How To Raise Money in a Recession

How To Raise Money in a Recession

Here are eight ways to raise capital in a tight economy.

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There have been 11 recessions since 1948, occurring about once every six years. Periods of economic expansion are much more varied and have lasted as little as one year and as long as a decade. The average recession before 2007 lasted about 11 months. The Great Recession, which began in December 2007 and ended in June 2009, lasted 18 months and recorded the largest decline in output the country experienced since 1960 (IMF). The 2020 COVID recession lasted just two months but broke the record for longest expansion in U.S. history. Regardless of where we are in the economic cycle, we are either recovering from or headed to a recession. A constant during either period was that people were still starting new businesses. In fact, often the best new businesses get started when a smart, ambitious, and entrepreneurial person gets laid off from an existing business due to downsizing during economic contraction. If you’ve become part of this brave and bold crowd during an economic downturn, you are not alone. You represent the entrepreneurial American spirit that burns in the hearts of many. But to realize your dream, you need money. How do you get it? Below I discuss the top eight ways you can raise money in a recession (or any economy).

1. Bootstrapping    This is probably the most obvious way to finance any new business. Bootstrapping is the process of funding your business yourself, without outside investment. In addition to your savings, there are other ways to get creative with your assets. If your new business will start out as a side hustle, a loan from your 401(k) may be an option. Be aware that every employer's plan has different rules for 401(k) loans, so find out what your plan allows. You could also take a direct withdrawal from your 401(k), but I don’t recommend this as it will trigger taxes and penalties making it a bad financial decision. If you have significant retirement assets in your IRA, you can look into getting a Rollover as Business Startup (ROBS). A ROBS is not a loan or a self-directed IRA, but allows you to access your money from your IRA penalty-free. The process involves setting up a C Corporation, then establishing a 410(k) retirement plan and rolling over existing retirement assets into the new retirement plan that then invests the money into the stock of the new C Corporation. This can be a complicated and tricky process, so it’s best to hire an expert if you are considering it as an option. You can also leverage your home’s equity. If you have owned your home for some time, there may be home equity that you can borrow to fund or invest in your new venture. You can do this through a Home Equity Line of Credit (HELOC). HELOCs are very common, and you can learn more by visiting your local bank branch or their website. In general, bootstrapping is a good option for businesses that have relatively low startup costs or that can generate revenue quickly.

2. Friends and Family      Friends and family loans may be available when other types of financing aren’t, but they do require some precautions. Friends and family loans or direct investment by friends or family members has been used to launch many successful businesses including Walmart, Motown Records, and Amazon, to name just a few. Loans or investment into a business by friends and family can be a good source of early-stage funding, especially if you have a strong personal network. There are many pros and cons when looking to fund your business using money from your friends and family. On the pro side, such loans typically have no credit checks, can have low or no interest rates, and allow for flexible repayment terms. It all depends on what you can negotiate and the generosity of those funding. On the con side, the funding may be smaller than what you could get at a bank, and if things go south with your venture, it could damage relationships. It is hard to look Uncle Frank in the eyes at Thanksgiving dinner if you lost his money. If after weighing the pros and the cons you believe funding through your family and friends makes sense for your business, it is important to be clear about the terms and to have a written agreement in place.

3. Angel Investors      Angel investors are individuals who invest their own money in your business. They are typically wealthy private investors focused on financing small business ventures in exchange for equity. Unlike a venture capital or private equity firm that raises money from other investors and then uses that capital to invest in a business, angel investors use their own net worth to invest in your business. Funding your business using an angel investor has some distinct advantages. They may be more patient with entrepreneurs and open to providing smaller dollar amounts for a longer time. For this flexibility and acceptance of increased risk, an angel Investor typically wants 10% to 50% of the business in exchange for the funding. That means business owners could lose control of their business if the angel investors determine the owner is keeping the company from succeeding. Angel investors are often looking for businesses with high growth potential and can be a good source of funding for businesses that have a clear business plan and a strong team.

4. Venture Capital (VC) Funds       Like angel investors, VC funds tend to invest in startups and early-stage businesses. They are typically looking for businesses with a large addressable market and a clear competitive advantage. VC funds are professional investors who must earn a consistently superior return on investments in inherently risky businesses. More recently, VC funds have focused on certain industries or niches in which they can gain deep knowledge and expertise to help mitigate that risk. You will need to have a good business plan and be able to convey your value quickly. Make sure your business is ready, commercially viable, and preferably scalable, before approaching VC funds looking to raise capital. To find VC funds who may be interested in investing in your business, you can start on the internet looking for online platforms and investor databases. There are also venture capital associations located in various cities around the country. These are all good sources, but when looking to fund your business nothing beats networking at industry events and asking your social network for introductions.

5. Government Grants and Loans     Believe it or not, the government wants to fund your new business. In fact, the Small Business Administration (SBA) is set up to do just that through different types of funding programs. Through its participating lender partners, the SBA offers loans for variant needs through its flagship 7(a) program that offers loans up to $5 million; 504 Loans for real estate, equipment, machinery, or other assets; and microloans for those needing less than $50 thousand to start their business. If you prefer equity funding for your business, the SBA has 300 Small Business Investment Companies (SBICs) licensed by the SBA who invest in small businesses in the form of debt and equity. For certain types of business such as those engaged in scientific research and development, they even offer grants. All the SBA’s programs provide their partners with a guarantee for the various types of funding. This can impact the cost of funding but is a good option for businesses who may have difficulty qualifying for traditional financing.

6. Crowdfunding      Crowdfunding has grown in popularity over the past 20 years. Crowdfunding is done through platforms which allow you to raise money from many people, typically in exchange for rewards or equity in your business. Some of the more popular platforms include Kickstarter, Indiegogo, StartEngine and WeFunder. Different crowdfunding platforms have different market niches that they serve, so do some research to find the platform that works best for your business. Crowdfunding can be a good option for businesses with a strong social media presence or a compelling product or service.

7. Win A Business Competition       Do you have a flair for presenting? A charismatic personality? If so, competing in a business competition to fund your business may be a good idea. There are many business competitions that offer prizes in the form of cash, mentorship, or other resources. These competitions can be a great way to raise money and get exposure for your business. Each competition has certain rules and focuses. For example, many are location-based, industry-focused, or university-led programs that are open to only certain types of businesses and founders. The good news about exclusivity is that it means you are only competing against others that meet the competition’s criteria, possibly making it easier to get exposure and funding even if you don’t win the competition.

8. Revenue Share Agreement      A Revenue Share Agreement allows you to raise money from stakeholders in exchange for a share of future revenue over a period of time. Revenue Share Agreements can be a good option for businesses that are not yet profitable but have the potential to generate significant revenue in the future. The key to a successful Revenue Sharing Agreement lies in the structuring—not all revenue is equal. If different products and services have varying gross margins, the agreement should be structured to provide different share percentages based on product or product lines. A Revenue Share Agreement aligns stakeholders to work toward the same goal and offers a shared success. In raising funding for your business, approaching potential suppliers for funding will most likely be the best option, because your success means their success as well! Conclusion Raising money during a recession is no different than raising it during a period of economic growth—the only variation is the number of doors you will need to knock on will increase and, when you get the chance to pitch, the strength of your business case will matter even more.

Article by Ken Fick Freelance Writer Ken Fick is a CPA, and MBA with over 25 years of finance experience providing leading-edge solutions designed to improve forecasting, budgeting, planning, and decision-making to companies from $3 million to over $50 billion in revenue. He is a freelance writer that focuses on producing engaging content on all things business, accounting, finance and investment related. You can view a sampling of his published work at FPAexperts.com.

A Buyer's Market: What Is Your Business Worth Now?

A Buyer's Market: What Is Your Business Worth Now?

As part of Inc.'s 2009 guide to business valuations, we look at why now is a great time to buy a business From: Inc. Magazine, June 2009 By: Ryan McCarthy

You might expect Dennis Barnedt to be feeling somewhat down in the dumps these days, given that the economic slump is entering its second year. Indeed, whenever Barnedt, founder and CEO of Access Information Management, a records-storage company in Pleasanton, California, meets with peers in the industry, it's nothing but complaints about skittish lenders and the resulting lack of funds for expansion or even operations. "The majority of entrepreneurs I come across have either had their borrowing capacity limited -- or eliminated altogether," Barnedt says. He estimates that business valuations in his industry have dropped some 30 percent over the past 12 months alone.

But instead of getting depressed, Barnedt is doing something else: He is going shopping. Since August, Access has acquired two smaller competitors. And thanks to the combination of uncertain credit markets and falling prices, the company, which was founded as a roll-up in 2004, plans to add as many as eight more businesses over the next 12 months. "This has been a great opportunity for us," Barnedt says.

If you have been desperately searching for a hint of a silver lining in the current economic thunderstorm, here it is: It's a buyer's market for businesses. The median sale price for a private company fell 27 percent in 2008, to $400,000 from $551,000, according to data compiled for Inc. by Business Valuation Resources, a Portland, Oregon, provider of information about private-company transactions and the publisher of Pratt's Stats. For the sixth year, Inc. has partnered with BVR to produce our guide to valuing your business. The graphics, tables, and work sheet on the pages that follow -- which are based on 2,168 transactions from January 1, 2007, to March 31, 2009, in 122 industries -- can help you get a sense of what has happened to your business's worth in this economy.

Valuations, of course, are based on revenue and profits -- which, not surprisingly, also were down significantly last year: Median net sales for companies acquired in 2008 fell to $804,000, compared with $1.03 million in the previous year, according to BVR. In some industries, the decline was even more precipitous. Financial services, insurance, and real estate firms saw median net sales plummet 61 percent, to $1.2 million from $3.1 million in 2008. Service companies experienced a drop of 23 percent, to $634,000 from $825,000.

That decline appears to have spooked buyers and sellers alike. The mergers and acquisitions market nearly ground to a halt in the third and fourth quarters of 2008, according to BVR. And it remains anemic: In the first quarter of 2009, the number of midmarket transactions was 25 percent lower than in the like period a year ago, according to Dealogic, the financial data tracking firm.

So the market is not exactly frothy. But given that valuations are down sharply and that the shortage of credit is forcing otherwise stable companies to consider selling or taking on a partner, some businesses are signing deals that wouldn't have been possible in better times. Perhaps the most prominent example is Oracle's recent acquisition of Sun Microsystems for $9.50 a share, 40 percent below Sun's peak value 12 months earlier. True, few entrepreneurs are as flush as Oracle's Larry Ellison. But similarly steep discounts, according to our data, can be found in nearly all industries.

WHAT IT'S LIKE OUT THERE

"The biggest hindrance to selling a company right now is that the credit markets have almost completely shut down the process," says Andrew Cagnetta, president of Transworld Business Brokers in Fort Lauderdale, Florida. "Buyers and sellers have had to go back to the basics." For most brokers and buyers, that means setting aside amorphous notions of synergy and focusing on the bottom line. "The No. 1 question I get from people today is, 'How much money does it make? How much money can I put in my pocket today?' " says Jerry Tsai, a broker at Murphy Business & Financial in Sacramento.

It also means taking extra steps to manage risk. Julie Gordon White, principal of BlueKey Business Brokerage M&A in Point Richmond, California, is warning all her clients to take a harder-than-usual look at customer risk. Gordon White, who advises buyers and sellers of companies with revenue of less than $20 million, tends to be wary of any business in which the five largest customers contribute more than 25 percent of sales. "These days, you have to look at the customer concentration," she says. "What are you going to do when one of those customers goes away?"

Still, plenty of people are inclined to roll the dice. Over the past 18 months, for example, Steve Lipscomb, founder and CEO of the World Poker Tour, has seen the value of some companies fall as much as 50 percent to 75 percent. No surprise, then, that Lipscomb is eyeing the market carefully. WPT Enterprises, the publicly traded parent of the poker tour, lost $14 million in 2008. But the company is fortunate enough to have stowed away some cash, and Lipscomb has been seeing opportunity everywhere. Indeed, the buying opportunities are so attractive that Lipscomb is considering investments outside the entertainment area, in industries as far afield as green technology. "The capital markets have changed," says Lipscomb. "For investors, small, profitable companies are going to prove to be a good alternative to the stock market. There are an awful lot of great companies out there that just need a partner to help them weather the storm."

There are plenty of data to support Lipscomb's view, says Brian Hamilton, CEO of Sageworks, a financial information company that tracks financial activity among private businesses. A recent analysis by the company found that in three major sectors -- manufacturing, wholesale trade, and retail trade -- private firms are enjoying higher net profit margins and better return on equity and return on assets than their publicly traded counterparts. "Sales are down a bit at the average business," says Hamilton. "But these businesses certainly aren't tanking."

HOW TO GET A DEAL DONE

It helps a lot to have cash in your pocket.Business brokers report that cash deals typically yield discounts of 10 percent to 15 percent. If that option is not available -- and for most buyers, it isn't -- seller financing has become crucial. In previous years, Gordon White says, she would broker deals in which the seller would finance 10 percent to 20 percent of a deal, with the rest of the transaction in cash or incentives. Today, she says, that number has gone as high as 50 percent. "It's almost as if sellers today are taking the place of banks," says Gordon White.

Buyers are also getting more creative -- especially in terms of earn-outs, which increasingly are the norm in this economy. Under an earn-out, the seller agrees to remain with the business for a limited period and take a portion of the sale price in the form of future revenue or profits. "Because asking prices and multiples are down, you're seeing sellers assuming more of the risk," says Ross Whittaker, co-founder of Boston's iMergeAdvisors, a business brokerage that focuses on Internet companies. In this market, Whittaker says, he commonly sees requests from buyers for agreements that are equivalent to 25 percent to 50 percent of the sale price. And in many cases, sellers have little choice but to agree if they want to sell.

Favorable terms such as those have helped James Essey, president and CEO of TemPositions, a New York City company that operates staffing firms in 12 industries, realize his company's ambitious acquisition plans, which include buying several businesses over the next year. Over the past 12 months, valuations in the staffing industry have fallen 20 percent to 30 percent, says Essey. As a result, he is able to make acquisitions with significantly less money down. In December, for example, Essey acquired Vintage Personnel, an 18-year-old company in Queens. Essey expects to complete two other acquisitions -- including a company that saw revenue fall from $11 million to $3.5 million from 2007 to 2008 -- by midsummer. Essey structures a typical deal with a two- or three-year earn-out. Sellers receive approximately 30 percent of gross profits for each of those years, as well as a small advance against future earnings. "The entrepreneurs who sell to us are facing the likelihood that their business is going to continue to erode," says Essey. "I'm absorbing the expenses, and they're getting a piece of the profits."

Though the economy remains uncertain, Essey is bullish. The staffing industry has been hit hard by the downturn, but Essey believes it is ripe for consolidation. "We're looking at buying companies that, not very long ago, were doing much more business than they are now," says Essey. "With our help, when the economy comes back, I think these companies will be bigger than ever."
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