Quilesha L. Patterson, CBOM, CSSBB, CTS, CPM, MBA
A business plan has a critical role in starting and growing a small business. When writing a business plan, it is important to know your audience. Throughout my career, I witnessed too many entrepreneurs shot down by investors not because of their bad ideas but for their bad business plans. Their business plan was not poorly written, per se, but they failed to write their business plans in the right "language,” so investors can see their visions.Like banks, investors are looking for five (5) key points in your business plan, called the 5 C's: credibility, capacity, collateral, capital, and conditions. This article will dive into the minds of investors and how they really "see" your business idea and plan.
1.Credibility:For most business owners, one challenging aspect of writing a business plan is whether to reveal or conceal their challenges or weaknesses. A quick way to turn off investors is to tell them that your business idea is “foolproof” or a “guaranteed success” without any solid evidence of your claims. Every business owner and business opportunity have risks or weak spots; the key is not to become so infatuated with the business opportunity that you cannot, will not, or do not see the warning signs, investors call this the “blind spot.”
The influencing factor of credibility for investors is not so much your age, but more importantly your knowledge and experience. You will need to know and understand the industry you plan to enter, as well as the finances and operations of the small business you hope to launch. There are three (3) business paradigms or personalities small business owners possess:
- Technician personality – experienced at doing what needs to be done
- Manager personality – experienced at knowing how it needs to be done
- Entrepreneur personality – experienced at knowing why it needs to be done
Most business owners have a dominant personality, which can make the business unbalanced in its mission and vision. A business owner should strive to balance all three personalities by seeking help and guidance, thus giving the business owner -and business- the opportunity, the freedom, and the nourishment to grow and flourish. Consequently, I cannot stress enough the importance of quality research, especially if you lack business experience because it proves to investors that you were objective when you established your business plan. I find some business owners tend to think that it is taboo to address the business risks and exit strategies in their plan because they believe that talking about it is admittance of failure. On the contrary, investors view objectivity as an assurance that you are starting and operating your business with "your eyes wide open" and not solely relying on gut instinct or feelings. Investors are not overly concern about the mistakes you will make as a business owner, but they are concern about what contingencies are in place when that time comes.
2. Capacity: Naturally, every business owners expect to be profitable. However, some often have unrealistic expectations on how to accomplish this. Investors will NEVER invest in a startup or “young” business that cannot, will not, or do not prove reasonable confidence to them that they will, at some point, recoup their initial investment, plus a sizable return on investment; to achieve this, your business plan should include pro forma (forecast) balance sheets, income statements, and cash flow statements at least 3 to 5 years, as well as cash flows budgeted monthly for the first year and quarterly or yearly afterward. A business owner must use industry standards and three financial projections to develop his or her financial statements objectively:
- Realistic forecast:What will most likely?
- Optimistic forecast:What is the best-case scenario?
- Pessimistic forecast:What is the worst-case scenario?
Although pro forma financial statements are forecasts of a company’s future, take heed that the projections should be supported by well-substantiated assumptions and explanations of how the figures were determined. Projections are immediately suspect if profit margins (profits ÷ sales) or expenses are significantly higher or lower than the average figures reported by firms in the industry with similar revenues and number of employees. In general, new businesses should not expect to exceed the industry standard in profit margins. Business owners frequently assume that as their company grows it will achieve economies of scale, then gross and operating profit margins will also improve. In reality, as the business grows and increases its fixed costs, its operating profit margins are likely to suffer in the short run. If you insist in your projections that the economies can be achieved quickly, you will need to explain your position in your plan clearly and concisely.
3. Collateral:I have heard many inspiring business owners justify their reasoning for seeking investors is because they do not want to use their own money to finance the business. The sad reality with this statement is: neither do investors, thus killing the business opportunity before they even had a chance to read and/or hear the business owner’s plan.
You need to realistically and conservatively forecast what and how much resources needed to determine the amount equity you need to fund your business. For most investors, the general rule is that they want you to have at least 10% to 20% of the total costs (depending on the industry and economic conditions) as collateral. To the investor, your collateral assures that you and your business is not a high-risk investment with a higher probability reaping a return on their investment; additionally, it shows that you are willing to take strategic risks in your business first, thus minimizing the anxiety of taking the jump with you.
4. Capital - This one goes with the third “C” to your business plan. You need to tell them plainly what resources you do and do not have, then tell them what, why, and when you need it. If you are seeking capital from investors, it is important to include an offering into your business plan. Include tables to help convey and break down your sources of financing (equity and/or debt) and how and when these funds will be used. Typically, the amount of money being raised should carry the business for 12 to 18 months (depending on industry and economic conditions), which will give the company enough time to reach some profitable milestones.
While being undercapitalized is rarely, if ever, a good decision, the goal of a business owner should be to minimize and control, rather than to maximize and own resources. To the greatest extent possible, a business owner should use other company’s or people’s resources-for example, leasing equipment rather than buying, negotiating with suppliers to provide inventory “just-in-time” to minimize tied-up inventory, and arranging to collect money owed to the firm before having to pay its bills. This is called bootstrapping and it’s one of the most common ways business owners can accomplish more with less.
Additionally, a company’s life-cycle is a critical factor in raising capital! I have to tell you the truth: typically, larger and matured businesses have a greater chance of getting bank loans than smaller and younger businesses. Therefore, many smaller and younger businesses tend to rely more on personal loans and credit cards for financing the startup of the business; this is another form of bootstrapping used to help establish the track record you need to convince bankers and other financial institutions that your business is creditworthy (refer to #1 Credibility).
5. Conditions:Again, I will be very clear, investors are not in the business of making charitable donations, they expect something in return. However, unlike lenders, investors cannot demand more than what is earned. Meaning, creditors can force a company into bankruptcy if they failed to honor their financial obligations, but investors must hold out for more favorable results.
Raising capital through equity financing would mean giving up a percentage of the firm’s ownership. However, do not be deceived, not every investor is all the same just because their money is green. Some investors looking for a win-win deals while others like to prey on business owners who have little financial experience, do not read the agreement terms,or are simply desperate for a deal. So, before you seek investors, you need to learn what investment terms make sense for your business and outline your terms in the business plan, rather than relying and waiting on investors to tell you the conditions. To make an informed decision, a business owner needs to recognize and understand the trade-offs between debt and equity regarding the following 3 factors:
- Potential profitability for the owners
- The company’s financial risk
- Voting control of the business
In conclusion, if you are not gifted in writing these areas of your business plan or you need to build more "business cred,” you should:
- Find industry experts that will help and mentor you,
- Take some business classes,
- Research credible websites to help you develop your business contingencies, and/or
- Visit your local SCORE (Score.org) or SBA (SBA.gov) offices for free business advice and resources.
Quilesha Patterson is owner of Straight Path Solutions LLC and has successfully written many business plans, proposals, and strategic plans for many of her clients in various industries and sectors for over five (5) years. If you want additional assistance with writing your investor-focus business plan, you can contact her at (210)446-9434 or www.Straightpathsolutions-sa.com
