Important Elements in Growth Capital Formation

Posted on: September 21st, 2022

growth-capital

Growth capital is the lifeblood of business scale ups, yet many business owners lack an understanding of the basic steps involved in a growth capital raise. Many entrepreneurs overfocus on the vision at the expense of capital formation yet capital access is where the rubber meets the road. The first step in growth capital formation is to clearly define your capital need and to integrate it into a market-based loan structure.

By investing time on the front end to understand the different types of lenders, you increase targeting efficiency and increase the probability of a closing. Do you have an extensive inventory and need an asset-based lender to scale, or do you have breakaway EBITDA and need a cashflow-based lender to support the growth? Invest time on the front end to educate yourself with respect to the prevailing market options and loan parameters. Understanding the different types of loan structures and which best align with your growth capital need is critical to running an efficient process. Lender targeting accuracy and lead generation is important to ensure you have the right type of lender and proper number of prospects.

Due to lender selectivity, the average hit rate is less than 10% which means you must go to at least 10 lenders to get one growth capital lender to say yes. Most middle market companies have but a handful of the right type of lender prospects for their deal and need expert assistance to build a strong lender prospect list. The quality of growth story articulation is paramount to growth capital formation success notwithstanding the fact it is frequently overlooked by companies. The company’s superiority should be clearly expressed in objective and relatable fashion wherein the lender can quickly get a handle on why the business is special.

The scale-up story must be rooted in a demonstrated growth track record of customer and product success. Showcasing a strong reputation builds your trust in the eyes of the lenders and establishes your credibility as a financeable prospect. The growth plan should flow continuously from an existing strength such as a specialized product or a sticky customer relationship. The quality of the story and the professionalism of your communication to the lender matter greatly. The stronger the narrative framework and presentation, the higher the impact on the lender which leads to lender enthusiasm for the deal.

In the acquisition financing arena, capital availability is destiny as companies require reliable access to capital to grow over the long term. Unforeseen capital needs usually arise when acquirers least expect it. This can cause some concern for the acquisition financing provider, especially when covenants tighten up and that working capital availability is utilized faster than expected.

Mezzanine debt borrowing is usually a straightforward activity that many companies use for funding of transitional growth. Mezzanine debt lenders are highly transparent about their due diligence approach and their post-closing loan management making it easy for companies to engage with.

Elections have consequences and positive ones at that for the acquisition financing middle market. While much media attention is paid to the direction of the yield curve and the Fed’s likely rate cuts, scant attention is paid to the more important drivers of the acquisition financing market – business psychology and regulatory climate.