and Eli Lilly & Co. CID makes a point of working closely with the companies in which it invests as they develop business strategies.

It's been a great arrangement for all involved, but few businesses are fortunate enough to have capital knocking at their doors. Most have to do the seeking themselves. Following is a primer for those whose small businesses need a financial boost.

BEFORE YOU LOOK

Whether you need money to start a business or boost an existing one, you'll need to design a plan that will answer how much money you need, how you'll use it, how it will benefit your business and how you'll repay it.

According to George Dawson, author of "Borrowing for Your Business," there are only four uses for borrowed money:

* buying assets

* replacing other loans or credit

* replacing an equity investment

* paying for expenses needed to create new revenue.

Likewise, there are only four ways to repay money:

* by selling off assets

* with another loan

* with additional equity

* with excess cash flow from profits.

If your business plan shows that you need the money to cover unpaid receivables or that your profits have been slowly declining, a potential lender or investor may think that you have a larger problem that needs more than simply an injection of money. Explain how you will correct problems and make the company profitable again. This plan will not only help you secure financing, it will be your guide for a successful venture.

WHERE TO LOOK

Determining the right funding source will depend on how much you need, how you plan to use it and how long you've been in business.

Patient capital--This refers to those types of sources who would likely be a little more patient with you if you could not repay the money as scheduled--such sources might include yourself, relatives or friends. This type of financing is most common for a start-up venture. Show your sources a professional business plan with realistic financial projections. Seek legal assistance if you offer stock to make sure that you comply with federal rules and regulations even if the sources of money are friends and relatives.

Banks--Loans, whether from a bank or other type of lender, fall into the category of debt financing. The loan can be short term or long term, depending on the need. A short-term loan usually lasts no longer than 12 months, and could be used for financing receivables, inventory purchases or other short-term needs. A long-term loan is for larger purchases, such as equipment, real estate or other fixed assets.

Banks are not high-risk lenders. They tend to be conservative with their depositors' money. An existing business will have a better chance of receiving a bank loan than a start-up company. However, that doesn't mean that fledgling companies never secure bank financing. According to a survey by Inc. magazine, 30 percent of the surveyed companies had received start-up money from banks.

If you decide to go to banks to obtain financing, they will base their decision on three main factors: your cash flow, collateral and equity. Even if you qualify in the areas of cash flow and collateral, you may not be accepted for a loan if your debt-to-worth ratio exceeds 4-to-1.

Venture capital--As opposed to debt financing, venture capital is equity funding for high-investment and high-growth companies. A high-growth company would be defined as one that could provide a return for the venture capitalist or venture firm in a 3- to 7-year period, either through the sale of the company or a public stock offering.

Usually, venture capitalists or venture groups want to invest a minimum of $1 million, though you could ask for an amount as low as $50,000 and still find investors if you provide a strong plan that demonstrates fast growth at a high return for the investor. Keep in mind that a venture firm may require a large portion of your company's equity, and may want a position on your board of directors. If the equity holding is large enough, the venture firm or investor could force you to sell your company to realize a return on investment.

Credit from suppliers--Look to people who will have the greatest interest in the success of your business: your suppliers. Whether you have a start-up venture or an existing one, suppliers and potential suppliers will want to sell to you. They may be willing to offer credit terms for purchase of their products. As you establish credibility and show that you pay their bills on time, higher credit limits may be available.

Leasing--Rather than taking out a long-term loan at a bank to finance an expensive piece of equipment or to purchase a building, consider leasing as an option. While ownership of the asset remains with the leasing company, one of the advantages of leasing is that you can finance as much as 100 percent of the cost. This allows you to keep other funds that otherwise would have to be put down as equity if you were to buy the asset and finance it at a bank.

Franchising--If you're thinking about expanding your business but have trouble raising the capital, consider franchising your business. Through franchising, you expand to other locations, but the franchisees pay for the expansion. Depending on your goals as a business owner, this option might be an attractive one to consider.

Local programs--Many counties have local financing programs, such as revolving-loan funds, for the businesses in the area. Ask your local Small Business Development Center consultant about the programs in your area. To find the SBDC in your area, call 317/264-6871.

Factoring receivables--Factoring may be a good alternative for young companies who have repeat business with creditworthy customers. Factors buy your accounts receivable at a discount and profit from the difference between what they pay you and what they collect. The older the receivable you have to sell, the less they will pay you for it. If you don't qualify for less costly financing, you may be able to use factoring until you become established.

State funds--The Indiana Business Modernization and Technology Corp.--which used to be known as the Indiana Corporation for Science and Technology--offers financial assistance for new and developing technologies and other commercialization and expansion purposes.

SBA programs--The U.S. Small Business Administration offers a variety of loan programs to small-business owners and potential owners. Although some extra paper work may be required for these types of funds, the government has significantly eased that burden in order to make the programs attractive to both lenders and borrowers. Here are some examples:

* Direct loans from the SBA are offered on a very limited basis, and the maximum amount that a company can borrow is $150,000. Direct loans are currently offered to selected disadvantaged groups. Contact the SBA for rules.

* Guaranteed loans are available through commercial banks. Companies that do not meet conventional bank lending guidelines may qualify for 3- to 7-year term loan financing for amounts of $25,000 to $750,000. Generally, the interest rates for guaranteed loans are in the same range as direct bank loans, with a limit of 2 percent over the national prime. To qualify, the company must meet equity and debt repayment guidelines.

* Surety bonds are available to small and emerging contractors who cannot find bonding elsewhere. The contracts can be used for construction, supplies or services.

* The 504 Loan Program is a long-term, fixed-asset financing program for small companies. The owner must have at least 10 percent equity in the proposed fixed-asset purchase. The SBA, through a certified development company, will guarantee up to 40 percent, while a commercial bank will provide the final 50 percent of the loan amount. The minimum project amount is $125,000, and the company must show that the project will create new jobs.

* Seasonal line of credit provides short-term financing for business owners who are experiencing seasonal cash needs.

* Energy loans are available to businesses involved with specific energy measures.

* Handicapped assistance loans are given to physically disabled persons and to private, non-for-profit organizations that employ handicapped persons and operate in their interest.

* Physical disaster assistance aids businesses that are recovering from officially declared disasters.

* Pollution-control financing is used as a long-term, fixed-interest financing for the planning, design and installation of pollution-control facilities or equipment.

* Small-business investment companies, or SBICs, supply venture capital in the range of $100,000 to $500,000, and sometimes more. The funding is normally equity financing, but it can also be a combination of debt and equity financing. SBICs will have the same requirements as venture capitalists, but generally do not want to control the company. SBICs in Indiana include: Cambridge Ventures, 317/469-9704; Circle Ventures, 317/636-7242; 1st Source Capital, 219/236-2180; and LYNX Capital Corp., a minority-enterprises SBIC, 317/469-9704.

Grants--Yes, there is "free money" available, but don't get too excited. In truth, companies rarely qualify for grants, and when they do, the money usually is meant to be used for research and development of products. Despite the myths circulated on late-night television, it's wise to remember the adage that if it sounds too good to be true, it probably is.
COPYRIGHT 1993 Curtis Magazine Group, Inc.
No portion of this article can be reproduced without the express written permission from the copyright holder.
Copyright 1993 Gale, Cengage Learning. All rights reserved.

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Title Annotation:venture capital financing in Indiana
Author:Spilker, Kim; Kaelble, Steve
Publication:Indiana Business Magazine
Date:Jan 1, 1993
Words:2067
Previous Article:The perils of small business: Indiana insurance companies and agencies focus on small-business risks.
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