Everything You Need to Know About Raising CapitalAuthor: Daniel Mather
Capital raising is an important process for businesses, allowing them to secure the necessary funds to grow and develop. This article will explore what capital raising is, why companies need it, and the different types of capital-raising options available for businesses.
What is capital raising?
Capital raising is the process where a company procures funds from external sources to be used for specific strategic goals, such as investing in assets like M&A, joint ventures, or simply business development.
Simply put, raising capital is the process of raising money to fund a business’s operations or expansion.
Types of capital raising
Companies have three common ways of raising funds: debt raising, equity raising, or a combination of the two, also called hybrid raising.
Debt raising refers to taking out loans from external sources to finance a project. It is a popular option among companies as it allows them to obtain large amounts of debt capital at relatively low-interest rates without loss of control or ownership of their business.
The key disadvantage of debt raising is that it requires the borrowing company to pay back the loan in installments until the principal with interest is paid off in full. If the company defaults on the loan by not making or missing payments, the company may become insolvent.
Equity financing is the process of issuing shares to external sources in exchange for funding. This type of capital raising is particularly beneficial for businesses as they do not need to make regular repayments, and the company keeps control over its operations.
The main downside of equity capital is that it can dilute the existing shareholder’s ownership and decrease profitability due to the need to issue additional shares.
Hybrid raising is the combination of both debt and equity. It is a popular option for companies as it combines the benefits of both debt and equity. This strategy allows the company to raise a larger amount of capital without needing to issue any additional shares or without taking on too much debt.
The key downside of this option is that it can be more complex and costly than debt or equity raising alone.
How does a capital raise work?
A capital raise occurs when a business needs funds to grow its company. They request financing from investors (equity raise) or lenders (debt raise).
After each side does their due diligence, they sign an agreement where the business agrees to give some amount of ownership or future earnings in return for the money.
The capital raising process has several important steps. These include:
- Research and preparation
- Project presentation
- Due diligence
- Document signature
- Disbursement of funds
Let’s take a closer look at each of them below.
1. Research and preparation
The business needs to identify the right investor or lender, research the market, and decide on whether to accept the terms. When deciding whether or not to invest in a business, the return on investment will always be front and center.
The more documentation a company can provide detailing its growth potential — through financials, market research, detailed plans, and marketing strategy — the more likely it is to secure better financing terms.
2. Project presentation
Once the company has identified its target investor or lender, it needs to present its project in a way that will entice them to invest. The best way is to create a business plan.
This step might involve creating a detailed plan outlining the company’s strategy and vision, along with supporting documents such as financial statements, market research, and potential growth prospects.
3. Due diligence process
If your presentation fascinates investors, it’s then time to provide them with some truly noteworthy proof. The due diligence process is essential for any capital raise as it allows both sides to review the other’s financials, operations, and strategies.
Due diligence is extremely important to interested investors, so preparing everything for them in a virtual data room ahead of time will give you a significant advantage.
The business and the investor or lender will negotiate the terms of their agreement, including the interest rate, repayment plan, and any other details that need to be worked out.
During this process, the parties can also negotiate things like a liquidation preference (which determines which investors get paid first if the company files for bankruptcy or is forced to liquidate its assets) and other clauses that can protect the investor or lender.
5. Document signature
Once all terms are agreed upon, the business and investor or lender sign the appropriate documents. This includes the agreement that outlines the details of the capital raise, as well as any other necessary paperwork.
6. Disbursement of funds
Once all paperwork is completed, the agreed-upon funds are disbursed to the business. At this point, the business can begin using the funds to grow and expand its operations.
By following these steps, businesses can properly secure the funds they need to grow and develop their business.
Why do companies raise capital?
Companies raise capital for various reasons, including the need to fund a new business venture, expand their current operations, purchase new equipment or inventory, or invest in new technologies.
In most cases, companies seek to raise funds to increase their potential for growth and profitability. By investing the funds they raise, businesses can take advantage of new opportunities and increase their product offerings, customer base, and overall market share.
Here are some top motives for raising capital:
- Mergers and acquisitions
- New projects or ventures
- Debt financing
- Purchase of fixed assets
- Working capital
Mergers and acquisitions
Companies may raise capital to acquire another company or merge with a competitor. It allows businesses to expand their customer base, increase their market share, and consolidate their operations.
New projects or ventures
Businesses may need to raise capital to launch a new product line, invest in research and development, or open a new market. Raising capital allows businesses to take advantage of new opportunities and increase their growth potential.
Raising capital can also be used to pay off existing debt, allowing businesses to improve their financial position and free up funds for reinvestment.
By raising capital, businesses can take advantage of new opportunities, pay debts, and invest in their future. It’s an essential part of any business plan that can be used to increase profitability and growth potential.
Purchase of fixed assets
Fixed assets such as equipment, inventory, or buildings may need to be purchased to expand a company’s operations. Raising capital can help cover the costs associated with these purchases.
Working capital is the money that businesses need to operate day-to-day, and it may be necessary to raise funds to increase working capital. It can help keep businesses running smoothly and ensure they have enough cash to meet short-term obligations.
Capital-raising initiatives may also be necessary if a company needs to restructure its operations. It could involve reorganizing departments, consolidating debt, or introducing new operational processes.
By understanding why a company raises funds, many businesses can better prepare for a successful capital raise and make sure they have the funds they need to grow and expand. With the right strategy, businesses can effectively raise the capital they need to reach their goals.
Ways to capital raise for different business sizes
If you want to raise money for your business, there are different methods you can use depending on the size of your company. Of course, capital raising for a private company is different from doing so for a public one.
Here are a few ways to raise capital depending on the size of your business.
If you’re running a startup, you may need to seek out venture capital funding. This type of funding is usually provided by private investors who specialize in early-stage businesses. You can also look into crowdfunding platforms, angel investors, venture capitalists, and government grants.
Small and medium-sized enterprises (SMEs)
The most common way to raise capital for SMEs is through bank loans, venture capital firms, and private financing. However, private equity investors may also be interested in investing in SMEs and taking a stake in their business.
Another option is family offices. These are private investment firms that manage money for wealthy families, which may be willing to invest in SMEs.
Furthermore, you can look into grants from government agencies or special business financing programs. For example, the US Small Business Administration (SBA) offers different loan products for small businesses.
The most popular way to raise capital for larger companies is through issuing stocks (equity) and bonds (debt). An initial public offering (IPO) occurs when a privately-held company “goes public” and sells company shares to public investors to raise money.
You can also look into private placements, which involve selling securities to a select group of institutional investors such as pension funds, banks, and insurance companies.
By understanding the different ways to raise capital, businesses of all sizes can choose the option that best suits their needs and objectives. Then, with the right strategy and preparation, businesses can effectively raise the capital they need to reach their goals.
Capital raising is the process of acquiring funds from external sources.
Three common ways for companies to raise capital include debt financing, equity financing, and hybrid raising. The right choice depends on the size of the company, its goals and financial situation, and other factors.
Most often, capital raising is used to expand businesses, introduce new products and services, enter new markets, or restructure operations. However, the primary reason for a capital raise is growth.
So, regardless of business size, it is important to understand capital-raising strategies to decide which method works best. With proper planning and preparation, businesses can effectively raise the capital they need to reach their goals.