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STEP 1: Get Educated on Finance and Capital

The first step to gaining access to capital is to make sure you fully understand your business and all of the options available to you. Before making any capital or finance agreement, you should be able to answer the following questions about your business?

  • What do I plan to use the capital for?
  • What are the available types of capital for my business needs?
  • How much capital have I borrowed already from other sources and at what rate?
  • What is the highest rate I am willing to accept for capital at this point in time?
  • What is the total debt to EBIDTA for my business?
  • What is the EBIDTA to total debt service for my business?
  • What is my weighted average cost of capital (WACC)?
  • What is the current capital structure of my business?

You may not know the answer to all of these questions and that’s OK. This website provides an introduction to the types of capital that may be available to your business as well as some of the typical uses of capital amongst businesses that we deal with.

If you have any questions or just don’t know where to get started, don’t hesitate to contact us.

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The Process for Gaining Access to Capital

Most questions related to finance and capital do not have simple answers so you may be asked for more information or redirected to another resource whose expertise is more appropriate to address your needs. The following are the general steps that you will need to follow:

The first step is to get educated so that you understand where your company stands at present and thus what kinds of capital it can access.  You will learn the difference between the five major forms of capital as well as all the vernacular used throughout the fundraising process.

Next you need to be clear about the intended use of the capital you seek. We have listed nine typical uses of capital.  This is not an exhaustive list but it does provide you with an idea of what those with capital are looking for when you inquire about capital.

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Determining How Much Safety Capital You Have

Do you have enough safety capital? Are you prepared?

The last 2 years have seen balance sheet strength as an important business issue. Many banks (including the Lehman Brothers, Bear Sterns, etc.) failed due to liquidity issues. The issue of liquidity arose from a fundamental mismatch of the duration of assets and liabilities. Wikipedia defines liquidity as “the ability to meet obligations when they come due”. This is different from solvency which is defined by Wikipedia as “the ability of a corporation to meet its long-term fixed expenses”.

Liquidity can be measured using a number of financial ratios. Commonly it is measured using the current ratio (current assets / current liabilities). A more detailed view would look at the liquidity of specific assets in a business with the shortest duration assets being the most liquid against the most immediate creditor requirements. For example, cash is more liquid than accounts receivable. The following chart gives some examples of liquidity with estimated duration.

At the best of times matching the duration of assets and liabilities can be a difficult task because by their very nature, current assets and liabilities can fluctuate greatly. Corporations that have withstood the test of time employ a surplus of liquid assets which creates a safety margin for the business. How much safety capital is required depends on the certainty of your business liquidity and solvency measures. As part of each Company’s risk management strategy, the probability of the failure in any asset or acceleration of any liability and the severity of such a failure or acceleration should be assessed to determine the level of safety working capital that is needed to avoid potential liquidity shortfalls.

Examples of an asset failure include the failure of a customer to pay on time or at all or the loss of business equipment from an accident. Acceleration of liabilities could include things like legal judgements against the company, environmental liabilities and acceleration of debt. It should be noted that most Canadian term debt facilities are due upon demand of the bank at any time and as such if treated in accordance with Canadian GAAP and incoming IFRS may be classified as a current liability potentially adversely changing a Company’s current ratio tripping a banking covenant. Three to six months of excess working capital represents a good start from a safety capital perspective. This time frame varies with market conditions, but is usually sufficient to liquidate some assets (although perhaps at a loss to book value) or to seek refinancing or outside capital to recapitalize a business.

Fundamental mismatches between assets and liabilities can be dire for a Company without a strong balance sheet. The recent liquidity crisis and unprepared companies have shown that the consequences of such mismatches can be dire. Most of us have used a line of credit (personal or business) to buy a longer duration asset and are guilty of a mismatch.

Let us help you answer those key questions: Do you have enough safety capital? Are you prepared?

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Frequently Asked Questions About Structuring Finance

How is capital structure calculated?

Capital structure is the percentage that each capital component represents of the sum total of a corporation’s complete financing structure.

Why is it important to understand a corporation’s WACC figures?

Understanding a corporation’s “Weighted Average Cost of Capital” allows management to better understand the cost of each dollar of financing. Understanding the cost of financing allows the management team to make better choices when strategizing on how to raise capital.

How does the amount of working capital affect a business?

In order to be able to operate, a corporation must have enough working capital to pay its obligations and cover the costs of its financing. If a corporation’s current liabilities are greater than its current assets, it is described as having a working capital deficiency.

How is mezzanine debt different from other forms of capital?

Mezzanine debt is difficult for many to understand because it shares characteristics of both debt and equity financing. Mezzanine debt is a form of hybrid capital and is often used when restructuring the ownership of a corporation.

What does the term “leverage” mean when used in the context of financing?

A company is considered highly leveraged when its financial structure has a significant amount of debt financing. This high-level of debt signifies that financiers have leverage over the existing corporation.

When is mezzanine debt most commonly applied?

Mezzanine debt is often used during changes to a corporation’s financial structuring. Mezzanine debt can be easily converted into stock and often has characteristics of debt equity. This makes mezzanine debt attractive and financially rewarding but also poses a slightly high-risk for the lender.

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What is International Growth?

Many companies have been taking their business into foreign nations. Whether it be an operational move to produce products at a lower cost or a marketing strategy which involves selling an existing product to a new market, international business is and will continue to be on the rise.

This growth in international business (also called globalization) has been attributed to many factors including changes in technology, politics, economics, competition, labour and other costs, education and skills, environmental pressures, foreign exchange markets, import and export regulations, trade agreements and even the weather.

The following are the 6 most prevalent reasons for why a company might want to move a portion of its business into another country:

  • Technology has allowed for improved logistics and thus reduced shipping and transportation costs as well as improved communication between remote teams of workers around the world.
  • Governments are becoming more cooperative as they recognize the benefits of international trade and thus remove restrictions and work together to solve issues that span across borders.
  • Infrastructure in foreign countries continues to improve thus allowing companies to more readily conduct business within and across borders.
  • Consumers, primarily due to the internet, have greater access to information about products and services and thus are demanding or directly purchasing goods from other nations.
  • Competition is forcing companies to continuously reduce costs which is driving many production facilities as well as services offshore.
  • New Markets all of the above factors have allowed companies to then offer their existing products and services to entirely new foreign markets.

It is undoubted that international business will continue to rise as our world continues to become more accessible for businesses. In order to fund this international growth, many businesses will use a combination of senior debt, mezzanine debt and equity.

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