Capital. You can't build a successful business without it. Yet many people don't give capital much thought, until they find themselves short of it.
A burgeoning seed industry has prompted many individuals to get in the game - or expand their existing businesses. But where can you find the money needed to make your business grow? If you have little more than a concept, you won't meet a bank's traditional lending requirements. The alternative of self-financing through personal loans, help from friends and family, or dipping into savings, is not always an option.
But with a proper plan, external lenders are often willing to loan "seed money" for the first stages of a company's development. Support for starting up a seed business can even come from industry "angels", as they are described by Mary Lynn McPherson, Account Manager of Agri-Business at Royal Bank. "Due to their industry involvement, they may be able to see value that an outsider can't and come in at the seed money stage," she explains.
Of course, banks remain the obvious and most common source of capital. Bank financing can take various forms, including operating loans, term loans, and mortgages secured against equipment and property, as well as leasing on certain types of vehicles and equipment. Lines of credit are also available and can be useful in bridging cyclical operating shortfalls, and offer flexibility to manage cash flows.
Certain criteria are evaluated when granting credit including the nature of the industry, the management team, and financial measures. The lender will consider cash flow projections, current ratio, debt to tangible net worth and, most importantly, the debt servicing capacity of the applicant.
Unfortunately, often a lack of understanding exists between the financial and seed industries. The cyclical patterns, and reliance on nature can make ventures seem too risky. New seed technology may sound sexy, but lenders are more attracted to processing plants and the traditional areas of the seed industry. "It is difficult to put a tangible value on it (R&D in new varieties), but if it is patented or licensed then it gives it a more tangible net worth," says McPherson.
Ventures
For non-traditional ventures, such as R&D, venture capital funding may be an option. Venture capital typically starts at $250,000. Venture capitalists may receive periodic dividends, but get their big payoff when a company goes public. Naturally, they are interested in rapidly growing companies in innovative areas.
Foragen Technology Ventures Inc. has been a recent addition to the financial marketplace that focuses on encouraging new technologies in agriculture. Murray McLaughlin, President and CEO, is actively searching for three or four more investors to augment Foragen's primary partner, Royal Bank. Eventually McLaughlin expects to have a fund of $30 - 40 million to support the creation of Canadian companies in this area. Foragen will provide the required early-stage venture capital, as well as intellectual property expertise, assistance with preparation of a business plan, and support for company creation and management, in exchange for an equity stake in the business.
Equity
Equity partnerships are another option. As a company evolves, it may be possible to find partners who want to own part of the company, as with the case with some venture capitalists. Venture capital is a form of equity investment. For most companies, the transition from debt financing to equity represents the most significant change in their capital structure.
"Money comes with strings - there is no such thing as Santa Claus," quips R.B. Hallaby, Chairman of AgriCapital Corporation, a private investment banking service for agri-business. "When people put money in your company they want something back." The presence of an outsider on the Board and input from an experienced investor can be beneficial, but an owner who is used to running their own show may resent this "interference".
Unlike a debtholder, equity investors actually become a part owner of the company and receive a return in the form of dividends or capital appreciation of shares because the investment is not secured by any specific assets. In exchange for the greater risk taken by the equity holder, equity investors will demand some concessions, possibly including a higher expected rate of return, a seat on the Board of Directors, and input into the strategic operation of the company.
"Equity and venture capital are an expensive route to go," cautions McPherson, who recommends sticking with traditional financing wherever possible. Halaby agrees, advising small-to medium- sized companies with adequate operating capital from banks have no reason to seek equity financing.
IPOs
Once a company and its capital requirements have grown beyond the scope of other available financing options, an initial public offering may be in order. IPOs involve selling the shares of a company for sale on a stock exchange such as the Toronto Stock Exchange. The shares can be a primary offering intended to raise new capital for the company or a secondary offering where founders and venture capitalists sell their existing shares to the public to realize the gain from share appreciation.
Underwriters provide both procedural and financial advice during this process, as well as buying the issue for resale. They are crucial in setting a price for the shares, which must be low enough to ensure that the entire issue can be sold, but still high enough to ensure the current owners receive maximum value for their investment. With no existing market price for the shares, a fair price must be estimated by analyzing price-earning ratios of competitors and projections of the company's cash flows.
Administrative and underwriting fees can make public offerings an impractical option for share offerings of less than $10 million on the TSE, although offerings of $1 - 5 million are common on junior exchanges like the Vancouver or Alberta Stock Exchanges.
However, a lack of investor interest in share offerings will prevent owners from realizing the maximum return on all the time, energy, and resources they have devoted to growing their company so successfully. "The industry tends to be more cyclical and less predictable, and perhaps of less interest to some investors who like a more sustainable growth curve," says Jacques Sayegh, President of Royal Bank Capital Corporation.
Meanwhile, private placement shares allow a company to raise capital by selling shares under certain requirements, without a lot of the costs associated with public offerings. Generally, shares may only be offered to certain institutions such as pension funds and banks, officers of the company, and a limited number of sophisticated investors.
There is not an established market to facilitate the trade of shares in privately placed companies. The investor will normally demand a higher return as compensation for holding a non-liquid asset, which can offset some of the savings on administrative costs.
First Line Seeds has used private placements in its current capital structure, which now includes 13 producers, 30 employees, and Monsanto Canada as shareholders. In 1998, First Line identified Monsanto as a candidate to not only provide an infusion of capital, but also provide the crucial mix of expertise in soybean research and input/output traits the company felt was needed for continued growth. The process resulted with Monsanto assuming a majority equity position in the company.
First Line required professional advice from lawyers, accountants, and investment bankers to complete the negotiations, but the cost was only a small fraction of the costs compared to an IPO. Peter Hannam, President of the Guelph, Ontario company, is very satisfied with the value received from their professional advisors, stressing the importance of having knowledgeable advisors in negotiating an agreement that they would be happy with in the long term. The professional expertise gave Hannam confidence during the negotiation process. "Here we were sitting down with one of the largest companies (in the world), and we felt we were on an equal footing," he recalls.
More than Just Money
Understanding all the ins and outs of obtaining financing, and then managing those relationships with investors can be a full-time job. As the seed business continues to boom, many in the industry are choosing to obtain outside counsel to assist with the financial side.
Clayton Manness of Man-Agri Capital Inc. specializes in finding venture capital for agriculture- related companies. While he agrees that the company provides venture capital, he likes to think they provide their clients with more than just financing. His experience in the agriculture sector, engineering, and marketing, has allowed him to assist clients commission construction, order equipment, and develop marketing plans.
The seed industry specifically, like the agriculture business in general, is subject to cyclical swings in profitability. "Establishing a relationship with a banker who understands cycles and is committed long-term to agribusiness is paramount," advises Halaby.
Hannam agrees. "We have looked for seed expertise when looking for financing. I don't think we'd have been able to finance our rapid growth if we had been dealing with someone in a downtown bank office. We needed someone who understood the business."
Careful capital management is a critical, intricate process - even more so in the early days. Halaby credits an associate with some sage words of advice. "Run a seed company like a poor man and you will become rich. Run it like a rich man and you will quickly become poor."
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