Small Business

Three Classic Financing Mistakes


Entrepreneurs looking to get a business up and running should make sure they're not enacting one of these scenarios

Securing financing for your business means taking risks and making mistakes. Growth strategies are often fraught with mistakes and misfires. So what are some of the most common strategic errors I've seen fellow entrepreneurs make during my career as a serial entrepreneur, former venture capitalist, and angel investor? Well, you may simply be the wrong executive to pitch a startup. You may have approached the wrong financing source. Or your timing might be wrong to sell via a mass retailer.

Here is my take on how to identify and turn a bad situation around—I've seen the following three real-life scenarios repeated way too many times. (I've changed the names of the entrepreneurs in the examples.)

1. Wrong executive to pitch a startup.

Phil wants to finance and launch a media company. His business plan is top-notch, and Phil is a great guy, but he's been fund-raising for 18 months. He's only trying to raise $300,000 from angel investors, and he knows a lot of them. He hasn't brought home a paycheck in two years, and tension is high in his household. Phil has had a spectacular career starting little companies within big companies. He has solid recruiting and leadership skills, designs compelling products and events that customers want, and can sell management on giving him the budget he needs.

What's broken: I've sat in on a few of his financing pitches, and he just isn't selling his vision when it's to a room full of strangers. He feels uncomfortable, and this appears as a lack of confidence, lack of commitment, lack of passion. The result? No one's buying.

How to fix it: Enough is enough! We've learned a great lesson: Phil can sell his ideas to management, but he can't sell himself as CEO and executor of his vision to strangers. Now is not the time for Phil to be an entrepreneur. Instead he should become an intrapreneur by starting his new company within a larger company. He has a proven track record there, and several large media companies have been trying to recruit him. Maybe he'll be ready to lead a startup later—but now isn't the time.

2. Wrong financing source.

Charles has the opportunity to buy an Asian mobile gaming company with multimillion-dollar revenue for a rock-bottom price. His plan is to buy the company, start a new one with headquarters in the U.S., keep the Asian business going, and localize the games to appeal to an American audience. His target market has not been successfully tapped yet—it's huge and wide open. Charles and the rest of his team are dealmakers but have little operational experience.

What's broken: Charles has been pitching to venture capitalists for almost a year and no one wants in. Why? The deal is too messy. The capitalization table is weird. There's a majority silent investor in the Asian company who owns over 70%, and the rest of the stock is owned by the founder. That's it. Nothing for the employees. The silent investor is fickle, often unavailable, and it appears it'll be tough to get him to approve the deal. The founder wants to stay in Asia and has no plans to relocate to the U.S., yet he wants to be CEO of the American company. How will this work? Who'll manage the American team? Will there be trouble with the owners of the intellectual property in Asia?

How to fix it: Charles should simply pay a fund-raiser to do a private raise for him. He can use a merchant bank, a boutique investment banker, or anyone who specializes in sub-$5 million raises. Messier deals have been financed, and this is how you do it. With the money, justified by the Asian company's reliable and growing revenue stream, he should set up a U.S. corporation and assign all the Asian assets to it. He needs a killer gaming CEO, too, whom he should be recruiting now. The Asian company can be a wholly owned subsidiary, or better yet an engineering outpost of the American corporation. The silent investor needs to sign a binding term sheet now, before fund-raising starts.

3. Wrong time to sell via a mass retailer.

Sue has created a line of amazing skin care products. I know this, because I've tried her moisturizer. It's unlike anything I've come across, and I know moisturizers. She has identified the exact target market, has manufacturing and packaging contractors lined up, but she still needs to get her distribution channels nailed. Her dilemma is whether she should sell via a mass retailer like Costco (COST), as one has expressed interest.

What's broken: Nothing yet, but a break will occur if her company is the flavor of the month at the retailer, and consumers can't find her product in retail channels afterwards. I've seen this happen before, and it's not pretty. Say the retailer buys a zillion pallets of her product, so she ramps up manufacturing and cranks out product. The products are shipped to the retailer, it distributes to a few of its stores and all product is sold quickly (we hope!). Shortly thereafter, customers start to notice the results of the fabulous moisturizer (which Sue was paid little for, as the retailer demands massive discounts) and now they want more. They go to Costco, and it's not there. They go to the drug store/supermarket/(you name it) and it's not there. Meanwhile, what does Sue do with her manufacturing contractors? Tell them the massive order was a one-time gig? How does she predict demand?

How to fix it: I hate to say this, but I think Sue should hold off until she has her distribution nailed. Getting into a mass retailer is a fabulous advertising opportunity—yes, that's what it is—and she needs to have other channels set up to sell her product once her debut is over. Sue's products must be available elsewhere offline so repeat and word-of-mouth potential customers can find them. She can't count on them only buying via the Net.

What's your financing or growth strategy dilemma? Let me know and I'll see if I can help.

Christine Comaford, CEO of business accelerator Mighty Ventures is the author of the best-selling book Rules for Renegades. She invites you to participate in her next QA call by registering at www.AskChristineNow.com. She writes her column on small business growth strategies every other week.

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