Kevin Chin, an Entrepreneurs' Organization (EO) member primarily based in London, United Kingdom, is the author of HyperTurnaround! and founder and CEO of Arowana, a certified B Corporation which invests in, operates and grows small to medium-sized enterprises. He has a unique perspective, having experienced both sides of the fence, as an entrepreneur who has raised capital, as well as an investor providing it to businesses. We asked Kevin how companies can raise capital during an economic crisis. Here's what he shared:
As an entrepreneur who has successfully navigated several difficult turnarounds and economic crises, what capital-raising hacks can a cash-crunched company use to raise survival capital during the Covid-19 crisis?
- It may sound paradoxical, but to quote Jack Ma, "Most businesses fail not because they don't have enough capital, but because they have too much capital." As a turnaround guy, I've observed that most business failures are a consequence of excessive unprofitable revenue growth, often fueled by an abundance of capital. Once called "overtrading," it's now fashionably called market share capture. Too much money can also stifle creativity by breeding complacency and bloating a company's cash-burn rate. The fastest and easiest way to raise capital is to look internally and eliminate cash burn. Cash burn stems from three primary sources: unprofitable customers, excessive direct and indirect operating expenses, and excessive capital expenditures. In survival mode, the question to ask about each line item is: How is this generating positive cash inflow right now? If it's not, cut it swiftly. No exceptions!
- Negotiate elongated six to 18-month payment plans for existing creditors. In an abrupt crisis like Covid-19, most creditors--including tax authorities--will be open to compromise when the alternative is getting nothing if the business folds.
- Consider your best customers and suppliers as potential sources of capital. They know you and have a vested interest in your survival. Raising capital from them could take different forms--including equity or debt, innovative supply chain financing or prepayment by key customers.
From your experience as an investor, what mistakes should a company avoid when seeking to raise capital?
Inauthenticity. It's a common mistake to portray your company in a "utopian bubble" with no risks, competitors or operational challenges. Such inauthenticity is off-putting. Most investors, especially former entrepreneurs, know that it's not reality. Many pitch documents today omit risks. Interestingly, those that do address risks stand out and are more likely to attract capital, as they are viewed as authentic, conscious of risks and their mitigants.
Being unrealistic. Don't dress up a business as something it's not, in order to attract a high valuation. For example, trying to conjure a technology angle (often in the form of recurring "as a service" revenue streams that emulate richly valued SaaS businesses), then characterizing the business with the customary tech "alphabet raising label" (ie series A, B or C round). While there is arguably more capital today than ever relative to the number of businesses, few investors are naïve enough to fall for this.
Failing to be selective. It may sound impractical in a crisis where it's tempting to take any dollar from anyone, but be careful about who you let on to your cap table or balance sheet. Investors who are not aligned will consume your time and energy to manage. In a worst-case scenario, the wrong investors can destroy a company. From my experience, the two biggest issues are a misalignment of investment time frame or risk appetite. It's critical to validate each potential investor's expectations for both factors in detail to ensure they are aligned with yours before accepting their money. If they're not, say no.
You recently consummated a successful capital raising with new investors for a business venture during Covid-19 lockdowns. How did you engineer this given the barriers to face-to-face meetings?
Credit mainly belongs to a couple of team members who refused to let Covid-19 be an excuse. We raised funds for a venture capital business where we, in turn, provide capital to "small and mid-cap" late-stage tech companies.
The key to raising capital from new relationships during Covid-19 lockdowns is to focus on your existing network and triangulating to "three degrees of separation" within it. Raising capital without face-to-face meetings is based on a "web of trust" dynamic where investors who don't know you will rely on someone in your network whom they know well, and who can advocate for you. It is also crucial to evidence that you are aligned to new investors by personally investing a meaningful amount of "hurt money" alongside them. Even though you may have invested significant sums beforehand, putting some money in the current round goes a long way to convincing new investors. It also helps if existing investors participate in the new capital raising, too.
You have a contrarian perspective that too much capital is not necessarily a good thing. Will you expand on that?
Having too much capital, whether as an operator or investor, can be dangerous territory that breeds suboptimal behavior. I've been in this position, both as an operator and investor. At the risk of sounding masochistic, a crisis represents a cathartic opportunity to recalibrate and achieve a sustainable equilibrium of capital versus opportunities. It's no coincidence that many of the world's greatest companies were born out of economic crises, achieving outstanding growth despite capital constraints. Indeed, "capital fasting" can lead your company to a state of metabolic ketosis reinvigorated with entrepreneurial energy and creativity.