The Other Colors of Money

If banks and VCs are out of your financial picture, don't despair. These 3 alternative sources of capital could provide the funding you're looking for.
Magazine Contributor
10 min read

This story appears in the July 2004 issue of Entrepreneur. Subscribe »

Even with all the venture capital choices we've presented in "Seeing Green," you may need some alternatives to banks and VCs. Alternative financing sources abound-if you look in the right places.

Start close to home, and consider these three options: hidden personal wealth, angel investors and commercial finance companies.

Hidden Gold

It may sound clichéd, but no one believes in your dreams quite as much as you do. So it's natural that you should try to bankroll yourself. Doing so will impress partners, investors and customers. After all, nothing says "I'm serious" like investing your life savings in your business.

Before you apply for a second mortgage or a wallet full of new credit cards, however, you might want to dig a little deeper for your own "hidden" wealth. You may be surprised to find more capital than you imagined.

These hidden sources of personal wealth can include nearly any current financial asset. Life insurance policies, 401(k) plans, IRAs and stock portfolios are among the most commonly overlooked sources of business capital.

"Borrowing against life insurance can actually be very beneficial," says Russ Grzywinski, a registered investment advisor and president of Oak Brook Financial Group in Charlotte, North Carolina. "You can take a loan against the cash value of a policy, then pay it back at a flexible rate that suits your business cash flow."

You may think his approach is counter-intuitive, but Grzywinski suggests borrowing from yourself at a high interest rate: "When you borrow against a life insurance policy, the interest is a deductible expense for the business [as well as] tax-deferred income for the individual. It's a very powerful concept." Not only are you repaying your loan, but you are also effectively creating a higher cash balance for the next time you need it. Says Grzywinski, "You're taking the finance company out of the loop and becoming your own bank."

With a whole life policy, Grzywinski adds, you may have the option of not paying back the loan at all. Any shortage will simply be deducted from the death benefit when you die. If you can't take it with you, use it to grow your business.

Your retirement savings is the next logical place to look for hidden personal wealth. That 401(k) from your previous employer may be the best place to start. Grzywinski advises entrepreneurs to keep retirement savings in a 401(k) account, since it's easier to borrow against than, say, an IRA.

IRA accounts, including SEP and SIMPLE retirement plans, typically have stricter limitations on borrowing or investing. Generally, you can invest your IRA money in a private company (with some restrictions), but there are only a handful of custodians that would allow that to be done, says Grzywinski. "The problem is valuation," he explains. "The account custodian can't get a handle on what that investment is worth each year."

Finally, Grzywinski says, don't forget your public stock investments. But before you ask your broker for a traditional margin account, check with your local banks. "The interest rates are probably better at a lender than in a margin loan at your brokerage firm. Plus, a local bank may be more sensitive to an entrepreneur's needs," he says. Check around for the best rates.

Silver Wings

There are many benefits to using personal assets first. But if you're tapped out, don't despair. The next best source for small-business capital may be right around the corner.

According to the Center for Venture Research at the University of New Hampshire, there are some 400,000 active individual or "angel" investors who invest in more than 50,000 businesses each year. Compare that to the country's approximately 450 venture funds, which, according to the National Venture Capital Association, invested in just 2,715 companies during 2003. Clearly, individuals-not VCs-are much more likely to provide the capital your company needs.

Where to find angels has always been a problem, but that may be changing. "More and more angels are joining clubs or networks," says Marianne Hudson, director of Angel Initiatives at the Ewing Marion Kauffman Foundation in Kansas City, Missouri. "There were fewer than 10 of these groups in 1996. Now there are about 200 of them, and we hear from more all the time.

"The good news for entrepreneurs is that these groups have Web sites, and they're looking for quality deal flow," says Hudson. That's a welcome change from the past, when finding an angel investor usually meant months of careful networking.

One new angel investment group, the Blue Ridge Angel Investor Network (BRAIN), is an excellent example. Based in Asheville, North Carolina, the group hired executive director Jim Roberts to reach out to both new and growing companies throughout the Southeast in an effort to expand the economic region of Asheville and western North Carolina. "Our members are often semiretired or retired," says Roberts. "They want to get involved in growing something."

BRAIN, a group of individual investors that meets quarterly, brings several entrepreneurs to present their business plans at each meeting. According to Roberts, the forums facilitate the introductions that will be critical for Asheville's continued economic growth.

A quick Web search will help you find a local angel group near you. Or just ask around-most CPAs and business lawyers will know somebody who's involved in your area.

The Customer's Always Right
Andy Birol, founder and president of Birol Growth Consulting in Solon, Ohio, has a funding source for companies in need of cash that's so simple, it's often overlooked.

So what's his answer? "Get customers to fund your growth by targeting early adopters-those people who have more money than time," he says. As an example, Birol points out that the Palm Pilot was once priced at more than $1,000, yet early adopters happily paid the price. Those early sales helped Palm get the cash in and the price down.

When cash is tight, young companies need to focus more on selling and less on fund-raising. An overemphasis on fund-raising is one sign that a business suffers from the "if we build it, they will come" approach to sales. Instead, Birol suggests a new tactic. "I believe organizations have to focus on their best and highest use-what they do well, what they enjoy doing, and what customers have valued in the past."

"Focus, accomplish and grow" are the three tenets of business success, according to Birol. For more on the subject, check out his book Focus. Accomplish. Grow. The Business Owner's Guide to Growth, available on or at

Blue Suits

When your growing company is facing a cash emergency, it helps to go to someone who understands the dynamics of growth. Traditional bankers, who are generally looking for something "slow and steady," are probably not your best resource in this case. That's where a commercial finance company can step in.

"In general, commercial lenders will look at tougher loans, because they are not subject to the same regulations as a bank," says Douglas Mitman, managing director of investment bank Grace Matthews in Milwaukee. The more critical your need, the less useful banks become. "The commercial finance guys can be more aggressive with a struggling company," says Mitman. "But they're typically going to look for asset coverage."

"Asset coverage" is essentially another way to say "loan collateral" and can include accounts receivable, inventory and factory equipment.

While finance companies may have less stringent rules than banks, they still look for one of two things: either hard assets to use as collateral or enough cash flow to comfortably make debt payments. If you have the collateral, look for "senior" or "asset-based" loans. If you can afford to pay back the loan from cash flow but don't have hard assets, ask about unsecured, mezzanine or subordinated loans. Rates these days are roughly equivalent to those of a credit card.

Subordinated and unsecured credit are now widely available to businesses that have solid operating profits-sometimes to the tune of two or three times the business's annual cash flow.

CIT Small Business Lending Corp. (a subsidiary of CIT Group Inc.), for one, provides SBA-guaranteed loans of up to $2 million based not just on assets, but also on the company's operating history and the strength of the business plan. "We're looking at the projected cash flow-the ability of the business to repay us. And we put a lot of weight on what the business has done in the past couple of years. But it's not uncommon for us to lend based on projections, too," says Chris Lehnes, vice president of business development for CIT Small Business Lending Corp., based in Livingston, New Jersey. Franchises, professional offices and others with proven business models are most likely to qualify for credit based on projections.

For lending companies like CIT Small Business Lending Corp., seeing businesses with a substantial amount of debt is not uncommon. In fact, according to Lehnes, private businesses frequently have leverage ratios as high as 10-to-1-meaning they have 10 times as much debt as equity. "That would be outrageous for a public company," he says, "but for a small [or midsize] business, that's very common."

While the biggest commercial finance lenders include CIT Group, GE Commercial Finance and Textron, there are also hundreds of smaller shops. Some of these lend SBA money through what's called a Small Business Investment Corporation.

Mitman sums it up: "There are a million options for you if you have an up-and-running company that's either making money or has assets. And if you're large enough, with a healthy balance sheet, you'll find capital even if you're not making money."

What Financing May Come
Choosing from the variety of possible sources for financing may be as simple as going with the only option that will take you. Ideally, you'll have a choice of several alternatives. And, at least to start, you should have a good idea of what your preferred form of financing would be so you can go after the most comfortable choices first.

Your options will be dictated by several considerations, including how much money you need, how long you'll need it, what you'll need it for, and how much control you're willing to relinquish. For instance, if you need to raise several million dollars, then venture capital, a stock offering or perhaps a well-heeled angel investor will be your best bet. On the other hand, if you need only $10,000, hidden personal wealth or one of the SBA's microloans may be your best bet. Financing lasting more than a few years is usually going to come from equity investors such as VCs, angels or friends and family, unless you are financing real estate, in which case a bank loan would be suitable.

The reason you need the money will also come into play. A bank is unlikely to lend you money to allow you to increase your salary-that's going to have to come from someone with a personal interest in your business, such as an angel investor or a family member. That same family member, on the other hand, will be unable to help if what you need is an international letter of credit to wrap up an across-the-border deal. Matching your financing source to your need will eliminate many possibilities.

Control is another issue. If you want to maintain maximum control of your business, stick to hidden personal wealth, family, friends and bank financing. Angels, VCs and public markets are much more likely to want to see themselves or their handpicked assistants in the driver's seat.

Excerpted from Entrepreneur magazine's Business Start-Up Guide #1812,Growing Your Business.

David Worrell is Entrepreneur's "Raising Money" columnist.


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