Blog10/FINANCING_COMPLEXITY_AND_SOPHISTICATION_IN_NASCENT_VENTURESMatthews

FINANCING COMPLEXITY AND SOPHISTICATION IN NASCENT VENTURES

Matthews, Charles H ; Schenkel, Mark T ; Ford, Matthew W ; Human, Sherrie E . Journal of Small Business Strategy ; Peoria Vol. 23, Iss. 1, (2013): 15-29.

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Although scholars have considered the financing challenges facing small businesses for some time, little work has focused on financing issues at the venture's nascent stage. In this study, we investigate the sources of funding sought by nascent entrepreneurs and the relationship between the complexity of these funding sources, business plan formalization, and expectations of future firm growth. Using data from the Entrepreneurship Research Consortium/Panel Study of Entrepreneurial Dynamics, we find that nascent entrepreneurs, even those associated with high-growth ventures, favor simple rather than complex sources of funding at the nascent stage. Funding complexity and business plan formalization are also found related to expectation of firm growth. An additional contribution is the development of a funding complexity continuum scale, which should be useful in future studies of nascent as well as later stage entrepreneurial finance and firm growth. [PUBLICATION ABSTRACT]

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ABSTRACT

INTRODUCTION

Financing a new or growing enterprise is a major challenge facing most entrepreneurs (Sudek, 2006). Extant research of entrepreneurial finance has focused on capital acquisition and capital structure of operating ventures (e.g., Alsos, Isaksen, & Ljunggren, 2006; Becker-Blease & Sohl, 2007; Davidson & Dutia, 1991; Örtqvist et al., 2006; Van Auken & Carter, 1989; Zhang, 2007). Such firms, often labeled small and medium-sized enterprises (SMEs), have typically commenced production of output and have recognized revenue from operations.

On the other hand, our understanding of the financial context of nascent ventures, new firms with little or no measurable performance of which to speak, is less developed. Yet, there remains critical pressure on SME's to launch and add jobs to advance economic development. Since a venture's financial challenges depend in part on the company's phase of development (Brophy, 1997; Eckhardt, Shane, & Delmar, 2006), a nascent entrepreneur's financing issues likely differ from those of more established founders. Of interest, for example, is how the nascent founder seeks to acquire the financial capital necessary to get the business operational (Shane & Cable, 2002). Many commentators believe that small businesses often lack the financial sophistication necessary for effective capital management and growth (e.g., Aronoff, 1998). Others have found evidence suggesting that gender-based funding gaps exist despite the fact that female participation in the new venture creation process has and continues to grow (e.g., Alsos, Isaksen, & Ljunggren, 2006; Becker-Blease & Sohl, 2007.)

It is also of interest to investigate possible linkages between nascent firm financing and other factors related to the success of new ventures. For example, studies have suggested the degree to which nascent entrepreneurs develop formal business plans appears related to the founder's expectations for growth and possibly to future performance (Matthews & Human, 2000). Therefore, it is possible that a nascent entrepreneur's financing intentions may relate to business plan formalization and, in turn, to future growth expectations.

Using data from the Entrepreneurship Research Consortium/Panel Study of Entrepreneurial Dynamics (ERC/PSED), a national study of nascent entrepreneurs, we focus on three questions meant to improve our understanding of nascent venture financing and its relationship to other operating decisions. First, do nascent entrepreneurs favor simple or complex sources of start-up capital? Second, to what degree does this funding source complexity, in combination with business plan formalization, relate to nascent entrepreneurs' expectations of organizational growth? Third, are there differences in these relationships between nascent entrepreneurial ventures and nascent small business ventures?

CONCEPTUAL BACKGROUND AND HYPOTHESIS DEVELOPMENT

A frequently cited problem of small businesses is inadequate financing (Welsh & White, 1975, Davidson & Dutia, 1991). While self-financing appears to be the most common financing alternative, entrepreneurs often seek external funding alternatives such as trade credit, mortgages, loans (with friends and family, banks, finance companies, government), and venture capital (Eisemann & Andrews, 1981; Maier & Walker, 1987; Mason & Harrison, 1995; Shane & Cable, 2002).

The level of sophistication or complexity associated with acquiring external funding sources can be considerable. For example, entrepreneurs must deal with a financier's aversion to risk, desire for control, and contractual issues (Keasey & Watson, 1994; Scholtens, 1999). They build effective contact networks when venture capital is sought (Choy, 1990). Such efforts have been shown to enhance firm reputation by facilitating effective transfer of information critical to the process of venture selection in funding decisions (Shane & Cable, 2002).

An important concept for this investigation is the notion that entrepreneurs tend to favor a "pecking order" or hierarchical preference when seeking financial capital-moving from simple, easy to obtain capital sources to those that are more complicated to obtain. Edgar (1991), for example, found that managers in small firms tended to first finance their needs by using internally generated funds as much as possible, followed by debt, and then equity as a last resort. In their survey, Van Auken and Carter (1989) also found a higher reliance on debt capital by small businesses rather than seeking equity sources of capital. In this study, we propose that sources of funding exist on a continuum from simple to complex, with founders own money anchoring one end of the continuum (simple) and venture capital anchoring the other end of the continuum (complex). More specifically, Table 1 shows a range of twelve sources of funding from simple to complex.

Less is known, however, about how this preference for simple or complex capital sources relates to nascent stage firms. Anecdotal evidence (e.g., Mamis, 1994) suggests that nascent entrepreneurs may indeed adhere to the pecking order model of capital acquisition, preferring simple, easy to procure financing sources rather than more complex options. We define nascent entrepreneurs as those individuals who, alone or with others, are in the process of starting a business (Gartner, Shaver, Carter, & Reynolds, 2004). This preference may be due in part to an owner's aversion for risk or for sharing control (Hutchinson, 1995). It may also be due to overconfidence as a source of cognitive bias that has been associated with seeking external funding (Forbes, 2006). This may be coupled with a lack of sophisticated techniques typically employed by small firms when making financial decisions (Runyon, 1983). This likely plays a large role in the financing intentions of nascent entrepreneurs, since founders are at times considered to be financially under informed and unversed in sophisticated financial alternatives available for start-ups (Aronoff, 1998). Therefore, we posit that:

H1: Nascent entrepreneurs will favor simple sources of financing rather than complex sources.

In much of the entrepreneurship literature, ventures are often viewed as firms with high growth potential. Research on entrepreneurial finance reflects this bias, leaning towards capital acquisition and structure in the entrepreneurial business venture, or EBV, context (Bygrave & Timmons, 1992). It is recognized, however, that even income substitution, or lower growth, nascent ventures have funding needs on the financing complexity continuum. Carland, , Hoy, Boulton, and Carland (1984) suggest that small business ventures are independently owned and operated, not dominant in their field, and do not engage in any new marketing or innovative practices. By contrast, they suggest entrepreneurial ventures' principal goals include profitability and growth, characterized by innovative strategic practices.

The capital requirements of slower growth small business ventures, or SBVs, are usually lower than those for EBVs. In addition, financiers seeking to fund EBV growth potential require more information from entrepreneurs given that such growth is often accompanied by greater marketplace uncertainty (Shane & Cable, 2002). The financing of scalable entrepreneurship ventures versus income substitution small business ventures, shows that this distinction overlooks key issues and differences. An important question, however, is whether the founder's financing intentions significantly differ between EBVs and SBVs at the nascent stage of the firm. Although it would seem likely that the founders of EBVs would favor, more complex financing sources in order to procure more capital for growth, it is also plausible that the founder's lack of sophistication about financial matters (e.g., Aronoff, 1998) might cause the financing intentions of these two groups to be more similar than different. Given the inherent scale requirements of EBV growth, we posit the following difference between small and entrepreneurial nascent ventures on the dimensions developed above:

H2: Founders of EBVs will favor more financing complexity than will founders of SBVs.

Female founders appear particularly attracted to simple sources of financing such as drawing from personal savings and establishing loans with friends and family (Brush, 1991). Studies have shown that women obtain significantly less financial capital to develop their new businesses despite sharing similar funding perceptions and behavior with men (Alsos, Isaksen, & Ljunggren, 2006; Becker-Blease & Sohl, 2007). In addition, women who seek more complex financing alternatives such as bank loans may be taken less seriously and are sometimes viewed as higher credit risks than their male counterparts (Riding & Swift, 1990; Koper, 1993). Evidence also suggests that women are less likely to seek growth in their ventures (Orsar, Hogarth- Scott, and Wright, 1998). This could diminish female nascent entrepreneurs' desire for larger pools of capital available from more complex sources. We should expect, then, that:

H3: Female nascent entrepreneurs will favor simpler sources of financing than their male counterparts.

Little research has examined how financing intentions of nascent entrepreneurs interact with other factors thought to impact venture success. For example, a chronic prescription for nascent entrepreneurs has been to better plan for the future (e.g., Baker, Addams, & Davis 1993). It is likely that financing complexity is related to the formality of business planning in nascent ventures. Complex sources of funding (e.g., venture capital) are often sought by entrepreneurs who seek large pools of capital for growth (e.g., Bhide, 1992); formal business plans are usually a requirement for entrepreneurs seeking to tap such capital sources. Indeed, studies suggest that such a requirement is based on a financiers' tendency to base funding decisions on objective verifiable indicators of venture development, such as the completion of marketing and organizing, as well as venture sales levels (e.g., Eckhardt, Shane, & Delmar, 2006). Further, a founder's preference for simple or complex financing sources might influence the degree to which the founder formally plans for the future. Simple financing preferences may temper the perceived need to plan. Regardless of the causal order, we should expect that:

H4: Funding complexity will be positively related to the formality of business planning in nascent ventures.

Funding complexity may relate to a nascent venture's ability to grow. A challenge when investigating such a relationship is that growth is not easily measured at the nascent stage of the firm. Drawing from the theory of planned behavior (Azjen, 1991) that posits that actions can be predicted from intentions, researchers have begun employing a founder's expectations of firm growth as a proxy for actual growth (e.g., Orsar, Hogarth-Scott, & Wright, 1998; Krueger, Reilly, & Carsrud, 2000; Matthews & Human, 2000). Since complex sources of funding offer access to larger pools of capital, it seems likely that entrepreneurs who employ complex funding configurations will have relatively high growth expectations. However, this relationship may be attenuated by other variables thought to influence growth expectations. For example, if the founder has declared the firm as a high-potential scalable type (EBV), it stands to reason that growth expectations should be higher (Carland, Hoy, Boulton, & Carland, 1984). Closely related, the degree to which a nascent founder conducts formal business planning has also been found to influence growth expectations (Matthews & Human, 2000). Therefore, we posit the following:

H5: Higher levels of funding complexity will be related to the nascent entrepreneur's expectations of firm growth.

H6: Founders of EBVs will have higher growth expectations than SBVs.

H7: Higher levels of business plan formalization in nascent ventures will be related to the entrepreneur's expectations of firm growth.

METHODS AND MEASURES

Procedure and Sample

Data from the Entrepreneurship Research Consortium/Panel Study of Entrepreneurial Dynamics (ERC/PSED I), a national study of nascent business founders, are used for this research. The ERC/PSED I project gathered data from randomly selected nascent business founders utilizing both telephone interview and mail survey methods. To be considered the founder of a nascent venture, the respondent had to indicate 1) they were in the process of starting a new business, either alone or jointly with others; 2) the initial activity to start the new venture occurred within 24 months of the screening; 3) the new venture was not part of an existing organization; and 4) the respondent was a member of the founding team, and not a consultant or merely a passive investor. PSED I involves the screening of approximately 62,000 adults between 1998 and 2000. The PSED I is a nationally representative longitudinal study of nascent entrepreneurs that offers systematic, reliable, and generalizable data on the new venture creation process. As a result, 830 usable responses from nascent entrepreneurs were obtained for this investigation. The reader is referred to Reynolds (2000) for a detailed account of this database's development and content.

Variables and Measures Funding Complexity. A series of questions asked the founder to indicate various sources of anticipated funding. For each source where the respondent answered "yes," the respondent also estimated the amount of funding from that source. Twelve sources of anticipated financing were included in the survey: the entrepreneur's own money, spouse, spouse of other team members, friends and family, friends and family of other team members, credit cards, employer, second mortgage, bank loan, small business loan, personal finance company, and venture capital.

Each of our research team independently rated each one of these funding sources on a "financing complexity" scale of one to five, where one represented a simple, easy to obtain funding source and five represented a source of funding that was complicated to obtain. It was stipulated that at least one "one" and one "five" had to be assigned among the funding sources. Very close agreement was realized among our three independent ratings with only minor differences in mid-range ratings were evident. The consensus rating assigned to each source of funding appears in Table 1. Note that all funding sources rated 2 or less were considered "simple" and that all funding sources rated 3 or higher were considered "complex." Both the continuous (one through five) scale and the bivariate (simple or complex) scale of funding complexity were utilized in the analysis.

Gender. Sex of the respondent was recorded by the phone interviewer as one for male and two for female.

Business Plan Formalization. A single item of the phone survey asked, "A business plan usually outlines the markets to be served, the products or services to be provided, the resources required -- including money - and the expected growth and profits for a new business. Has a business plan been prepared?" A "yes" or "no" response was provided. If yes, the respondent was asked, "What is the current form -- (1) unwritten or in your head, (2) informally written, (3) combination of (1) and (2), (4) formally prepared?"

Type of venture. A single item of the phone interview asked, "Which of the following best describes your preference for the future size of this business: (1) I want the business to be as large as possible, or (2) I want a size I can manage for myself or with a few key employees?" Drawing from Carland et al.'s (1984) distinction between entrepreneurial business ventures (EBVs) and small business ventures (SBVs), respondents that answered (1) were considered to be associated with EBVs while those that answered (2) were considered associated with SBVs.

Expectations of Financial Growth. A single item of the phone interview asked, "We would like to ask about your expectations regarding the future of this new firm. First, what would you expect the total sales, revenues, or fees to be in the first full year of operation? And what about in the fifth year?" The fifth year estimate of revenues was used as the owner's estimate of financial growth over the five-year horizon. Given that the near term revenue base in most nascent enterprises enterprises approaches zero, we found that calculating revenue growth rates from years one through five produced an unacceptable amount of noise in the data. Since very little, if any, revenue exists in a nascent enterprise, using the actual fifth year revenue value should provide an accurate reflection of expected financial growth in most cases. A log transformation was performed on the fifth year value in order to approximate a normal distribution to facilitate the regression analysis.

Expectations of Full Time Employee Growth. Two items of the phone interview asked the respondent to estimate the number of full-time employees, exclusive of the owner, expected in year one and year five Using a similar rationale for deriving the financial growth value noted above, we used the respondent's estimate of the number of full time employees in year five as the indicator of employee growth expectations.

RESULTS

The funding intentions of nascent entrepreneurs appear in Table 2. These results show that nascent entrepreneurs generally appear to prefer more simple forms of financing. Over one half of respondents intended to fund their start-up with only simple sources, with nearly 70% of all respondents employing with at least some source of simple financing. Nearly 5% of nascent entrepreneurs intended to fund their start-ups with only complex sources. Table 3 summarizes the popularity of various funding types. The three most popular sources of simple funding favored by respondents were personal funds, credit cards, and spouse. Bank loans were the only complex funding type in the top five. These results support Hypothesis 1

Funding intentions of Entrepreneurial Business Ventures (EBVs) and Small Business Ventures (SBVs) appear in Table 4. The data suggest that EBVs favor a slightly greater mixture of simple and complex funding than do SBVs. However, a Chi square test for independence was not statistically significant (χ2 = .207; p = .976), suggesting that no significant relationship exists between type of venture and funding complexity. Thus, we find only minimal support for Hypothesis 2

A comparison of funding intentions for males and females appears in Table 5. Results indicate that females prefer simpler sources of funding than do males. Specifically, a Chi square test for independence suggests a statistically significant relationship between gender and which provides support for Hypothesis 3 funding intentions (χ2 = 23.1; p = .000),.

To evaluate the relationships between funding complexity, venture type, business plan formalization, and expectations of growth, two stepwise regressions were conducted. In the stepwise procedure, independent variables entered the regression model if they were significant at the .05 level and removed if they caused previously entered variables to drop below the .10 level. Descriptive statistics and bivariate correlations for these regressions appear in Table 6. Note that the correlation between funding complexity and business plan formalization is significant which provides support for Hypothesis 4 (a simple regression using these two variables was significant at p = .006). The first regression examined the effects of funding complexity, venture type, and business plan formalization on financial growth expectations. A square root transformation was applied to the funding complexity variable to correct for heteroscedasticity. In addition, four data points were found to have large studentized residuals and were removed as outliers. All three variables entered the model significantly (Table 7). Business plan formalization entered the model first, followed by venture type and funding complexity, implying that all three variables are significantly related to expectations of financial growth.

The regression results were both significant and the signs consistent with the hypothesized relationships between funding complexity (H5: ? = .118, p < .05), venture type (H6: ? = -.168, p < .01), business plan formalization (H7: ? = .216, p < .01), and growth expectations. The adjusted R2 of the full model (Model 3) was .094.

The second regression examined the effects of funding complexity, venture type, and business plan formalization on employee growth expectations (Model 4, Table 7). Only venture type entered the model significantly. Funding complexity and business plan formalization were not significant predictors of employee growth expectations. The adjusted R2 for the full model was .022. Based on these regression results, support was found for Hypotheses 5, 6, and 7 mainly in the context of the financial growth expectations.

DISCUSSION AND CONCLUSIONS

Some findings of this investigation are consistent with one of several widely held tenets of nascent entrepreneurial finance. Specifically, the results show that nascent entrepreneurs tend to favor the use of funding sources that are relatively simple to obtain, such as personal funds or those available from friends and family. Similarly, results show that nascent women entrepreneurs reported greater use of simple funding sources than their male counterparts. In contrast to studies focusing on the more traditional notion of capital structure as it relates to profitability in entrepreneurial financing (e.g., Davidson & Dutia, 1991), the present findings are more consistent with a focus on the issues of capital access (Becker-Blease & Sohl, 2007) and maintenance of strategic flexibility and decision-making control (e.g., Bhide, 1992). Accordingly, these findings enhance the extant literature by suggesting that simple sources of financing play a substantial role during the nascent new venture creation stages.

This study produced some surprising results as well. No significant difference in funding preference could be found between the founders of high growth potential entrepreneurial business ventures (EBVs) and relatively low-growth potential small business ventures (SBVs). One might expect that founders of EBVs would seek more complex sources of start-up financing, since the pools of capital available from these sources tends to be relatively large and focused on high growth ventures. On the other hand, it remains possible that nascent founders are conservative and/or uninformed and do not realize the levels of funding required to grow the business. It is also plausible that founders of EBVs may restrain their acquisition of startup capital in order to develop the firm's ability to efficiently utilize resources in its early stages (Bhide, 1992). Indeed, some successful founders, such as Sun Microsystems Inc. co-founder and CEO Scott McNealy, suggest that low initial funding levels were an important element of their venture's subsequent success. McNealy notes:

We got started on $285,000. We went profitable in our first year. That's a good thing. [Sun Chief Scientist] Bill Joy likes to say there's never been a successful well-funded startup. If you have too much money, you're not going to find a new and different and more efficient and effective way. You're just going to try and overpower the current players with the same strategy. You can't win a sailboat race if you're behind by tacking behind the boat in front of you. You've got to go out and find different water and find better air (Shepard, 2002: 66-67).

Our findings suggest a significant relationship exists between funding complexity and the nascent entrepreneur's expectations of growth-particularly financial growth. Funding complexity's stronger relationship to financially-oriented growth expectations (as opposed to employee growth) may not be very surprising, given the monetary relationship between these two variables. When included with behavioral or operating variables such as venture type and business plan formalization, funding complexity appears to improve our ability predict founder expectations of firm growth. Of course, longitudinal research is necessary to better understand how these expectations relate to actual performance once the firm becomes operational.

Implications for Practice

Recent evidence has emerged suggesting that the new venture funding process is multistage in nature, and involves systematic differences in perceptions between entrepreneurs and potential financiers regarding the basis upon which funding decisions are made (Eckhardt, Shane, & Delmar, 2006). Coupled with such evidence, these results suggest that entrepreneurs can benefit from noting that complexity is likely to impact growth, both positively and negatively. This is the case early in the new venture creation process, regardless of the founder's growth orientation. An awareness of this may help nascent entrepreneurs to avoid the sense of overconfidence cited earlier, a source of cognitive bias associated with seeking external funding (Forbes, 2006). Moreover, given the impact of gender differences on funding gaps observed in other studies (e.g., Alsos, Isaksen, & Ljunggren, 2006), our results suggest that this may be particularly important for women owned ventures. In short, such consideration would constitute basic strategic decision-making practices that are likely to enhance pragmatic efforts to steer venture growth

Implications for Future Research

Another contribution of this study is the notion of funding complexity-a concept that to this point has not been well operationalized. Results of this investigation suggest that the funding complexity scale developed in this study has validity; it should be useful in future studies of nascent entrepreneurial finance. Despite this and other contributions outlined above, no study is without limitations. A key performance oriented variable of interest in this study is firm growth expectations. Nascent entrepreneurs and small business owners as single respondents have the potential to report inflated expectations. While we are unable to control for this in this study, the concept of planned behavior (Ajzen, 1991) has emerged in entrepreneurship research as a potentially fruitful and positive indicator of how well new ventures will perform over time (e.g., Schwenk & Shrader, 1993). Yet despite such promise, evidence has emerged suggesting that new venture funding is a multistage process that entails systematic differences in perceptions between entrepreneurs and potential financiers (e.g., Eckhardt, Shane, & Delmar, 2006). Given such evidence, and the results in this study, one avenue for future research is to further explore the relationships between funding complexity, planning formality, and growth expectations, and how they translate into subsequent venture performance. Research is also important to overcome the limitations of a cross-sectional design in the study and the use of single-item measures. The causal directions also need further attention.

Conclusion

Notwithstanding the noted limitations, this investigation constitutes an informative exploration of how funding complexity factors into the nascent stages of new venture growth. This study informs research into nascent start-up financing. Perhaps most important, those who teach students and/or advise nascent entrepreneurs concerning the intricacies of funding new ventures, a continuum of funding complexity appears to exist. While more complex sources of funding such as angel or venture capital are often the first to be considered when launching a business, it is clear that less complex sources of funding dominate the new venture landscape even when high growth potential ventures are involved. It contributes to our growing understanding of nascent venture behavior and provides a foundation for further inquiry into the nature of financing and broader venture launch activities.

References

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AuthorAffiliation

Charles H. Matthews

University of Cincinnati

[email protected]

Mark T. Schenkel

Belmont University

[email protected]

Matthew W. Ford

Northern Kentucky University

[email protected]

Sherrie E. Human (Retired)

Xavier University

1 "The authors would like to thank the anonymous reviewers and editor for their insights and helpful suggestions that have improved this manuscript. An earlier version of this research was presented at the Babson College Entrepreneurship Research Conference."

Charles H. Matthews is a distinguished teaching professor and the executive director of the Center for Entrepreneurship Education & Research and Small Business Institute® in the Carl H. Lindner College of Business at the University of Cincinnati. His research interests include strategic planning, decision-making, and leadership succession in small, entrepreneurial, and closely held firms.

Mark T. Schenkel is an associate professor of entrepreneurship in the Jack C. Massey Graduate School of Business at Belmont University. His teaching and research interests include entrepreneurial cognition, opportunity recognition, strategic decision- making, and corporate entrepreneurship.

Matthew W. Ford is an associate professor of management in the Haile/US Bank College of Business at Northern Kentucky University. His research interests include strategic operations, quality management, entrepreneurship and the management, and control of change.

Sherrie E. Human (retired) was an associate professor of management and entrepreneurship in the Williams College of Business at Xavier University. She was the inaugural holder of the Castellini Chair in Entrepreneurial Studies. Her research interests include new venture initiation, entrepreneurial careers, and entrepreneurial and interorganizational networks.

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FINANCING FOR SMALL BUSINESS IN A SLUGGISH ECONOMY VERSUS CONFLICTING IMPULSES OF THE ENTREPRENEUR

Geho, Patrick R ; Frakes, Jamie . The Entrepreneurial Executive ; Arden Vol. 18, (2013): 89-101.

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The start of what is now termed the "Great Recession" began in December 2007 and statistically ended in June 2009, yet small businesses continue to struggle financially in 2012. Entrepreneurial activities for the most part are dependent upon the availability of financing. Access to capital remains a serious problem for entrepreneurs in this sluggish economy. Even when credit is available to qualified small businesses many avoid pursuing financing. This could be contrary to the wellbeing of the enterprise. In this regard common sense can take a backseat to the entrepreneur's stress and strain psyche. The purpose of this research paper is to provide information to practicing entrepreneurs with regard to the impact economic contractions can have on businesses and how they cope and survive. Do small businesses by and large have access to capital? If capital is available for small business lending are entrepreneurs taking advantage of the opportunity to borrow? What steps have been taken by federal and state governments to make it conducive for small business to borrow? Does increasing the availability of financing for small businesses create a sufficient inducement for small businesses to borrow to grow their business during uncertain economic times? Is bootstrapping an option? [PUBLICATION ABSTRACT]

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ABSTRACT

The purpose of this research paper is to provide information to practicing entrepreneurs with regard to the impact economic contractions can have on businesses and how they cope and survive. Do small businesses by and large have access to capital? If capital is available for small business lending are entrepreneurs taking advantage of the opportunity to borrow? What steps have been taken by federal and state governments to make it conducive for small business to borrow? Does increasing the availability of financing for small businesses create a sufficient inducement for small businesses to borrow to grow their business during uncertain economic times? Is bootstrapping an option?

INTRODUCTION

Small businesses continue to face challenging times as the nation's economy struggles to improve. Even so optimism among small business owners is on the rise. More than half (56%, up from 48% last fall) have a positive outlook on business prospects over the next six months. In spite of the promising outlook, these signs of recovery do not translate into immediate plans for growth. The top priority of small business owners at this time is maintaining their current business and sources of revenue (31%) followed closely by growing their business (29%, down from 37% last spring) (The American Express OPEN® Small Business Monitor, 2012). The flat economy, reduced business equity values and the resulting impact to credit and collateral has made capital formation for small businesses through bank financing difficult to obtain. During this time of economic uncertainty many small businesses that would meet bank lending criteria and could use the additional capital chose not add additional debt to their balance sheet. Those entrepreneurs believe they have few options for their business and are just trying to maintain the status quo.

RESEARCH

In order to determine if access to capital was the predominant issue for small businesses during this current weak economy, Middle Tennessee State University's Tennessee Small Business Development Center (TSBDC) and Center for Organizational and Human Resource Effectiveness (COHRE) conducted a phone survey of small business in the state of Tennessee. The survey was developed to investigate which Tennessee small businesses are obtaining business financing, what differences exist between Tennessee small businesses that receive financing and are denied financing, and which banks are lending to small businesses in Tennessee.

METHODOLOGY

To conduct the survey, COHRE obtained a list of business contacts from Info USA. The contact list was restricted to small businesses operating in the state of Tennessee, which TSBDC defined as businesses with less than 500 employees that earned annual revenue of less than $10 million. The TSBDC and COHRE developed a 40-question survey, which inquired about a business's financing over the previous twelve months. The survey was developed using queries posed by TSBDC and questions from the U.S. Small Business Administration's (SBA) 2003 Survey of Small Business Finance. The survey was piloted on a select few small business owners known to COHRE employees.

Over the course of the survey development and administration, five phone survey administrators were hired and received identical training on survey administration, small businesses and the history of TSBDC. While conducting the survey, phone survey administrators followed a branching script adapted from the script used in the SBA' s 2003 Survey of Small Business Finance.

RESULTS

Of the businesses contacted, 89 chose to participate in TSBDC's small business finance survey. Of these 89 participating businesses, only 14 businesses indicated they had applied for loans in the twelve months prior to being surveyed, and of these 14 loan applicants, 11 businesses were granted loans by 1 1 different banks. Business pessimism is driving borrowing decisions. In fact, 60% of the respondents indicated they did not want to apply for financing which is similar to the 56% of respondents in the American Express OPEN® Small Business Monitor (2012) survey who have no immediate plans for growth. Businesses are taking a wait and see approach due stricter bank lending criteria coupled with the poor economy in general.

DEMAND FOR CREDIT VERSUS ACCESS TO CAPITAL

Reduced bank lending coupled with small business loan defaults sets the stage for tightened lending standards. As a result, small businesses have found it difficult to secure loans. At the same time, many bankers have reported weak demand from qualified small business borrowers. Businesses with weak sales or poor prospects are more likely to cut back rather than expand their business, thereby reducing demand for credit (Wilkinson & Christensson, 201 1).

A National Federation of Independent Business (NFIB) survey showed that "weak sales" is the biggest concern for 27% of small business respondents, while only 3% of respondents report financing as the biggest problem (National Federation of Independent Business, 201 1).

A broad lack of confidence in the economy has borrowers backing away from new debt (Thomson Reuters PayNet Small Business Lending Index 2012). According to the PayNet study lending to small businesses has recently slowed:

The data definitively shows that demand for credit remains weak. This finding proves that business owners remain cautious about the economic recovery so much so, that they are forgoing expansion and hunkering down by placing more cash in the bank, rather than expanding property, plant and equipment.

Application levels show that demand for credit remains tepid:

* Credit applications peaked in October 2008, when they rose to all-time highs.

* During the recession, applications fell 30% by January 20 1 0.

* Applications for credit remain weak, at about the same level as during the recession.

Market share by lender type shows competition heating up for the little credit demand that exists:

* Bank market share of lending grew most during 2007-2009.

* In 2010 the captive finance companies started to get more aggressive and took a bigger share of the pie as new originations grew 5% overall in 2009-2010 but shrank 2% for banks.

* Now independent finance companies are stealing market share from banks as their originations grew 39% in 2011 while the overall growth was only 17%.

* "With 2012 business defaults projected to be lower than at any time since 2006, lenders are responding with easier credit terms to reflect this lower risk. The conundrum is that with risk and interest rates this low, small business is still cautious about taking on more credit" (Phelan, 2012).

According to the NFIB - Quarterly Survey, 1 in 4 business owners viewed the current economy as a bad time to expand with 60% indicating that political uncertainty being the main reason, second only to business concerns about the weak economy. Investing in jobs or plant and equipment will remain at maintenance levels until this is resolved. The survey shows that companies aren't confident enough to take on debt or new employees (NFIB, 2012).

The Federal Reserve Bank (FRB) of Atlanta conducts surveys of small business contacts in the Southeast to get their perspective on general business and credit conditions. According to their most recent survey of 293 small businesses, 1 10 applied for credit, leaving 183 firms who chose not to apply for credit. The study does not explain why these firms did not apply for credit but it can be reasoned that economic uncertainty was a contributing factor as much or more than credit worthiness (Federal Reserve Bank of Atlanta Small Business Survey, 201 1).

Applying firms submitted three applications on average, and 37% had their overall financing needs met in full. A further 21% indicated they received most of the amount requested. In total of the 110 firms who applied for bank financing, 58% received funding at some level. Firms that were five years old or younger and firms in the construction and real estate industry were less likely to have their credit needs met (FRB, 201 1).

THE EVOLUTION OF TARP AND GOVERNMENT FINANCING INITIATIVES FOR SMALL BUSINESS LENDING

The American Recovery and Reinvestment Act (ARRA) of 2009 was the signature postTroubled Asset Relief Program (TARP) federal legislation designed to incentivize growth and development within the private sector. Prior to this landmark legislation TARP was the primary government incentive offered to the private sector during a time when the economy experienced tepid growth. According to the Government Accountability Office (GAO), TARP restored faith in banking institutions by investing federal dollars into programs designed to shore up losses of banking assets, while providing a foundation for private firms to access capital that was necessary for generating economic growth. The Department of the Treasury and the Federal Reserve System created this program in order to benefit consumers by increasing access to credit for small businesses (Government Accountability Office, 2009, p.39). According to the American Bankers Association (ABA), TARP has restored stability in the financial system and participating banking institutions have repaid $264 billion in principal and interest payments to the federal government. This represents a $19 billion positive return to the American taxpayer based on the initial $245 billion that was invested in TARP (American Bankers Association, 2012, p.l) TARP was designed to purchase troubled banking assets, thereby creating an environment where lenders would consider capital needs of small business owners who might have been on the bubble in receiving a traditional commercial financing product. Even after TARP funds were offered to large and small financial institutions, lending continued to be slow. Many of the financial institutions that received TARP funds did not initially increase the number of loans in their portfolio. In fact, the ABA reported that banks in local weak economies experienced slower repayment and investment of TARP funds than larger banks where the businesses were holding their own in a weak economy. In fact, the ABA reported that banks in weaker local economies experienced slower repayment of TARP funds than larger banks in urban areas where the economy realized modest improvements. Slower than expected economic growth combined with weakened loan portfolios stifled the ability of smaller rural community banks to make capital readily accessible to entrepreneurs.

After further examination results seem to suggest that the larger, urban financial institutions have been more effective using TARP funds to purchase troubled assets and improve access to capital to its business clientele than their rural counterparts in the smaller, regional community banks. This is due in part to the economic improvements in urban population centers compared to the slowly recovering, weaker rural economies (ABA, 2012).

Where TARP provided initial incentives to invest in large industries directly, or by providing stability to the struggling financial sector, ARRA was to become a catalyst for providing access to capital to small businesses through traditional lenders, SBA, and certified development companies. As stated by the GAO there were 8 primary requirements that established the basis for federal incentives to small firms in the private sector (GAO, 2009, p.78). Those provisions were:

1) Provision 501 - fee reductions. Permits the temporary reduction or elimination of fees for 7(a) and 504 loans until September 30, 2010, or until funds appropriated are expended ($375 million total for both sections 501 and 502).

2) Provision 502 - economic stimulus lending program. This permits SBA to guarantee up to 90% of qualifying 7(a) loans made by SBA lenders. This provision only applies to loans approved within 12 months of ARRA enactment or until all funds appropriated are expended.

3) Provision 503 - Establishment of SBA secondary market guarantee authority. Allows SBA to establish a secondary market guarantee for pools of first-lien 504 loans to sell to third-party investors. This provision terminates 2 years after the enactment of the ARRA.

4) Provision 504 - Stimulus for community development. Authorizes SBA to refinance a limited number of certain existing loans as new 504 loans. The criterion for the 504 loans has changes from creating one job for every $50,000 guaranteed to one job for every $65,000 guaranteed.

5) Provision 505 - Increasing small business investment. Increases the maximum amount of outstanding leverage available to a small business investment company (SBIC) to the lesser of 300% of the SBIC's private capital or $150 million.

6) Provision 506 - Business stabilization program. Creates a new program that allows SBA to guarantee loans of $35,000 or less to small businesses suffering immediate financial hardship and possess existing loans.

7) Provision 508 - Surety bonds. Increases the maximum contract amount for a SBA bond guarantee from $2 million to $5 million, in some cases as much as $10 million.

8) Provision 509 - Establishment of SBA secondary market lending authority. Primary requirements authorize broker-dealers that operate in the SBA 7(a) secondary market.

The incentives provided through these 8 provisions of ARRA do not represent the entire federal package of incentives provided to improve the economy. Other incentive programs address energy efficiency, defense contracting, and business & industry loan guarantees in other federal departments. ARRA's 8 provisions were the primary vehicle for promoting access to capital for small businesses, along with encouraging investment in the secondary loan markets. Each of these provisions offered an incentive to small firms in the private sector. All of the provisions provided a comprehensive menu of incentives that collectively, were designed to spur economic growth in the economy with access to capital as the vehicle for this process.

Data reported in the first quarter of 2010 suggests that the 7(a) and 504 loan markets had shown a recovery based on earlier numbers from the fourth quarter of 2008. The GAO report stated that 7(a) loans in the primary market doubled from an average of $650 million per month in the fourth quarter of 2008 to an average of about $1.4 billion per month in the third quarter of 2009 (GAO, 2010). These figures were higher than the average for the second and third quarters in 2008, and this suggests there is some evidence that the ARRA prescription for improving the markets for 7(a) and 504 loan products did improve. Sales for 7(a) loans on the secondary market tripled between the fourth quarter of 2008 and the third quarter for 2009.

According to the GAO there was a significant recovery in the markets for 7(a) and 504 loans throughout 2009 (GAO, 2010). The reasons for this recovery were attributed to the temporary elimination of fees on 7(a) and 504 loans. In addition, many participants in these programs referenced the credit market improvement as reasons for overall economic improvement. The Department of the Treasury cited the previous existence of TARP as a viable incentive as one reason for increased investor confidence in an already slow economy.

Another incentive the federal stimulus offered under the general provisions of ARRA was the America's Recovery Capital (ARC) loan program. Initially this loan program was off to a slow start. Many participants cited the small size of the loan amounts with a maximum of $35,000, the high costs associated with processing the loans, and SBA's stringent program requirements as the reason why this program did not get off to a great start. Others cited the confusion by bankers on the eligibility requirements and the definition of a viable business under the loan program provisions. However, most participants overcame these obstacles because by the end of the third quarter of 2009 approximately 2,904 ARC loans, totaling $94 million, were appropriated to address the new found demand for this loan product.

SBA's Small Loan Advantage (SLM) program provides access to capital for small businesses in underserved markets. The SLM is structured to encourage larger, existing SBA lenders to make lower-dollar loans, which often benefit businesses in underserved markets. Banks can finance loans up to $350,000 with an 85 % SBA loan guarantee on loans up to $150,000 and 75 % loan guarantee on loans greater than $150,000. SBA claims some loans can be approved in minutes while others can be approved in 5 to 10 days. The loan application is only two pages. SBA's loan guarantee programs have played a major role in sustaining and growing businesses during this period of economic stagnation. "SBA provided federal loan guarantees of more than $79 billion to more than 150,000 small businesses since 2009" (Butts, 2012).

Although SBA successfully incentivized small business lending under the federal stimulus plan by eliminating loan guarantee fees and increasing the loan guarantee amount to 90%, those incentives are no longer available. However, SBA has increased the 7(a) loan limit from $2 to $5 million, which went into effect with the Small Business Jobs Act of 2010 (the Jobs Act). The Jobs Act also directed the U.S. Department of the Treasury to make capital investments in eligible institutions to provide for increased access to credit for small business. An investment fund was created called the Small Business Lending Fund (SBLF). The SBLF provided $4 billion to qualified community banks, non-profit community development lenders, thrifts and bank holding companies with assets of less than $10 billion. According to the GAO, 332 banks with over 3,000 locations in 48 states have taken advantage of this stimulus program with 68% increasing their small business lending by 10% (GAO, 201 1).

The SBLF funding to banks is incentivized through an interest rate payable on the SBLF capital from 7% to as low as 1% based on the level of a bank's participation in the program. For non-profit lenders capital cost is 2% as these banks play a vital role in small business financing in distressed communities.

The SBLF Treasury program has been successful to a point based on the amount on increased small business lending by SBLF banks in comparison to banks who either do not meet the eligibility criteria to participate in the SBLF program or banks that otherwise elected not to participate in this Treasury program. According to the SBLF Program Reports the overall increase in business lending through SBLF banks was 2 1 .5% over previous year baseline levels as compared to non-SBLF banks whose business lending increased only 1.1%. Unfortunately of the $4 billion that was intended to be made available to banks for business lending only 1.8% was actually loaned out. The other $2.2 billion went to banks to pay off their Troubled Asset Relief Program (TARP) obligations (Maltby & Loten, 2012). SBLF banks make the case that paying off their TARP obligations freed up capital for lending. Nevertheless, the banks did not make the number of loans to businesses as was originally anticipated under the program.

Small businesses are also able to secure competitive financing indirectly through the U.S. Department of the Treasury's State Small Business Credit Initiative (SSBCI) funded by the Small Business Jobs Act of 2010. Under the SSBCI participating states will use the federal funds for programs that leverage private lending to help finance small businesses that are creditworthy, but are not getting the loans they need to expand and create jobs. States are required to demonstrate a minimum "bang for the buck" of $10 in new private lending for every $1 in federal funding. Accordingly, the $ 1 .5 billion funding commitment that the federal government has made for this program is expected to support $15 billion in additional private lending (U.S. Department of the Treasury State Small Business Credit Initiative, 2011). For example the California Small Business Loan Guarantee Program's State Assistance Fund for EnterpriseBusiness and Industrial Development Corporation - SAFE-BIDCO offers lender flexibility and lower guarantee costs. This program differs from federal loan guarantee products by permitting lenders to negotiate interest rates and allows in-house underwriting, all while also reducing paperwork to make the loan guarantee (Gneckow 2012).

Small business owners whose business is located in a county of less than 50,000 population can take advantage of the U.S. Department of Agriculture's Business and Industry (B&I) Loan Program to finance fixed assets and working capital. The B&I program is similar to SB A' s in that federal loan guarantees are provided to banks as an inducement to finance businesses. Total amount of B&I loan to any single borrower is $10 million with special exceptions requiring approval by the U.S. Department of Agriculture's administrator. Loans for real estate can go out to 30 years; machinery and equipment 15 years or the useful life whichever is the lesser; and working capital to 7 years. Interest rates are negotiated between the bank and borrower (U.S Department of Agriculture Business and Industry Loan, 2012).

BOOTSTRAPPING AS AN ALTERNATIVE TO CONVENTIONAL FINANCING

No longer can an entrepreneur go to their local bank and seek additional capital for their enterprise based on a handshake, family goodwill, and promise to do well in a struggling marketplace (Mount, 2012). Success in the business world is predicated on success in obtaining the financial resources necessary to establish and grow a solid business. The concept of "bootstrap financing" provides alternatives to accessing capital necessary to insure the business enjoys sustainable growth during times of prosperity and slow economic growth (Neeley & Van Auken, 2009, p.400). Timing is a key factor that can determine a business owner's level of success accessing needed capital. Obtaining financing is not done in real time. A business' internal management structure and strategies for retiring debt can cause some time challenges when it comes to accessing capital (Neeley & Van Auken, 2009, p.400). Lending institutions in the past could help with immediate capital needs or a simple line of credit to assist a business based on reputation. However, the stringent regulations tied to lending practices and usage of many federal incentive programs have caused business owners to consider "bootstrap" methods to access capital. Some of these "bootstrap" methods for financing are more expensive than traditional bank loans (Mount, 2012). However, business owners who need timely access to capital, in lieu of any federal incentives through guaranteed loans, have shown a willingness to take on additional debt service to access these loan products.

There are five basic forms of "bootstrap" financing that are used by small business owners and entrepreneurs to access capital. These basic methods are: 1) asset-based lending, 2) lease back, 3) cash advances, 4) nonbank loans, and 5) peer-to-peer loans.

Asset-based loans are one method where companies sell a considerable value of their receivables or invoices, as much as 80% to 90%, to a factoring company until these invoices are paid off. This allows a small business the opportunity to leverage financing by using purchase orders, contracts, or inventory as collateral to access the capital to sustain the business during times when quick turnaround on payment is absolutely necessary. Creditworthiness is the most important characteristic of a business that uses this type of financing method because a business' ability to leverage this product is determined by their ability to pay and not on the solvency of the lender (Mount, 2012).

Lease-back financing allows a venture to sell its real property and equipment at a healthy market price then lease it back from the purchaser for a significant length of time, usually between 10 and 25 years. This is a very healthy method for accessing capital for businesses that have a high investment in real property, warehousing, and equipment. Businesses will be responsible for a monthly lease payment in lieu of any loan payment that would be required to access this type of product.

A cash advance is a "bootstrap" method used by ventures that do not have wholesale invoices or real property they can leverage financing against. A cash lump sum is provided to the borrower to address capital needs. In turn the lender receives a percentage of daily receipts the business, plus a fee, until the debt on the cash advance is serviced (Mount, 2012).

Nonbank loans are offered by finance companies to seasonal-type businesses that do not have the financial wherewithal to meet a traditional lender's requirements. The method of financing helps small business ventures who get their loans called in during times when they need capital in a timely manner to maintain business operations. Usually the finance company received anywhere between 2% and 8% of the borrower's revenue. This can be costly because fees for nonbank loans can approach anywhere between 18% and 36% over a 12 month period.

Peer to peer loans are similar to angel investors. Small business owners provide financing to an upstart company based on the level of need and the creditworthiness of the borrower. Usually the money is used to purchase additional equipment or expand into new markets. This method too, can be an expensive proposition to an upstart business venture. Loans can range from 7% to 25% depending on the borrower's creditworthiness and the business' prospective growth (Mount, 2012).

Timeliness and creditworthiness impact a business owner's decision as to how they will access capital and which financing product they consider as they grow their business. Government loan guarantees and other incentives present a good intervention that encourages the flow of capital into small business ventures (Li, 1998). Whether it is a guaranteed loan or private financing, this enables the venture to increase its workforce, increase sales through higher production capacity, and make additional investments that will drive a recovering economy. Bootstrap methods of financing present some alternatives to accessing capital as well. There are significant costs differences between federal incentives and some of the bootstrap financing. These factor into consideration as a small business owner faces economic uncertainty during slow times. Whether through traditional commercial loan products, bootstrap methods of financing, or utilizing government incentives, it is certain that survival of small firms depends on the ability of a small venture to access capital in a timely and cost-effective manner (Neeley & Van Auken, 2009).

CONCLUSION

It is apparent that business pessimism about the state of the national economy is playing a bigger role in business decision making to avoid additional debt than is a lack of access to capital as the reason not to grow the business. Hints of patterns in the data emerged in this regard during analysis of the TSBDC - COHRE research discussed within.

There is ample evidence that federal incentives under the AARA generated economic growth through greater access to capital. The increase in SBA guarantee to lenders to 90% and the elimination of fees, generated interest in lending and business borrowing. Access to capital with very appealing terms and conditions did create demand for capital by the small business community. However, many of those stimulus initiatives have since ended and the credit markets with few exceptions have tightened for smaller firms. Businesses are again weighing the benefits of borrowing versus their pessimism over the state of the economy.

The National Small Business Association (NSBA) recently surveyed small business owners in an effort to understand why capital was harder to obtain. "Nearly one in three (29 %) of small-business respondents report that, in the last four years, their loans or lines of credit were reduced. Perhaps even more concerning - nearly one in 10 had their loans or lines of credit called in early by the bank" (National Small Business Association, 2012, p.2). The reason most cited by banking institutions for reducing credit lines of their small business customers was due to internal risk assessment. According a recent NSBA survey only 4% of those surveyed used SBA loan guarantees in the past 12 months (NSBA, 2012, p.4). SBA research also points to more stringent internal compliance issues involving the lender rather than low demand for loan funds. However, the recent reduction in demand for SBA loan guarantees is more likely than not attributable to the impact of the sunset of the AARA. The SBA loan guarantee program provisions under the AARA, which eliminated fees on SBA 7(a) and 504 loans as well as the decrease in the loan guarantee portion from 90% down to 75% created demand by small business for credit. Small business owners and lenders did not find it as appealing to seek SBA guaranteed loans once the stimulus provisions were no longer available.

Inconsistencies in the availability and duration of government stimulus related financing for small businesses has given entrepreneurs another reason to pull-back and reconsider growing their enterprise during a weak national economy. In order to have a sustainable positive economic impact on small business growth, stimulus programs must be available until improvements in the economy make such stimulus no longer necessary. Short term actions by government to buoy business growth during a long period of economic recession and slow recovery are counterproductive.

References

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AuthorAffiliation

Patrick R. Geho, Middle Tennessee State University

Jamie Frakes, Dyersburg State Community College

Word count: 5275

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Chapter 11 Managing to Maximize Firm Value

Learning Objectives

· To identify the key aspects of maximizing value

· To enact processes that will help create value

· To recognize and minimize risks to value creation

Case: Uni-Net

The year was 1992, and the company, Uni-Net, was just beginning to develop its strategy to grow and prosper in the long-distance communications space. There was substantial competition, with the largest competing firms being MCI, Sprint, and Williams Communications. But management at Uni-Net thought they had a winning strategy. Uni-Net management believed that they should not compete head-to-head with the major players in the industry but would focus on overlooked markets: markets in rural areas and markets where the large players were not active and did not have switching stations to aggregate customer calls and connect to the AT&T long-distance system.

In 1984, the monopoly that AT&T had on the U.S. telephone market was ended via a consent order in the U.S. District Court. AT&T was broken up into Regional Bell Operating Companies, Bell Labs, and a few other subparts. Among other things, the impact of this deregulation was that it opened up the long-distance market to anyone who could aggregate customer traffic by routing it to a local switching station and then, using that switch, to connect to and transmit over the AT&T national landline system to the final destination. This provided the opportunity for many to be a long-distance company and the impetus for many companies to enter the longdistance business.

These new entrant companies could provide long-distance service via their own local switching stations. If a customer wanted to make a long-distance call, then the customer would dial a local access number, be connected to the local switch, and then have the call sent to its ultimate destination via whichever long-distance network was available (usually AT&T). Such long-distance service was cheaper than sending the call directly over the old AT&T system because AT&T was now required, by terms of the consent agreement, to act as a common carrier and accept traffic from all competing service providers.

The value of being a long-distance aggregator was wholly dependent on getting as many customers as possible. The more customers the company had, the more value the company had to a strategic buyer. The largest companies in the industry were focused on the largest urban areas, where the bulk of the national market was. Uni-Net marketed itself in small-town environments, usually where there was a university or college. College students were both target customers and excellent part-time salespersons. It was a conscious strategic choice of management that once the customer base was built, the company would be very attractive to one of the big national resellers like MCI, Sprint, or Williams Communications.

However, during the build-up phase, management wondered what additional considerations they should be giving to both operational and financial issues to maximize firm value.

Whether the entrepreneur's goal is to exit the business, make a potential merger or acquisition, or simply expand the firm through steady growth, a continuous objective should be to maximize the value of the firm. Producing maximum value ensures that the entrepreneur does not leave anything on the table and that he or she is able to get the most for his or her efforts. In this chapter, we look at ways the entrepreneur can implement strategies to increase and maintain value and identify and control the risks that can be detrimental to value creation. Chart 11.1 presents a schematic representation of the material covered in this chapter.

Chart 11.1 Schematic of Chapter 11

Key Aspects to Value

While there isn't a “one-size-fits-all” approach to maximizing the firm's value, there is consensus in the academic as well as in the business community about measures that entrepreneurs can take to ensure the firm takes advantage of its full potential. The following are some key variables that entrepreneurs should pursue.

Certainty of Cash Flows

The certainty of cash flows takes risk into account. What is risk? In terms of modern finance, risk is the “volatility” of returns over time. By this standard, “risk” can be statistically determined. It is the measured probability that a company will not achieve the results expected. Remember that risk is not uncertainty. Uncertainty is not amenable to statistical determination. There was no way for Tokyo Electric Power to statistically forecast the tsunami of 2011, nor was there a way for Johnson & Johnson to predict the Tylenol murders of 1982. These events represent events that are classed as uncertainties, not risk. Despite the classification, both of these events had lasting impacts on the two firms.

According to financial theory, the value of any risky asset is the present value of its expected future cash flows. To find the present value of those cash flows, they are discounted by the appropriate cost of capital given the risk of the company, as discussed in Chapter 7 . Given this concept of value, it follows logically that given a fixed level of cash flow, if we can lower the risk-adjusted required rate of return at the firm, the higher its value will be. To maximize firm value, it is crucial to lower the firm's risk profile.

Inherent in the financial notion of risk is the concept of variability of returns over time. In the case of an entrepreneurial firm, given more variability in expected cash flows, in the eyes of investors, the firm will appear riskier. This higher perceived risk will in turn increase the required rate of return and decrease the value of the firm. An entrepreneur can reduce this risk and maximize firm value by consistently meeting cash flow projections.

A history of meeting cash flow projections will establish that the company has lower volatility than it may first have appeared to have. This technique is effective at enhancing firm value because of the measurable impact that meeting the firm's cash flow projections has on the variability of financial outcomes. Outcomes that are close to expectations are considered less variable if they closely adhere to projected results. While variability may occur, if outcomes are close to projected values, the variability will not be significant compared to management's and investors’ expectations.

Grow the Firm

With the advent of social media, growth has taken on a new meaning. Sometimes investors are willing to overlook growth in the top (sales) and bottom line (net income) and focus instead on growth of the firm's user or customer base with the intention of monetizing the client base in the future. This is the case of the mobile messaging service WhatsApp. While sending instant messages within the United States has always been easy and inexpensive, messaging internationally has historically presented challenges. Cell phone providers usually have a presence in just a few countries, and in the past, communicating between platforms has been nearly impossible and expensive.

In 2009, WhatsApp founder Jan Koum created a cross-platform messenger service that allows users to communicate via the app for 99 cents per year, bypassing wireless carriers that may charge users 99 cents or more per message to use their networks. WhatsApp technology proved especially beneficial in places with a high degree of international communication and fragmented cell phone service like Europe, Asia, and Latin America. As anticipated, the WhatsApp's user base grew exponentially, at times adding 50 million people every 2 months. Its user base reached 200 million in April 2013 and grew to 400 million just 8 months later (Winkler, 2013). Despite its tremendous user base, Mr. Koum sacrificed immediate revenues and earnings and focused instead on building a robust client base. In February 2014, Facebook agreed to buy WhatsApp for $19 billion, a record for any startup. The motivation behind Facebook's acquisition is not WhatsApp's relatively small earnings but the exponential growth of its user base that it expects to monetize in the future.

While revenue and earnings growth are important for the success of an entrepreneurial firm, growing the customer base is critical to maximizing the value of the firm. Virtually all valuation models favor growth. As was the case at Uni-Net and WhatsApp, customer base is extremely important when building and maintaining value. Often startups and early stage firms have not yet had time to build the other accepted measures of firm value, such as customer growth, positive cash flow, and EBITDA (earnings before interest, tax, depreciation, and amortization). Because these other determinants of value are lacking, it should be remembered that growing a customer base is one firm-specific characteristic that is available to all firms, even early stage ones.

Market Position is Important: Document and Publicize your Success

Some firms use their market position to command premium valuations. While the firm's revenues might not be impressive, the market's view of the firm's market share, brand, and growth create a positive view of the firm's ability to produce superior profits in the future. Facebook is an example of a firm that used its market position to receive a premium valuation. Facebook started in 2004 as a social media site intended for universities in the Boston area. Facebook gradually increased its presence to universities and high schools throughout the United States. In 2006, the company allowed anyone older than 13 years to open an account. By promising to keep its services free, the company gained a huge market share from other social media sites that charged a fee for its premium services. At the end of 2006, Facebook had 12 million users.

Facebook repeatedly publicized its market share to businesses as a way of attracting them to advertise on the site. In 2007, the company created an ad platform to attract businesses to market on their site. The site's technology allowed for targeting of customers by characteristics like age, gender, and geography. Facebook reached 100 million users in August 2008. By July 2010, the site had reached 500 million users and had surpassed Google as the most popular Internet site. Despite its vast user base, the company's revenue was far behind that of Google. In 2009, Google's revenues were $24 billion, while Facebook's revenue was only $800 million.

The company focused on gaining market share, and by the time the company went public in May 2012, Facebook had gained over 900 million users. Prior to the initial public offering (IPO), the company reported revenues of just over $1 billion while net income was $205 million. The original IPO price was $38 per share, which translated into an extremely high price to earnings (P/E) ratio of 107 (Raice, Das, & Letzing, 2012).

Build Intangible Value and Organization

Key to any organization's value is the worth of its intangible property and the value of its organizational structure and style.

Intangible Property. As indicated in the chapter on valuation, intangible property is valued differently and separately from the other parts of the firm. Because the value of intangible property is independently derived, it is worth the firm's effort to document and develop any intangible property it might have. It is also significant that intangible property often has value that can immediately be realized outside the context of the firm's current ongoing activity. Patents, proprietary processes, customer lists, and unique service capabilities may have value to outside firms that will pay to license the capability to use in activities that are noncompetitive to the licensor (i.e., firm that owns the intangible property).

A good example of this kind of secondary use of intangible property involves Strum Ruger & Company. This firm is a well-known sporting firearms company. The company has unique patented processes for performing certain CNC (computer numeric controlled) machining processes. The company has established a separate subsidiary to take advantage of these processes and will license or do CNC work for third-party firms.

Firms that have any form of intangible asset should be looking for ways to document and use the value. Following is a list of procedures that a firm with intangible assets can use to do this:

1. Patent patentable processes.

2. Register copyrights and trademarks.

3. Document all proprietary processes.

4. Keep customer lists in usable and updated form.

5. Have all personnel execute confidentiality agreements.

6. Do periodic searches for third-party misuse of firm intangibles.

A Flat, Flexible Organization with a Productive Workforce is Valuable

The importance of a flat and flexible organization cannot be overstated. A firm with these attributes is able to recognize trends and adapt quickly to take advantage of them while delivering the highest returns possible. Key to achieving this is having a flexible workforce and cost structure. Not only does this keep material and payroll costs down (and profits up), but it also allows firms to be early market entrants responding to opportunities to take advantage of growth.

A flat organization is one that strips away layers of middle management, removes complex business structures, and gives greater responsibilities to lower-level employees. Firms that limit the unneeded layers of management (and the bureaucracy that comes with them) are more capable of listening to the needs of the customer. A flat organization helps ensure that lower-level employees, who communicate most often with customers and who are in the best position to understand market trends, quickly make customer-related decisions. Importantly, research has shown that employees in flat organizations are more satisfied with their jobs (Willems, 2014). It is important to make a distinction between a manager-less firm and a management-less firm. Although there may be a reduced need for managers under this approach, there will always be a need for some more democratic form of management.

Have a Competent, Productive Workforce. Ideally, entrepreneurial firms will hire only the most essential and capable employees needed to grow the business. The firm cannot afford to have incompetent people handling the most critical decisions at this vital stage of firm development. Nothing is more frustrating to potential investors than looking at the management of the firm and realizing that all key positions are held by family and friends of the owner. Investors are usually looking to have the best qualified persons with expertise in the relevant fields in key roles. Showing nepotism indicates a motivation to serve personal interests and not the interests of the company.

Make Costs Reactive to Sales. One approach to creating an adaptive cost structure is to have more variable costs and fewer fixed costs. Because variable costs are incurred only when there is actual production, a firm is able to limit unnecessary expenses if sales become a problem or decline. Since fixed costs are incurred regardless of sales or production, having more fixed costs impedes the firm from lowering costs in times of declining revenues. While it may seem logical for the firm to use variable costs to the greatest extent possible, fixed costs offer the benefit of operating leverage, which can greatly improve the firm's bottom line. The trade-off between more operating leverage and its risk is explained in detail later in this chapter. However, at least in the early stages of development, keeping operating leverage low is usually a good idea.

Entrepreneurs should be aware of any impact technological advances have on their operations. One of the consequences of rapid technological advancement is the shrinking product life cycle. It is estimated that 50% of annual company revenues across a range of industries are derived from new products launched within the past 3 years (Horn, 2014). This suggests that long-term product “cash cows,” which stay in a company's portfolio for many years, are becoming less and less relevant. A firm can no longer afford to invest too heavily in profitable ventures, as these may become obsolete very quickly. By limiting investments to purchasing only enough capacity to meet customer demand and keeping up with technological advances, the firm is able to create a flexible organization with adaptive costs.

On the plus side, advances in technology enable firms to create more adaptive supply chains that rapidly adjust to changing requirements based on real-time demand signals. Automation of any supply chain task is likely to produce a more efficient and less costly process of meeting demand. New technology also allows firms to continually revisit sourcing strategies for new, lower-cost supply sources.

Update the Firm's Planning Model

As previously mentioned, technological advances are reshaping the competitive landscape. This changing environment means that accurate demand planning and forecasting have never been more imperative. Reacting to new information more quickly than competitors allows the firm to quantify the impact and react accordingly. The output of any projection model is only as good as the inputs that go into it. In order for the firm to make better projections on sales, costs, and cash flows, it must continuously adjust the planning model to reflect new information, such as changes in trends or unanticipated costs. In addition, firm projections should “work” the way the firm works. So if a firm's policies or procedures change, so should the firm's model for making projections.

Develop a useful Historical Database

Developing a planning model that functions like the firm is initially difficult due to the lack of historical data. The entrepreneur is faced with having to make many assumptions that often are guesses, at best. As the firm progresses, it can rely on its own historical performance to update the planning model. Developing a historical database allows the entrepreneur to mine the data for information. This new information can help entrepreneurs identify patterns such as seasonality or preferences among various demographics based on empirical evidence. As more historical data are integrated into the planning model, the entrepreneur can produce a more accurate planning model that has improved power to project results and be the basis for estimating firm value.

Management must be Held Accountable for Results

In conjunction with good operating and financial processes, the entrepreneur will need to assemble a capable management team to assist in maximizing firm value. Whether intentionally or not, managers sometimes use the resources of the firm to maximize their own self-interests at the expense of the firm. This problem is referred to as agency risk. Leaders and boards of directors at entrepreneurial firms need to understand that solving this problem is one of their most important tasks. The problem is best solved by instituting a system of accountability and pay that aligns the interests of the managers with the rest of the stakeholders of the firm. While simple in theory, in practice the task can be arduous.

1. The entrepreneur must assign identifiable and measurable objectives and responsibilities that contribute toward the value of the firm. The board should seek managers’ commitment to these goals. It is easier to get commitment when managers understand two things: how the goals benefit them personally and how the goals benefit the firm.

2. Progress needs to be measured periodically and continuously to discover any deviations, whether positive or negative.

3. Feedback needs to be provided on ways to improve performance when it is falling short of management's expectations. It's important to remember that feedback is not only for problem areas; praise for good performance is also a valuable feedback tool. To be effective, feedback should be as close to the measured event as is possible.

4. Linking consequences to results provides external motivation for managers to meet their commitments.

5. Evaluating the effectiveness of the overall system in maximizing firm value usually reveals areas for improvement at the organizational level.

Tailor Pay and Incentives to Results

Linking a manager's compensation to meet the firm's objectives has been a popular strategy for aligning interests; managers will be financially motivated to perform if their results support the long-term interest of the firm. This can be accomplished by setting manager salaries at relatively low levels while giving bonuses based on milestones reached. While salaries should be only a small percent of total potential compensation, bonuses and stock options need to be structured to make up the rest. If certain results are met, such as a certain percent increase in earnings or reaching a threshold in the value of the firm, then managers are entitled to a bonus or additional shares. Zingheim and Schuster (2000) describe this “total rewards system” in their book Pay People Right!

Entrepreneurs need to carefully address potential conflicts of interest that pay-for-performance systems can create if the goals are not properly considered. Performance goals that focus on short-term results can lead managers to create unsustainable growth that allows them to reach their goals while not benefiting the firm in the long run. Goals should be set so that the quality of firm performance remains high. This means that results will not come from measuring leverage or manipulating costs but from sound fundamental achievements, like higher margins or better turnover rates. Otherwise, managers may be tempted to manipulate variables to make it seem like results are being met. Some companies now defer payments of bonuses or other incentives by up to 5 years to make sure that the results achieved are sustainable.

Lower the Risk Profile

Maximizing firm value can be divided into three components: maximizing growth, maximizing profits, and minimizing risk. In the first part of this chapter, the focus was on ways of achieving growth and profitability. We now turn our attention to minimizing risk as a source of value creation. While strategies for minimizing risk are not considered as “exciting” as growth strategies, they are nonetheless just as important.

As mentioned previously, risk is commonly defined as the variability of outcomes over time; the greater the variability, the greater the probability that the firm will not achieve results. Risk is a statistical concept. While having a robust planning model can help the firm minimize risk, it is impossible to incorporate all possible outcomes into a projection based on a statistical perspective. This often leads entrepreneurs to underestimate the range of outcomes. An entrepreneur's view of future events tends to be incomplete and slow in adapting new information (Courtney, Kirkland, & Viguerie, 1997). Making sound strategic decisions under conditions of risk argues for analytical rigor with respect to the planning process. Rarely do managers know nothing about their risky environment, even in the most volatile environments. The models of risk assessment described below are powerful tools to incorporate into the firm's planning process.

Liquidity Risk

In Chapter 4 on financial ratio analysis, liquidity was described as the extent to which a company is able to meet its short-term obligations by using its short-term assets (i.e., assets that can be readily transformed into cash). Working capital management refers to the ability of a firm to generate cash when and where it is needed. The goal of effective working capital management is to ensure that a company has adequate access to the funds necessary for the day-to-day operating expenses, while at the same time making sure that the company's assets are invested in the most productive way.

Liquidity contributes to a company's creditworthiness, or the perceived ability of the borrower to pay what is owed in a timely matter. Creditworthiness allows the company to lower borrowing costs and obtain better terms for trade credit. Because debt obligations are paid with cash, the company's cash flows will ultimately determine solvency. Liquidity risk is the risk a company may fail to meet its short-term obligations.

A firm's liquidity risk can be measured by calculating its liquidity ratios. Recall from Chapter 4 that the two most important liquidity ratios are the current ratio and the quick ratio. A firm with low liquidity ratios risks is usually able to cover its working capital needs. The following are some steps that can be taken to minimize liquidity risks:

1. Where possible, appropriate discounts for early payment on accounts receivable invoices should be given.

2. Collect accounts receivable with the highest possible efficiency.

3. Pay collections personnel bonuses based on how well they maintain a low days-sales-outstanding ratio.

4. Where possible, ask suppliers for more moderate terms with respect to making payments on accounts payable.

5. Keep inventory as low as possible.

6. Consider using a just-in-time approach for maintaining inventory.

7. Pay production personnel bonuses on how well they maintain a high inventory turnover ratio (and thus a relatively low inventory turnover ratio).

Operating Leverage

Operating leverage is a type of risk that is attributed to the operating cost structure of the firm. In particular, it is the use of fixed costs as opposed to variable costs in its operations. A firm's total costs are made up of variable costs and fixed costs. Variable costs, which are costs that change in proportion to the producing and selling activities of a business, are incurred only if there is production or sales activity. Fixed costs, on the other hand, do not vary directly with the production or sales process. Examples of fixed costs include rent or lease payments on machinery or equipment, rent, and salary expenses of supervisors. The greater the fixed operating costs relative to variable operating costs, the greater the operating leverage.

As an organization employs a higher degree of fixed costs in its cost structure, its operating leverage will increase. Operating leverage is greatest in firms where total costs are a function of a relatively large proportion of fixed costs and a relatively low proportion of variable costs. The result of having a high operating leverage ratio is that the firm's breakeven point rises. Operating leverage acts as a drag on the firm's ability to generate an increase in net income when sales revenue increases; the greater the proportion of fixed costs versus the firm's variable costs in the firm's cost structure, the greater the impact on profit given a percentage change in sales revenue. With relatively high operating leverage (and thus low variable costs), each unit of sales will provide a higher contribution margin.

A measure of operating leverage is degree of operating leverage (DOL), which may be calculated as follows:

The easiest way to calculate this is as follows:

where

· Price = price per unit sold;

· VC = variable cost per unit sold;

· FC = total fixed costs;

· Units = units sold.

If the DOL is high, then even a small percentage change in sales can produce a big change in operating income. While a high DOL is beneficial if sales are increasing, it can be detrimental if sales are falling. Managers should remember that high operating leverage creates high volatility of net profit, especially at sales levels near the firm's breakeven point.

As mentioned, a firm's operating leverage also affects its breakeven point (i.e., the number of units that must be produced and sold so that the company's net income is zero). The breakeven point can be thought of as the point at which revenues are equal to total costs. It may be calculated as follows:

where

Managing cost structure and operating leverage is a cost-benefit issue. A company with high fixed costs, and therefore high operating leverage, can generate a large percentage increase in net income from a relatively small percentage increase in sales revenue. On the other hand, a firm with high operating leverage has a relatively higher breakeven point, or operating risk. The optimal cost structure for an organization involves a trade-off. Management must weigh the benefits of high operating leverage against the risks of large committed fixed costs.

Financial Risk

Financial risk refers to the use of debt to finance a firm's operations. Debt allows equity holders to generate a greater return on their investment by being able to increase income-producing assets with the same level of equity by borrowing additional capital. Remember the accounting equation:

While adding debt to the capital structure of the firm has benefits, such as a lower cost of capital and tax deductions on the cost of debt (i.e., tax deduction on interest), adding too much debt poses risks. The more debt the company has, the higher the risk that the firm will not be able to pay its debt obligations. Given the nature of debt, payment of debt has the first claim over the firm's income and assets.

A measure of financial risk is the degree of financial leverage (DFL). DFL explains the impact that a change in operating profit will have on earnings, and EPS is the earnings per share.

The easiest way to calculate this is as follows:

where

A high DFL indicates that for a given change in operating income, there will be a relatively large change in EPS. The benefits of having high financial leverage when operating income is rising is, to a large extent, offset by the risks of having high leverage when operating income is falling. As with degree of operating leverage, a firm must balance the goal of increasing returns on equity by using debt and the risk of incurring too much debt and thus increasing the risk of lower credit scores or even insolvency.

Worst-Case Scenarios

Although it's difficult to expect the unexpected, the entrepreneur must consider the whims of nature along with the risk and consequences of a catastrophic event. A firm that is unprepared for dealing with worst-case scenarios can see its operations brought to a halt in an instant, sometimes to the point of failure. A firm can lessen the impact of such events by undertaking systematic analysis of its status in the industry and community and attempting to build firm capabilities that are robust enough to withstand unexpected events. Some industries, like investment advising, are required by law to have disaster recovery plans. In general, such recovery plans include the following:

1. Routine backup and offsite storage for business records

2. Proper insurance for the various business assets of the firm (including business continuity insurance)

3. Preidentified alternative locations from which to work or produce

4. Preidentified means of shipping and receiving product

5. Employee training with respect to the implementation and execution of contingency plans

6. Preplanned method of notifying customers, regulators, and suppliers of the firm's status

This type of planning, while important, does not create immediate value, but it does tend to preserve value in the face of external events that would otherwise serve to diminish or destroy firm value.

Risk Assessment as a Routine

Risk assessment provides a mechanism for identifying which risks represent opportunities and which represent potential pitfalls. Done correctly, a risk assessment gives a firm a clear view of variables to which it may be exposed, whether internal or external, retrospective or forward looking. A robust risk assessment process, applied consistently throughout the life of the firm, empowers management to better identify, evaluate, and accept risk in the daily course of business, even while maintaining the appropriate controls to ensure effective and efficient operations and regulatory compliance.

For risk assessments to yield meaningful results, certain key principles must be considered. A risk assessment should begin and end with specific business objectives that are anchored in key value drivers. For example, should the firm enter a new market, should the firm invest in a new production process, or should the firm expand its capacity? These objectives provide the basis for measuring the impact and probability of adverse impacts on the firm. Governance over the assessment process should be clearly established to foster a holistic approach and a portfolio view of the organization's overall risk appetite and tolerance. Finally, assessing leading indicators enhances the ability to anticipate possible pitfalls and opportunities before they materialize. With these basic principles in mind, the risk assessment process needs to be periodically refreshed to deliver the best possible insights.

Models, such as back testing and simulation, estimate both the likelihood and impact of events, whereas nonprobabilistic models like stress testing measure only the impact and require separate measurement of likelihood using other techniques. Nonprobabilistic models are relied on when available data are limited. Both types of models are based on assumptions regarding how potential risks will play out.

Back Testing

Back testing is the processes of using a model or technique developed today that uses historical data to help understand the range of potential outcomes. Back testing uses historical data to evaluate how a projection designed for use now would have explained past results. A key element of back testing that differentiates it from other forms of historical testing is that back testing calculates how a strategy would have performed if it actually had been applied in the past.

Back testing requires building a model with sufficient detail so as to “work” the way the firm works. Back testing, like other modeling, is limited by potential overfitting. That is, it is often possible to find a process that would have worked well in the past but will not work well in the future. Despite these limitations, back testing provides information not available when models and strategies are tested on data that themselves are not historical in nature.

Sensitivity and Scenario Testing

Sensitivity and scenario testing is another tool a firm can use to assess risk. In this type of test, key risk factors such as price, volume, and quality level are “stressed” or given values beyond their normal operating ranges, or they are given values based on an expected future set of conditions. One variable at a time is changed to assess the impact of that single variable on the firm; the technique is called a sensitivity analysis. When the analyst varies a number of variables so as to approximate a particular business condition, then the technique is called a scenario analysis. The goal is to discover the impact on the firm if the selected risk factors hit abnormal levels. The test may also uncover deficiencies in processes and systems that may cause unexpected problems.

Sensitivity and scenario testing has several strengths. It is easy to set up—one only needs to give extreme or expected values (given a specific scenario) to inputs in the firm's planning model and analyze the results. It exposes hidden problems that can be dealt with early. It reveals the inherent structural limitations of a system that allows operating parameters to be set more realistically or the system to be redesigned. It can also be used by audit and internal controls to evaluate existing controls.

Sensitivity and scenario testing does have limitations. This type of test estimates the impact of an event, not its frequency, and therefore captures only one dimension of risk. It is usually focused on an extreme event or a set “scenario.” This technique considers complex effects of combinations and relationships between variables to the extent they are understood. The choice of factors to stress or vary and the linkages between these factors are subjectively but logically assigned. It is critical to the scenario technique that input variables be varied logically in a manner calculated to produce results that are descriptive of an extreme event or sets of circumstances.

Simulation

Simulation is an iterative process that allows testing for many scenarios without requiring the construction of or experimentation with the real system. Simulation is the process of creating a model where each variable varies within a selected range of outcomes and with a specific standard deviation. The purpose of simulation experiments is to understand how a system would react to changes in its variables if the changes in each variable were independent and disconnected to the movements in every other variable; they vary based on the probability of their independent distributions.

Simulation offers several advantages. The simulation model is interesting in that it allows for simultaneous and independent changes to multiple variables to study the results. It can also be used to reproduce large and complex situations that may affect the integrity of the firm. The disadvantage of simulation is that it is not connected directly to any specific real-world event or sequence of events. The simulation requires a specialized computer program and knowledge of the historical distribution levels of various input variables.

Summary

The single most important thing about managing to maximize firm value is to pursue excellence in the creation, production, and delivery of the firm's products and/or services. It is important that the firm view value through all the lenses that it has available. Viewing the various key aspects of value beyond the product creation and sales cycle will provide management with an additional edge when it comes to maximizing the firm's overall value. The act of considering these additional key aspects of value will help prepare the firm and its personnel to weather turbulent future conditions.

: Business Financing Grading Guide

Purpose of Assignment

The purpose of this assignment is for students to access the U.S. Small Business Administration (SBA) website for the purpose of discovering various sources of financing for their proposed business. Also, the mix of equity and debt financing should be considered. Students will also grasp the single most important thing about managing to maximize firm value which is to pursue excellence in the creation, production, and delivery of the firm's products and/or services.

Assignment Steps

Resource: The U.S. Small Business Administration (SBA) website is perhaps the most valuable resource for any new entrepreneur in America for all aspects of starting, operating, and growing a business, and it would help the students in this class to use like a handbook. It is especially useful in learning more about financing a business and obtaining a loan.

Assess stages of financing in a minimum 1,400 words which includes the following:

· Explain the different stages of financing.

· Analyze sources of financing through the lifecycle of a firm.

· Assess the trade-offs between debt and equity financing for an entrepreneur.

Cite a minimum of one peer reviewed reference from the University Library.

Format assignment consistent with APA guidelines.

Submit your assignment.

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