Capital is key to success
Thursday, July 5 2012
ENTREPRENURS know that raising capital is a key issue in building a successful enterprise. In the beginning, the main contributor is usually the founder who puts up his savings. Many start with as little as a few thousand dollars.
Gordon “Butch” Stewart, the Jamaican founder of Sandals Hotel chain got his first taste of business when he took his saving of US$3,000 and invested in Fedders air-conditioners. This was back in 1968 and of course that kind of money was worth a lot, it does showed the risk that an entrepreneur must take with their hard earned savings.
There are two types of capital that an entrepreneur should know about; debt and equity capital. Entrepreneurs must know how to mix and match these to achieve their business goals.
This type is the one that you borrow. There can be several sources and the easiest one is turning to their friends and family. This might sound as a hard sell but many famous entrepreneurs have done it.
Fred Deluca borrowed US$1,000 to start a sandwich shop in 1965 from his friend Peter Buck. Deluca was struggling to make ends meet and trying to make fast food healthy yet tasty by serving sub sandwiches. He was successful and today Subway is the largest chain (in terms of number of branches) in the world.
After the business has gotten off the ground, the founder can now go to the bank for more financing. Commercial banks are generally not supportive of early stage ventures. They are asset based lenders and require collateral. NEDCO is more supportive of entrepreneurs and can lend up to $250,000. Credit unions also can act like banks; they do not understand the benefits of assisting members to achieve financial independence. I have yet to find a credit union that is “entrepreneur friendly”.
Equity capital is invested capital from the owners of the business. This is also called risk capital and does not have to be repaid and does not attract interest. It is also called patient capital; the business is not burdened immediately by paying back its contributors, it can help a fledging enterprise develop faster than if it had a fixed commitment of principal and interest.
There can be several sources of equity; personal funds, acquaintances, angels, venture and the stock market.
Jeff Bezos founder of Amazon.com got an initial investment from his parents of US$300,000 to start the company. It was reported that when he asked his parents for money to start the on-line book seller, his mother enquired from him what the internet was about. Despite their ignorance, they became billionaires. His mother would later say they invested in Jeff not in Amazon.com.
If you want to achieve growth, equity from angels can help. They are normally entrepreneurs who have extra cash and see little gain from putting their funds in the bank and getting one percent interest. This is an informal and yet undeveloped market in Trinidad.
Venture capital, while it is big in the developed world, it is still has to get off the ground here. This capital is normally a precursor to going public. Before Google went public they had raised $25 million in venture capital to improve their operations. They went public (IPO) five years later with a market valuation of US$1.67 billion. Some venture capitalists had expressed doubt this was a good investment. Founders, Larry Page and Sergey Brin, now have the last laugh.
Having an Initial Public Offering (IPO) has many advantages. You now have access to an almost unlimited patient capital market. Despite this many companies have not gone public. The Trinidad and Tobago Stock has just over thirty companies listed. Many large local companies that compete against their global counterparts have shown no interest in going public. This puts them at a disadvantage since; their cost of capital is higher.
The government has a number of state “enterprises” that can be listed on the exchange. Enterprises might not be the word since under private hands they will do better. Why should government own a commercial bank (FCB), a quarrying company (National Quarries), and a mutual fund company (UTC) etc?
Third Tier Market
The 2012 budget introduced an interesting change to the operation of the stock exchange.
The legislation was amended to accommodate a Third Tier market. Currently, large companies with a minimum initial market capitalisation of TT$4 million can list on the First Tier and companies with a minimum initial TT$2 million market capitalisation can be listed as Second Tier.
According to the new legislation, SMEs (Small and Medium sized Enterprises) that have a minimum capital base (share capital and retained earnings) of TT$4 million but not more than TT$25 million and have a minimum of 25 shareholders can list. Apart from other advantages of going public, there is a tax benefit of 10 percent compared to the corporate rate of 25 percent for the first five years listed on the market.
According to Wain Iton, CEO of the Trinidad and Tobago Stock Exchange (TTSE), there are several advantages of going public. Speaking at the Trinidad and Tobago Chamber of Industry and Commerce forum on “Small and Medium Sized Enterprise Market”, he says some are a better price and liquidity for shareholders and the benefit of a company reducing its debt/equity ratio. With this change in listing requirements, will we see a rush to the Third Tier market? While there are many benefits, the culture is going to be hard to change. SMEs and family enterprises tend to be super-secretive about their finances and operations.
The public accountability is one area that SMEs shun. This might just keep SMEs as SMEs and a big obstacle to further national development.