The entrepreneur-support ecosystem talks a lot about “start-ups” and “raising investment”, but the majority of businesses we work with are actually SMEs and they will never raise equity investment, nor should they. Yet it is critical that they become more productive. How can we help them find the capital to grow?
The June 2021 Launch League Hub Meet-up, the third in the series, was a space where hubs, incubators and entrepreneur support organisation (ESO) practitioners came together to discuss their role and responsibility in supporting entrepreneurs in thinking about and applying for funding or financing.
Together, a group of over 30 Launch League Hub participants explored questions such as:- How do we better understand all the options available across the funding landscape?- How do we form stronger ecosystem partnerships so that hubs are building pipelines for potential funding partners?- How do we re-define the language we use, and better educate entrepreneurs to build sustainable businesses that grow our local economies?
The interactive session was led by Alex Fraser, Director of Viridian, who not only has extensive experience with early-stage investing in South Africa through co-founding Dazzle Angels, but also understands the scope of the African funding and financing landscape, having worked with thousands of startups and SMMEs across the continent.
“I think we often speak about investment readiness while the reality is that we should be speaking more about financing readiness, because investment is only one small sub-sector of financing.”
Four things we learned
Alex Fraser guided us through important aspects of understanding funding and financing readiness, the terms and language to use, the different types of funders to approach and – of course – understanding who the most important “funder” of all is: the customer.
1. Understand the terms
We need to start using the right language when talking about funding and financing for early-stage businesses in South Africa.
Firstly, it is important to note that not all SMMEs are start-ups.SMMEs have traditional business models that generate revenue immediately, grow more gradually and have the potential to generate low, steady returns.Start-ups, however, are far riskier, often developing new models or products aimed at much bigger markets: they have high growth potential, unique IP and are typically technology enabled. They require funding and time to get started, and the market, technology and business risks involved are high.
“Investors are not looking to generate potentially steady returns, but they want a big return at some point in the future; that’s why they invest in start-ups.”
Secondly, you need to help the entrepreneur to understand their business model and how that impacts on the financing they can and should apply for: do they have invoices they can discount? Do they require equipment to increase their outputs? Are they selling their time to a single customer? The types of funding and financing they should consider will differ whether they are a retailer, manufacturer, contractor or any other one of the many SMME business models.
Once you understand what type of SMME you are working with, you can guide them to finding the most fitting funding model for them. The list of financiers keeps growing, with financing for different business activities, stages, outcomes and returns. Funders are also starting to adapt their products and services to really meet the needs of the growing pool of SMMEs. As a trainer, and mentor, you need to understand this landscape so you are able to advise your SMMEs accordingly.
Please take a look at the meet-up slide deck for an overview of key funding and financing types, including grant funders, impact funders, equity investors and debt financing. Impress on the entrepreneur that preparing for this funding – which may include requirements such as having up-to-date financials, a tax clearance certificate or ROI projections – should not be considered a hurdle or a burden, but part of running a solid business.
“The things you need to do to get ready for finance are the things you need to do to make your business sustainable.” Ian Calvert (Founder at FURTHER)
Of course, for early-stage SMMEs their most low-risk and high-return financier is going to be their customer!
“I am a big believer that we don’t spend enough time really focusing on customers. And often when people don’t quite know who their customer is, instead of going to do the work to find out who the customer is, and, and having hard conversations, they think, ‘well, my businesses will work if I can just find some funding’.”
As an added benefit, businesses that have strong customer bases have organic growth, and they perform well. They are then able to explore other financing options to accelerate their growth without the pressure of having to fundraise to survive. This gives them the liberty of having more choice in terms of bringing on the right financing partner.
Important to note
It is crucial for SMMEs to remember that there is no such thing as a free lunch. Every financier wants something in return. They want to be repaid, gain some control, ownership, dividends or higher interest, or they might want the business to prove impact. It is important to really understand what will enable a financier to invest in the SMME and whether the entrepreneur is comfortable with the trade-off.
2. Start with the basics
When first sitting down with an SMME owner to talk about funding and financing, help them refine their thinking around why they need the money for their business. Ask them:
Why do you really want to raise money?
How much are you raising, and in exchange for what? (e.g. control, IP, ownership, interest, impact, surety)
If you don’t raise money, what’s the alternative?
If you do raise money, what’s the implementation plan to get to the next stage?
“The first question to ask the entrepreneur is, ‘why do you really want to raise money?’ There is a lot of ego, vanity and social pressure in some ecosystems; raising funding is seen as a success metric, and as something to be celebrated.”
3. Speak the financier’s language
It is crucial that once an SMME has understood and established the basics and is ready to apply for financing that they understand financiers’ requirements. In any application, they must make it clear how the business is a good fit and specifically speak to the financier’s expectations.
Businesses that are able to secure funding are generally those who make it the easiest for the funder to say yes.
“It is about making sure you really understand the objectives of the fund and speak the same language. And this is why you see the same organisations genuinely securing funding again and again.”
Shirley Gilbey (Director, UK-South Africa Tech Hub)
4. Hubs, incubators and ESOs should set the tone
When helping entrepreneurs approach financing responsibly, ESOs should first ensure their entrepreneurs understand the business fundamentals – for example, how similar businesses become sustainable and grow – so that they can be sure they need financing.
They should also ensure entrepreneurs understand that every funder has different requirements and part of the fundraising or financing process is to understand what those expectations are and whether your business can meet them.
“The wrong finance can wreck your business. I’ve been in a business where the funder didn’t understand the nature of the business and it was an absolute disaster. You spend more time managing the funder’s expectations, than you do trying to just run the business.”
Shifting the “funding-first” mindset
ESOs need to change the way their entrepreneurs look at financing and fundraising, and get them to focus on fundamentals first.
“There is a need to change the mindset of the entrepreneurs within our programmes. It is really not just about raising finance, it is about looking to your customers and building your business.
”Tendai Mazhude (Chief Operations Officer, mLab)
Directing SMMEs to getting customers
ESOs need to guide entrepreneurs to self-sustainability, with a stronger focus on the importance of sales and financial management.[Pull quote] “We should be focusing on how to get people to a point of self sustainability through customer-based revenue, rather than this obsession with funding loans, as people do not always know what they’re getting into. And it’s not the end in itself.”Ian Culvert (Founder at FURTHER)
Many new entrepreneurs walk into hubs thinking that they are going to receive funding to turn their idea into a business. It is our role as ESOs to direct their entrepreneurial energies to building a business that becomes financeable when it’s ready, by setting pragmatic aspirations and showing them a realistic pathway to growth.
Check out the summary of the Launch League May Meet-up where we we explored hub business models, sustainability, partnerships and lots more with Dirk Bischoff, founder & CEO, Hatch Enterprise UK; David Ogiga, co-founder, Sote Hub Kenya; and Nicki Koorbanally, CEO, mLab South Africa, with Michelle Matthews, our programme director, hosting the panel discussion.