Venture Capital

Smaller amounts may be available in special cases, but is often easier to raise �5m than it is to raise �500,000.

This usually means a compound return of at least 20 to 30 per cent per annum on their investment. Most of this return will be realised as capital growth.

Your management team needs to have a successful track record.

You need to show commitment.

In practice, venture capital firms usually measure this in terms of personal investment. They are likely to want a significant part of management�s personal earnings to be strongly linked to business performance.

All key personnel must be contractually tied in on mutually agreed terms.

For example, an advertising agency will find it difficult to secure venture capital if key creative people could leave.

Most venture capital firms provide expansion financing.

This allows an already successful company to achieve the next stage in growth by, for example, increasing capacity to meet demand or developing new products.

Finance is often provided for management buy-outs (MBOs) and management buy-ins (MBIs). An MBO allows an existing business to be acquired by its current management team. With an MBI, an external management team buys in.

Some exceptionally promising start-ups can attract venture capital to finance their development and marketing costs.

A trade sale to another company.

Refinancing of their investment by another institution.

A listing of the shares on an exchange, such as OFEX, AIM or the Stock Exchange Main Market.

Repurchase of the venture capital firm�s shares by management.

You will have to generate the cash needed to make the agreed payments of capital, interest and dividends (see 3).

Specific legally binding covenants will be included in the investment agreement to protect the venture capital firm.

For example, you may have to agree to limit the amount you are paid or to be prohibited from involvement with other companies with conflicting interests. You may be required to obtain the venture capital firm�s approval before making certain major decisions.

The venture capital firm may require a nominated representative on your board, typically as a non-executive director.

This director may want to provide hands-on management if things are going wrong but will usually only be involved in strategic decisions.

The venture capital firm will expect regular information and consultation to check how things are progressing.

For example, monthly management accounts and minutes of board meetings.

You will need professional advice (see 6).

You will usually be required to pay the venture capital firm�s costs.

It is not unusual for business performance to decline during this time as management is distracted. This should be addressed.

Failure to agree a price or other key terms.

This is especially common when several investment firms join together (syndicate) to provide the necessary finance.

Legal problems cannot be resolved.

Trading performance declines substantially during the process of raising investment.

Ordinary shares are cheap for the company to finance in the short term.

Dividends can be zero (unless the investment agreement specifies otherwise) but may be a contractual share of profits.

Negotiations over the proportion of shareholding that the venture capital firm receives for an investment can be long and difficult.

You will tend to value your company, and thus your shares, more highly than outsiders will.

Unlike debt, preference shares protect you against having to pay out cash while the company is making losses (for example, while you are entering a new market).

You are prohibited by law from redeeming (repaying) preference shares or paying dividends on them unless the company has generated sufficient profits (distributable reserves) to do so.

Debt is usually secured against specific assets (eg your premises or debtors).

If the company is unable to pay the capital repayments or the interest on time, the lender can sell those assets. This may cause the company to cease trading.

Usually you borrow from a bank, rather than from a venture capital firm. But some firms can provide loans, leasing and hire purchase as well as equity finance.

How much other capital do you have access to?

Could you raise finance by other means?

For example, by selling and then leasing back property or other assets.

What level of capital and interest payments (and preference share dividends) can your cashflow support?

Involve an accountant or other professional adviser (see 6).

You must have evidence to support your financial projections. This includes details of your assumptions and how sensitive your projections are.

Your accountant or corporate finance adviser may know suitable firms.

The BVCA (www.bvca.co.uk) publishes a directory of members and a guide to raising venture capital. The directory lists each member�s preferred investment amounts and industries.

It is most productive � but not essential � to approach them through a professional adviser who has previously worked with the venture capital firm.

Prepare a concise executive summary of your business plan � typically no more than six pages � to circulate to them.

Confirm that they have some interest.

Do they make investments of the amount you seek in your type of business?

Send them your business plan and arrange an initial meeting.

Prepare a concise, persuasive presentation.

Roughly what percentage of the company will they expect to own in return for their investment?

What requirements will the investor probably want to impose on you as an integral part of the deal?

Will they want to supply finance in a lump sum or in stages, increasing investment as the company reaches specific targets?

These include their professional costs for due diligence (see C).

All their costs should only be payable in the event the investment is completed.

Financial details. For example, the real value of your assets and liabilities; how realistic your profit and loss forecasts are; how good your financial controls are.

Legal details. For example, whether the business is involved in any litigation; what the key supplier and employee contracts are; whether the business has clear title to its properties and any intellectual property.

Key business factors. For example, what the business trends are; how well the business is managed.

The terms of the investment. For example, how much finance will be provided, in what form and what rights investors will have.

Warranties confirming that information which you have provided is true. If the business later fails and it is proved that you gave misleading information, the investor will usually have the right to claim compensation from whoever provided the warranties (typically you).

Indemnities, where you agree to accept liability in certain circumstances. For example, if the company is sued in regard to pre-existing contracts.

Service contracts that tie in key members of management and staff.

Your existing firm of accountants may have a partner who is a genuine corporate finance specialist.

(Corporate finance includes both buying and selling companies and raising finance for them.)

Otherwise, you can use an independent corporate finance specialist to work alongside your existing accountants.

Ask existing business contacts and advisers for recommendations. Confirm what the specialist�s areas of expertise are.

Appraise your project and advise whether you should proceed.

Help draft a business plan.

Introduce you to suitable venture capital firms and help you with the presentation.

Help with the financial side of the due diligence process.

Help negotiate valuations and costs.

Advise on the financial structuring of the deal and tax implications.

Help close the deal.

These might include service contracts for key employees and conflicts of interest in the case of management buy-outs.