Sunday, July 19, 2015

The Right to Self-Government

This article first appeared on on 22 September 2014.

So after quitting your job (and your boss) a few years ago, you started a business and after much blood, sweat and tears it is now stable. You are able to draw a modest salary. You live in a modest home. You drive a modest car and your kids go to a modest school. The only problem is you that didn’t work this hard to have a modest lifestyle.

The business is ready for that giant leap, and more importantly, you are tired of the ‘modest’ life and want to sit at the big boys’ table. Of course, your business would need a fresh injection of capital to fund any growth. This means getting an investor. The only problem is that you would need to give up a share of your business to someone else.

After all those long nights and near-bankruptcy moments you are now expected to give up a sizeable part of your ‘little baby’ to some stranger. To make matters worse, you probably have to sell down at a price lower than your version of fair value (because we all think our businesses are worth much more!).

Worst of all, though, you are now getting yourself a new boss. Well, at least that’s what it feels like. Someone else, other than yourself, you now need to consult with and account to.

You start thinking: “Perhaps this is not such a good idea after all. Perhaps I should just stay with my small business. At least it’s all mine. At least I retain my autonomy. At least I remain my own boss.” If this sounds familiar, do not despair. You are not alone.

The Oxford Dictionary defines autonomy as “the right or condition of self-government” and or “the ability of a person to make his or her own decisions”. For nearly every entrepreneur, the thought of bringing in an investor means giving up the ability to make their own decisions. To many this essentially means they now have a boss, which goes against every grain of their entire plan – namely to be their own boss.

The consequence of this outlook is that the entrepreneur then stumps the growth prospects of their business, driven by this fear of losing autonomy. They resist an injection of fresh capital and fresh ideas that have the potential to transform their small business into a sizeable operation.

Most times, entrepreneurs are scared of losing ‘control’. They are scared of losing the ability to decide when, how and with whom they do business. Ask most entrepreneurs if they would want a funder who takes equity in their business or a funder who lends them debt, and they will tell you: “Lend me your money. I pay you back. You get out of my life!”

Of course, many entrepreneurs don’t meet the basic requirements of most lenders of debt. First, most don’t have adequate security. Second, most cannot display healthy and reliable future cash flows to service and eventually settle the debt. Very often then, the only people willing to take the leap of faith in the aspirations of the entrepreneur are investors who bring with them good old expensive, but patient, equity.

But is there any reason to be fearful? Does getting an investor really decrease your autonomy?

As far as I can see, the JSE’s largest businesses founded by entrepreneurs are still controlled by their founders. This is notwithstanding the fact that many of these founders now own minority equity stakes and have boards and shareholders to consult with and account to.

I am told that Brian Joffe (and Mervyn Chipkin) founded Bidvest in 1988 with an R8m cash shell. Today it is worth R85bn. According to my calculations, Joffe owns approximately 2.3% of the business. He has been CEO since inception and is likely to retire as the firm’s CEO. Other than transactions of a certain size and nature that require shareholder approval, Joffe essentially runs the business in consultation with his board.

What autonomy has Joffe lost by listing his business and selling shares to institutional investors? Compare that to what investor capital has allowed him to build over the years – it’s chalk and cheese.

The same can be said of Discovery’s Adrian Gore, Aspen’s Stephen Saad and many others.

So, dear entrepreneur, in the real world, at some stage, you probably have to give up some equity to investors. It’s the basics of risk and return. You are probably a very risky investment right now and anyone who comes in and puts their money at high risk will seek high returns.

So stop being “penny wise, and pound foolish” and work on attracting value enhancing investors into your business. Be realistic about what to expect and what you are willing to give up as a return. To sober your own expectations, approach a boutique advisory firm to do a valuation of your business, on the basis of selling a minority stake. This will help give you a sense of the value a potential investor may place on it.

Selling equity to an investor who will add real value to your business does not necessarily spell the loss of autonomy. It may very well result in astonishing success!

Don’t Write The Business Plan, Do It!

This article first appeared in the 11 June 2015 edition of Finweek.

For the right reasons, many funders require entrepreneurs to write a detailed, congruent and bankable business plan. The plan ought to articulate the product, its market and how the entrepreneur will go to market and generate consistent positive cash flows to repay the borrowed funds and create value. This logic works well, except for one problem: a business plan is exactly that: a plan.

Nobody, not even the most passionate entrepreneur, can guarantee that what the plan says will in fact be. It would be useful if both the entrepreneur and the funder had more certainty that the idea in the business plan stood a greater-than-normal chance to gain traction with customers and succeed. If only there was a way the plan could be proven before the entrepreneur invests the countless sleepless nights and the funder commits millions of rands.

Most people start by writing a business plan, or even worse, get a consultant to write it for them. They then take the business plan to a funder, who lends funds on the strength of the plan. Eventually, armed with a plan and some funds, they go out and start the business.
Seems logical? I don’t think so. Why risk all that time, effort and money on something that may turn out to be a bad business idea and a waste of lenders’ funds?

Why not follow the same process, but in reverse.

Instead of starting by writing the business plan, why not start by doing the business plan and write it later?

In his book The Google Way author and management consultant Bernard Girard, who had been analysing the company since its founding in 1998, writes, “had the leaders of Google followed the rules and undergone the typical venture capital rite of passage, they would have written a business plan that laid out a detailed financial model showing how they would make money and how long to would take to make a profit for their initial investors. They did nothing of the sort. Instead, they started by creating user demand and only then did consider how to generate income”.

In doing the business plan, you will learn, very early in the game, the key challenges in sourcing raw materials for your product, your key suppliers, what affects their pricing, the external factors, including foreign exchange rates, interest rates, and commodity prices as well as ways and means to manage their volatility.

On the demand side, once you start selling, you will know and experience first-hand whether customers are prepared to pay for your product.

After a few iterations of manufacturing, promoting and selling your product, you will be in a much better position to pen down a plan for your business. You will be more enlightened to the risks, the competition, customer preferences and also the right price point. You will know intimately what customers value in your product, why they will choose your product over your competitors. Essentially, you will write your SWOT analysis from first-hand experience not from googling your competitors like many do.

Most importantly, you will have the confidence that your business idea actually works and you can prove it.