Hold 'Em

Challenges Of Borrowing Money

Capitally Constrained

After failing to raise equity for one business plan, after moving her family from Chicago to San Antonio, after putting her house up to secure a loan, Witheridge was an entrepreneur. "There's no gentle way to get into the water," she says. "You've just got to get in, but it's cold."

The water metaphor took on a whole new meaning when Witheridge took over Garden-ville-just before a major flood. Everything washed out-roads, phone lines, electricity. "We had to start over with everything," she says.

With an eye on making payments to the seller and the bank, Witheridge and her team feverishly went to work. Garden-ville had over $3 million in sales but had been generating losses and needed to pay debts. They streamlined product lines, ended unprofitable contracts, and trained sales people to focus on products that added to the bottom line. Says Witheridge, "I thought I'd have the time to do all this once the capital was there. But we had to hit the ground running. We had no margin for error."

Three years later, Witheridge is philosophical about financing. "I may own equity, but I'm still paying off the previous owner. Even now, we are capitally constrained. But I have the confidence now we can make it on our own. It could be a 'grass is greener' situation, but I often wonder what we could have done if we'd raised equity financing. I'm sure we wouldn't have found our way to the efficiencies as quickly."

Pros And Cons

Each method of raising capital comes with its own joys and sorrows. Here are just a few:

Equity
Pros:

  • Investors share your viewpoint because they take the risk with you. They get their reward when you do when stock price increases.
  • If additional equity is needed to grow, early investors usually have extensive contacts and can help raise the needed capital.
  • Investor cash can help attract top-notch management teams.

Cons:

  • Founders give up a percentage of their companies' ownership.
  • Owners lose some operational control of their companies, and the outsiders even have a say over the founders' salary.
  • Companies can get into the "more where that came from" syndrome, always looking for investors but never making a profit.

Debt
Pros:

  • There's no dilution of ownership; original owners keep it all.
  • As long as the debt payments are made, the original owners give up no operational control.
  • The company turns a profit sooner because owners must make cash to serve the debt and have access to additional credit.

Cons:

  • Not all companies have access to debt financing; lenders want collateral in land, equipment, or a patent.
  • If the company doesn't make payments, it loses everything.
  • Growth is limited to internally generated cash flow, or additional credit based on the company's profitability.
  • Lenders want equity and convertible debt dilutes ownership.

 

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This article was originally published in the July 2000 print edition of Entrepreneur with the headline: Hold 'Em.

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