Segment 3 - Debt or Equity - Which is right for you?
Dead versus equity biggest issue, which is right for you for your specific situation. Now I'm going to put ourselves all and I know you have some active businesses here that air generating money from customers. We love that, but I also know you may have some expansion ideas where you need a little pile of a cash to build your business further. So in those circumstances, all the sun, your expenses may be growing within your business again, right? Or if you're a startup entrepreneur, we've lost the tea here some thiss it'll come back, um, you're starting here before you have customers and that operating cash flow, aren't you at the highest point for possibly running out of cash and going out of business? It's when your risk is higher to you personally, once you get your first customer, your chances of going out of business drop when you reach the milestone of cash flow break even your risk of going out of business traps again. Why? Because you are not the only person funding your busines...
s, you or investors. So if you are looking at a business that has a long term product development life cycle that a much longer time to achieve these same milestones, I would favor equity over death let's go back, remember dead, they want money. An interest and principal right coming back to them, which does what forces you to hand over a little bit of your operating cash to your lenders so shorter time periods returning that cash into new customers, you might favor debt. The longer it takes you to get new customers in to start generating at that extra source of cash, you favor equity questions on that. Does that make sense? So mixologist had right debt equity? You can use a little bit of both. This safer way to go is equity when there's a long horizon more than a year, certainly, if it's more than a year, go equity. If you think you can take five thousand dollars and immediately turn out a new product or a service in generate cash, then you might look at the range of debt opportunities that we're going to be covering in the next segments. But this is your magic moment. This is when you are the top boss of your future. Making the right call on this will determine whether you're taking the easy road or the much harder road to success. Don't make it harder, don't add more burdens, cash burdens by taking in too much debt. If you have a long term horizon to getting your first customer the longer out, the more you should rely on equity investors, the bigger the idea the more capital of my take rely on equity investors, and I know and we're going to go through this and bigger in other segments we're going to talk about specific businesses where the founders absolutely had no cash to invest in their companies but had monster big ideas, so nobody out there or in this room should say, oh my gosh, my ideas to big home saying is let's, just turn to equity investors and then get them in the fold but don't go to lenders even if you think it might be easier to secure that if that customer is not coming in a paying customer a profitable customer so it takes the burden off you does that make sense black and white? The longer time, another way to look at it loan proceeds went to favor debt loan proceeds hate your checking account, you spend those proceeds, it may be new marketing initiatives, right? The foul it the faster it hits the customer and generates the customer where more money comes back to you in a relatively short period of time favored out. And this can happen right where you don't need to sell an equity stake in your business. But if it's a fast cycle a fast cash cycle favor dept because the cost of that interest rate and then we're going to be shopping for the lowest interest rate possible right so it's the least cost to you if it then in turn brings in more customers that you bring at a profit, this is the way to go everybody looks so serious right now I think it's a lot of information of people have done the end jason into question and question a moment ago when last chart at the last moment you said first, uh, he said first paying customer or first profitable customer? Well, if you're selling to a customer, that's unprofitable ditched that customer really black and white if they're not profitable, I don't care who they are you don't have it, you're not helping yourself by selling to somebody and there are times where it's best to fire the customer because it hurts you it shouldn't cost you cash to lose money, so I like it best with paying customers that are profitable customers. It must be both some customers are going to take longer to pay their bills and others, and I want you to ratchet that back wherever you can because the faster you get the cash back, the less interest you have to pay to support that, and sometimes you have to kick out a customer andrew if if you need more money for longer in the beginning but then it turns around after the first company customer, how do you ration the debt versus equity finally beginning I want to know how much are we asking him for? Are we talking about twenty five thousand or a million right to get you going to that first customer? Because sometimes people could have unbelievably profitable ideas that take a little time to get going and then they never need equity again in a very little amount of debt if at all so I really my goal is to keep start up entrepreneurs in business so again I go how long and how much cash is at risk if you borrow fifty thousand dollars and that first customer comes in what profit are you getting from that customer, eh? You can start to do your projections ok? How much is each customer kicking off and if you can pay off that debt and say it's a one year loan were a five year loan you can evaluate g I can pay off that dad maybe I don't need that equity however usually people make the wrong call here's the one thing I can count on it we do have a bonus document all about projections tips some projections um in twenty years in the venture finance community here's the one thing I can count on all projections will be wrong no matter what he present toe lenders or investors all projections will be wrong how were they wrong? I'll tell you revenues are overstated expenses are understated guarantee it so if you're making the call, right? What? We don't know this is the wild card it's how fast that first customer is coming in the door? What did I just say? I'm betting that you're going to say it's going to come in before it actually does? So if it is a close call between debt and equity and you're out there pretty far, certainly over a year favor a little bit of equity, you may not need a lot of equity. I want you to stay in business remember what I said at the start of the workshop, companies with growing customer base is completed, awesome products, wonderful brands go out of business because they're out of cash. I don't want you to run out of cash, so if in the first year you bring in a little bit of equity because it's a little bit safer, it may be five thousand dollars it maybe ten thousand dollars, it may be worth it to buy you a little bit of extra cushion until you know with certainty how fast those customers air coming in. So, adam, if you're expanding your education business into new locations, you're taking on a little bit of obligations, maybe for facilities, right? Unless youse finagle something where somebody gives you something facility space. You don't ask you don't get right there maybe sing community centers that just want you where they are, right? But you don't know how fast that marketing is going to kick in this customers or maybe when teacher doesn't work out as well as the other all right, equity maybe that first you know, to get the recipe going like, ok, we have perfected our model for this education center now we know a little bit with greater certainty what marketing programs with this works out and you might end up opening more centers more quickly because you had a little bit of equity cushion and then you can use debt in that circumstance to fund cash flow of operations. But if you're starting up developing testing, those are the verbs that to me leads you to a little bit of equity over debt and then once you're rolling, don't sell that or equity. I want you to start turning to shopping for the lowest source of cash that you can pay off for use when you need to houses sit with you, andrea good because I understand that how it breaks down when you're comfortable and when did you get started and get that right recipe going, you don't have to give up this much of your business well, you can negotiate your equity stake could I want to make sure you stay in business so as you're rolling out new things and some things will work and some things won't who's, your better funding partner, somebody who's impatient versus the risk takers who already appreciate that some things will work and some things won't, but they're who's most aligned to what you're doing at that moment, and it is going to give you the flexibility to get it right. You're shopping for your funding partner who shares your outlook for what you're getting funded at that time. So, again, those words testing developing liege it's there once your sister wants your company is very secure in customers coming in, then instead was playing ball and seeking out the right debt to just stretch out your cash a little bit. Lenders are risk averse, so at that point you're more risk adverse to because you've got that cash flow. So remember that cocktail you're playing with operating cash, maybe a little debt, a little equity and as your business advances, your cash cocktail is just stepped and operating cash from profitable paying customers. Everybody's not nobody's disagreeing with is anybody really immigrations coming here just to clarify that you touched on this a little bit, but time capsule wants to know if we already have customers, how do we know if we should be using equity versus death? Okay, and the customers are paying their bills that sounds like an time capsule tell me what kind of business season where she may have to get some feedback back that way question telling a time capsule of great yeah, if you can chime in with what kind of business you're running now if you've got customers, I imagine time capsule wants to get more customers, right? Is he trying to get more customers through an entirely new product or service or continue to same sell the same product or service? If it is the same product or service and he wants to sell more customers doing what he is doing now, I bet there's going to be a a source of debt that we're going to talk about in these segments that's right for him? If he is pioneering some new products and services that made to require some extra cash to get going, we might, depending on what kind of industry it is, favor a little bit of equity knowing more about his expansion plans. Does he need equipment to get the job done? Does he not? That would help me give a better answer to him is the answer yes, they're selling decorative baby, baby and wedding time capsules it gives category oh that's the people I'm guessing is going to be okay again, I would say let's, stay with us and let's learn about the sources of of debt and equity and I would love at the end of all the segments I bet time capsule will know the answer to that question all by herself that success that's what we are guaranteed to everybody that they will know by the end of all these segments which is best for them for their circumstance graph it yeah how about that for confidence yeah any other questions you know I think that before when you were talking about negotiating that kind of struck a chord with the chat room and people were just want to know what's a good way to practice your negotiation tactics oh, that is wonderful question you can start out in front of the mirror but I want everybody usually in most cases on lender agreements as well as investor agreements you don't have to sign at the moment people hand to a document you know act like a judge leave the room go read the documents right that will create the space and the best environment for you to read carefully and say ok here I'm going to now ask for this I'm going to now ask for the next thing so leave the room find a quiet space and read through the terms and there's a segment coming up that will start listing the terms so you can create a charred okay this is the interest rate ok? This is the fi they're asking for up front okay, these air, they guarantee restrictions. Okay, let's, look at this. They want an audit now I'm not doing an audit. I'll do a review. Boom, boom, boom! And when you've liste, um and it's easier to take ownership of it and say what I'm asking for is something fair and reasonable for our business. So if the lender is saying, you know, we want annual audits, so you know, that would put a big burden on our company's operations. We already have stellar accounting. We do our income tax turns on it, you know, in a very predictable way. You've seen your systems. You don't really need that. Okay, may not be okay, but you're making a good argument where you can say, how about this? What if we just offer you a quarterly review and then in the second year we go back to doing it this way? So sometimes is just shaving a little bit, dialing it back and in the process. And you come into the meeting with the lender with your list and you practice it in front of the mirror, or with a friend or somebody who is accustomed to has alone already from a bank and let ask your friend who already has a loan for back, how did you negotiate? What did you ask for? And here's a great thing when she do it the first time it's addictive because when you get a deal turning your way it's like buying this great shoes at a discount you go, you've got to go for the next ones, you know? So the first time you get something your way, I guarantee you're coming in with a longer list. I think the hardest part is knowing what you can ask for what you should expect when you do that, you know, it's uh, I'm thinking about buying a car when before I buy a car like a lot look att the manufacturer's suggested retail price and know that I can go down from there, so I know some of my limits, but going to some of the lenders, I'm walking into, uh, an area that I have no expertise in, so I'm not sure where the boundaries are, so here's some things in learning expectations what we're doing in these segments is learning more about their expectations first, so if you're making a proposal, you already know their risk averse, you already know, and in a later segment we're going to go through specific sections of you know how to present your business in different ways to different types of lenders it's kind of like you're shopping, but you already know what they're most likely to agree to and then you negotiate within that thing if you're asking for a million dollars from a bank of america for your start up, you're going to get enough right it's not what they do so we're going to match what you need the cash for so for example, we're going to be talking about micro loans it is my favorite place for people if they want a small equipment loan so let's say you want to buy a new video camera for your business we're going to turn to a microloan first before the big bank because it's more what they dio right? So part of it is targeting the amount of cash you want with those sources of debt that do that amount right versus if you're asking for a five hundred thousand dollars big mortgage on a big facility, my car loans are not going to be that they're great for maybe up to thirty five thousand maybe one hundred thousand right? So it's partly targeting and presenting yourself in your information more about what they like to hear about so you're going to talk about your customers and how good payers they are toe lenders and to investors you're going to talk about how customers the speed of customer growth speed of customer growth scares lenders speed of customer growth excites investors okay faster return favor depth ok, I want to point out because lenders this is part of what they expect lenders talk about cash flow why this what you they don't care so much about you know they care about your customers and revenue growth they care less about pre tax income why? Because that's not what pays them back cash flow cash flow cash flow is what they're going to want to hear about because that pays their interest and their principal obligations and is simply right there on your piano so if you want a master for making presentations so lenders they're going to talk about the word cash flow okay? Okay what's tricky about cash flow I'm hearing some product businesses here and this is where lenders can help you make an easier way to generate your cash flow if for example you are sourcing materials for your product I think we've got some toys let's face it a lot of the toy production comes out of asia I negotiated some of this stuff out of china you have to buy your raw materials are the product and pay for it it's then shipped to you you said you wanted then eventually sell to retailers maybe it's a toys r us maybe it's a wal mart they may not pay their bill back to you for six months after you soldier product of retail right? So even though the difference in cash flow when you book a sale to a customer it hits your piano and everybody loves a new sale but cash flow is driven by when you're paid so lenders are going to ask you to kind of do a different form of projection that's really based on when customers pay you how's everybody with up they can help finance this that's what they're there to dio but it starts with you being honest about when you're going to get paid if you can get down payments I love it I love online businesses that air subscription model you know even think about the old magazines you pay up front for a year's worth magazine's we love that so as you're negotiating with customers, the faster you get paid, the easier the cash burn on your company and the more lenders will love you, they pay attention to that. Okay, we are at the point where I want to hear from the audience. What would you like to get funded? And do you have any questions? Is it a toss up between debt and equity? I want to hear from everybody I know I want to know for your expansion plans here. Who's favoring equity, you're favoring equity, ok, tell me why why are you now thinking equity is the way to go for your business? Since I don't actually have the business at this point, it would be complete in investment for the future it's probably your plus before there's anybody paying for it before it's ready to go ok, so there's certainly wouldn't be any cash would come in to pay back lenders right? That's it you got it you got it right there but again just because you have a big idea I don't think you can't pursue it with equity kind of seems scary but it's very possible to dio why are you thinking equity now? Because you funded credit cards you went deep on credit cards before but you paid it back but now you want to expand? Why are you thinking differently today? I think it's also a strategic for me now maybe bring on someone with a different skill set as well so not just getting cash from them but also getting a different skill set that they can implement the business as well great when it comes to expansion someone that knows marketing better than I do again if he's better at marketing and replacing cash to table two I think could make a more strategic approach to the entire business and growth. What are your thought? I want that I want uh um the the product that I have with denson pilots on it and we're getting a tremendous response on it and I know that once I could get some advertising once I can get some visibility out there and to have people know exactly what we're offering it's going to take off and so the cash flow is not going to be a problem once we get people to know what we're doing and insisting and if you're taking on debt especially as your when I hear take off I love that you're turning to dead but in mastering your cash I want you to pound your customers fast payment that is got to be part of your thinking that all your customers pay their bills on time no more than thirty days for your type of business oh very definitely I have a very, very good record of people paying immediately and within a very short time and you know the one thing about your business if you fix let's say it's a nun believably beautiful building and you go in with your labor, your materials, your time and you fix all those scratches you restore that building what's the motivation for the customer to pay you back fast because they want to be able to call me back to do the next job, okay? But I want a down payment I do for anything over a thousand dollars I insist on it least twenty five percent before we walk in the great great just to lock you in that minimizes your cash because if you have to play your own employees every two weeks and they you no matter what you've got to fund that that's coming to you the employees plus the tax obligations, right? A very wise person said jan, you're not a bank. Yes, you can borrow, but it cost you money. Get it from your customers. That's the cheapest source of cash. Get it up front from your customers wherever you can, not all businesses can. I'm sure when you sell to toys arrest, you know the big order, they're not going to pay you, especially on your first sale. It's likely that they're going to give you a consignment contract, meaning they only pay will pay you after the inventories all sold. Otherwise they can ship the goods back to you, right? Especially in first orders for big retailers. Questions, comments, people looking for a chance to answer your question, tiffany anis saying she really wants to grow her product line to hire some branding and marketing help and take on larger wholesale accounts. If that's what she's looking for with the extra funding? Yeah, and time capsule says we need funding for marketing to increase sales. We have strategic partners approach for equity. They could take us to the big box level, so I guess I would be in for doing more equity. Okay, good, all right, so some future segments, I hope time capsules therefore