Capital Punishment

Sure, having too little money can slow you down. But having too much can kill you

Darwyn Williams remembers how easy it all was, back in the days he now refers to as his "butthead period." He recalls sitting comfortably in the tufted leather chair behind his expansive desk, staring idly at the Acadian artwork that hung from his walls and just dialing the number. It was a number he knew by heart. "I said, 'Hey, I want to buy a boat." On the other end of the line, his banker, who listened with friendly interest, had only one question. "What kind?" A Boston Whaler. It would cost $19,000, and Williams didn't intend to put a dime down on it. But that was irrelevant. "I said I'd swing by later that day" -- in a new BMW he had financed the same way -- "and sign a promissory note."

By Williams's reckoning, "that's when things got stupid."

Bank debt, which had capitalized his real-estate-development business since its inception, was now financing toys. "It was play money." Also, it was 1984, salad days for the oil and gas and real estate industries in Louisiana, where Williams, on leveraged wings, had come to view himself -- at the tender age of 24 -- as one of the entrepreneurial elite. After all, his Acadian Construction had rocketed to revenues of $1.5 million in less than two years. He was building houses, apartments, and a shopping center as fast as he could sign notes against them. "Things were rolling; banks were willing." And the company, flush with borrowed capital, was sprinting toward bankruptcy.

By the end of that year, in the wake of a real estate bust, Williams and his partner were spending their time in meetings with lawyers and bankers, negotiating long-term payouts and liquidation plans. The company owed more than $14 million on properties worth but a small fraction of the debt. "In the end the leverage killed us," says Williams, who watched the business he had propped up with outside capital collapse. By 1985 both the company and the supreme confidence he had called his own were gone.

Be it a timeless parable or just an '80s clichÉ, Williams's folly now seems almost quaint, even a little enviable. The nostalgia for easy money dies hard. What undercapitalized company builder today wouldn't welcome the opportunity to be so tempted by someone else's money? To fend off advances from eager lenders or investors? To worry about an excess of capital? Well, Williams, for one. You see, Williams, now an evangelical bootstrapper, isn't the least bit wistful about his bygone bounty -- even though he expects he'd use the capital more wisely today: to propel his $1.5 million Inc. 500 company (Combined Resource Technology, in Baton Rouge), for instance.

Instead, the once-prodigal Williams avers that too much outside capital is a curse, and too little is a blessing. Other people's money? "If it's not the root of all evil, it's at least the root of all complacency," he asserts.

Grail though it is, capital is no growth serum. It will not secure a single sale. And as heretical as it may sound, even the cheapest capital can foreclose as many opportunities as it unlocks. What you think are the "options" uniquely provided by capital become the mandates that doggedly fix your company's fate, determining everything from what markets it pursues, to how fast it must grow, to, ultimately, who calls the shots. So before you bemoan yet again the anemic bank account or the mounting payables or that thin, barely black edge your business survives on each day, stop to ponder the perils you're spared by bootstrapping. The hidden costs of capital are higher than you may think. Consider --

The Ball and Chain
Yes, yes, everyone knows there are strings attached. But they're wound around more than the founders. When a company accepts debt or equity, it seals a commitment not just to investors or lenders but also to the market, the product, and the business plan those investors or lenders buy into. But what about when that original market or product or vision of the business isn't viable? Or, as often happens, is supplanted by a better opportunity?

Margaret Hamilton knows the problem only too well. "We had created this five-year plan," recalls Hamilton, whose first company, Higher Order Software, in Cambridge, Mass., burned through $15 million in venture capital before the doors were shut, in 1988. "We ended up handcuffed to that original concept." Investors, who ultimately gained a controlling interest in the company, could not be persuaded to change course. "We lost the freedom to go in a different direction." And flexibility was a high price to pay, insists Hamilton, who went on to found a second software company, Cambridge-based Hamilton Technologies Inc., this time unencumbered by capital.

Investors, especially unsophisticated ones (those who take your business plan seriously), often object to a company's inevitable need to transform itself into something other than what the investors thought they bought. Change becomes a matter of consensus building, a process that can be painstaking, slow, and sometimes impossible.

Time Is Not on Your Side
On average, it takes three to six months to raise a round of capital. Or to find out you can't. The weeks and months spent chasing money often prove fruitless and hazardous to the health of the business. "I spent all my time raising money," recalls Hamilton. "It was absolutely diversionary. And there wasn't enough time left to worry about product development or marketing or sales -- the things I should have been concentrating on."

The irony is that the time a business most desperately needs capital -- in the yaw of a cash crisis -- is usually the time it can least afford a prolonged treasure hunt. The hours and effort devoted to finding capital might be better spent righting the profit-and-loss statement and selling. Even if you do manage to hustle up some money, you're compelled to spend plenty of time afterward coddling investors, as much as you would your biggest customer. "I was so involved with investors and the board," confesses Hamilton, "I started losing touch with what was really going on with the business." Says Tom Gregory, a veteran of one renowned failure and one celebrated success (Ovation Technology and Smartfoods, respectively): "When you bring on investors, you create a set of expectations that you don't satisfy until you sell the company or take it public. Until you do that, you're managing those expectations. You can spend all your time doing it."

A Full Belly Has No Fire
Call it the natural law of money. If you don't need it, you don't make it. And, well, when someone else supplies it, you don't need it. "That capital just became part of income," recalls Williams, the profligate borrower. "It became a substitute for income.

"We got caught up in the fake reality of a leveraged existence," he says. "We had all the trappings of success; we just weren't making money. And all the niceties surrounding us were owned by somebody else." Fancy digs, high-priced hires, expense accounts, company cars, and big-name investors all create the illusion that you've already made it. You can look around at all the lavish accessories -- the way Williams did his well-appointed office -- and be duped into thinking, Hey, we're already successful; it's happened. When, in fact, all you've done is eaten into the bottom line and lost sight of the top one. It's axiomatic: if we aren't hungry, we aren't selling.