Topic 8

Financing the New Venture

© 2014 by McGraw-Hill Education.  This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution in any manner.  This document
McGraw-Hill/Irwin Copyright
may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or part.  © 2013 by The McGraw-Hill Companies, Inc. All rights reserved.
 Learning Objectives
• Debt or Equity Financing
• Personal Funds
• Family & Friends
• Commercial Banks
• Bootstrap Financing
• Government Grants
• Angel Investors
• Venture Capital

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 Financing the Own New Venture
• The discussion in this module focuses on the
challenges and options that an own business
entrepreneur faces in financing a new venture and
growing it to full growth

• The discussion encompasses key sources of finance

and how these sources feature at different stages of
business development financing.

• Forming a background to the discussion is how the

different forms of funds impact on the debt or equity
profile of the business

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 Debt & Equity Financing
• In financing a new venture creation and growing the new business, an
entrepreneur can tap into two key financing approaches namely
• debt financing and
• equity financing

• Equity financing primarily involves funds (cash or asset) from parties

who expect to take some form of ownership stake in the new venture
to represent the extend of their contribution.

• Parties who extend equity financing expect to earn yearly dividends

from business profits as well as the possibility of a handsome return on
investment upon selling back the shares after a period of business
growth

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 Debt & Equity Financing…cont.
• Debt financing involves the business owners
taking on borrowings that have to be paid
back over a period of time with additional
charges (interest or administrative fee)

• Qualifying for the borrowings often requires

some form of collateral (e.g. land, buildings)
or surety to protect the financier in case of
non-payment.

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 Implications of Debt & Equity Financing
• Equity financing from parties other than the
founding entrepreneur(s) can dilute the
entrepreneur’s control over business direction and
strategic decisions as well as return on equity.

• On the other hand, debt financing allows the

entrepreneur more control of the business but
puts a strain on the business to consistently pay on
the borrowings or face legal action that can
hamper business credibility & growth and even
lead to foreclosure or bankruptcy.

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 Implications of Debt & Equity Financing…cont.

• A good financing package for a new business normally

starts with equity financing that needs to be
supplemented with debt financing as the business grows

• The entrepreneur who is able to attract debt as well as

equity financing can take advantage of how the outside
financing reflects confidence in the business potential

• On the other hand, failure to balance between debt and

equity financing can expose the business to either too
much borrowings (debt heavy) or risk of losing too much
control over the business (equity loss)
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 Sources of Finance
• Financing for a new own business can come from
both internal and external sources

• In this module, the key sources of financing

discussed are:
• Personal funds
• Family & friends
• Angel financing
• Bank Term Loans
• Venture capital financing
• Government loans & grants
• Bootstrap financing
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 Entrepreneur Own Funds

• All new ventures start with an initial capital

contribution by the entrepreneur(s)

• The entrepreneur’s own contribution or personal

funds is regarded as equity financing that is reflected
in the ownership of the business

• Most new ventures however need more capital to

operate than what the entrepreneur is able to
commit or make available.
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 Funds from Family & Friends

• It is not uncommon for a new entrepreneur to rely on

family and friends to raise more initial capital for a business
start-up

• The contribution from family and friends are often limited

but is more easily obtainable at the early stages of business
start-up because :
• They know the entrepreneur and
• They want to support his undertaking especially when they think
the business has growth potential.

• Friends and family capital contribution is likely to be in the

form of equity financing that gives them ownership in the
business
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 Business Angels
• Business angels or angel investors are normally wealthy or high net worth
individuals who provide capital for a business start-up in return for equity in
the business

• Most angel investors are successful entrepreneurs and retired executives that
want to get involved in helping small start-ups succeed by offering private
financing and sometimes, valuable expertise & experience as well. They are
well educated and often in their 40’s or 50’s and look for investments across a
broad range of businesses that offer high growth potential

• Angels assume high risks by providing capital at very early stages of business
start-up and normally look for a 30-40% desired return on investment (ROI) or
5-7 times ROI

• Angels also have to have patience in realizing their ROI since on average an
angle investor looks to wait at least 5 years before cashing in.

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 Business Angel…cont.
• Angel investments are noted as filling a gap in between the often limited
funds from family & friends and the more difficult to obtain venture
capital funds or bank term loans that are deterred by the newness or
smallness of early stage ventures.

• Business angels invest their funds and sometimes organize themselves

into groups or networks to share information & contacts (e.g. Virtuous
Investment Circle & Netrove Asia Sdn.Bhd.)

• Angels seek out investment potentials through informal contacts,

referrals (e.g. Capital – a Malaysian angel investment introducer
company) and investment conferences & seminars (e.g. the Asian
Business Angel Forum, a regional gathering of angel investors).

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 Venture Capital Financing

• Venture capital can be broadly regarded as a

pool of equity capital that come from different
individuals or groups of individuals who want to
invest in high growth businesses for high returns

• Unlike angel investors that invest their own

funds, venture capitalists are professional
managers investing money from a pool of funds
(equity capital pool) parked under registered
venture capital companies

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 Venture Capital Financing…cont.
• While venture capital funds are found in a diverse
range of business sectors they do tend to focus
on high potential, innovation & technology-
centered businesses such as ICT development
business and biotechnology companies.

• Venture capital prefer to invest at early stage to

full growth & expansion stage of business growth

• The amount of capital available for investment

can start at RM 1 million for early growth
financing and extend to RM20 million at later
stages of growth financing
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 Venture Capital Financing…cont.
• The venture capitalist look to providing managerial and technical
expertise alongside the capital investment

• In July 2012,the Securities Commission noted that Malaysia has 60

registered venture capital companies

• Venture capital companies are both private entities (e.g. Teak Capital,
Mayban Venture Capital Company Sdn.Bhd) as well as government
investment agencies (e.g. Malaysian Venture Capital Management Bhd
or Mavcap, Mavcap Biotech, Mavcap ICT)

• The total venture capital investment in Malaysia as of February 2012

stands at RM5.4 billion with 54% of the investments coming from
government venture capital agencies

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 Bank Term Loans
• Commercial banks offer an important source of financing
primarily in the form of term loans (short & long-term loans)

• Bank term loans are a form of debt financing that requires

the business to repay the loan in progressive (usually
monthly) payments with additional interest or administration
fees over a stipulated period of time

• Banks are generally cautious about approving loans

particularly to new ventures because of the high risk of non-
payment of monthly payments

• Once the business has progressed to a more stable stage with

definite financial records to show repayment capabilities,
banks will be a more viable source of finance.
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 Bank Term Loans…cont.
• Entrepreneurs wanting to access bank loans need to
have some sort of tangible collateral or surety
(guarantor)

• Collateral can be in the form of:

• assets of the business (e.g. land, equipment, business
premise or building)
• entrepreneur’s personal assets ( own house, landed
property)
• guarantor assets

• In case of non-payment of any loans, the bank holds

the right to forfeit the collateral to cover outstanding
amounts
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 Governments Loan & Grants
• Government offers financial assistance in the form of loans & grants
at all level of business development

• Government assistance is meant to supplement other sources of

financing and not in anyway compete or take over the primary role
played by the other sources discussed earlier.

• Government financial assistance serve more an economic or social

development purpose than a profitable return on investment
objective.

• For that reason, financing from government sources normally incur

a comparatively lower interest rate or fee (for loans) or are in the
form of one-time cash payouts with no repayment necessary
(grants)

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 Government loans & grants…cont.

• Government financial assistance are primarily

channeled through public agencies established to
serve specific purposes or sectors

• For instance, Cradle Fund Sdn Bhd (Cradle) is an

agency under the Ministry of Finance responsible
to manage a RM100 million fund dedicated to
funding innovation & technology
commercialization towards building a strong pool
of technology ventures in the country
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 Government loans & grants…cont.
• Government also tap into the wide spread distribution network and
easy accessibility of established financial institutions like
commercial banks to manage and distribute specific financial
assistance.

• For example, government special loan schemes like the ‘Skim

Usahawan Siswazah (SUS)’ for graduate entrepreneurs or ‘Skim
PROSPER’ for entrepreneurs in the retail service sector through
commercial banks like Maybank, CIMB Bank & Affin Bank.

• Apart from loans and grants, government financial assistance also

extends into venture capital funds (through Mavcap) as well as
various guarantee schemes (through the Credit Guarantee
Corporation Malaysia Bhd. or CGC)

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 Bootstrap Financing
• Bootstrap financing is an internal financing approach that is derived
from conserving cash in the business operations by utilizing various
facilities offered by suppliers & vendors

• Bootstrapping is particularly important at the start-up & early stages of

the business when debt financing is difficult to qualify for and too much
equity financing can erode entrepreneur control over the business

• This form of financing requires the entrepreneur to:

• understand what facilities are available and
• be able to convince the various supplier & financing parties to extend the
facility.

• A key element in convincing & accessing the financing facilities is

through a well prepared financial plan that highlight the business cash
flow planning & potential to meet financing requirements.

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 Bootstrap Financing…cont.
Some of the common facilities include:
• Trade credit
• Obtain goods from suppliers and only pay in 30, 60 or 90
days hence allowing the business to trade with the goods
without expanding valuable cash upfront
• Supplier discounts
• Saving cash by taking advantage of discounts given for
buying in large amounts (bulk purchase), buying
promotion items and for being a frequent buyer
• Consignment financing
• Facility to make an order for goods required over a period
of time but only receive and pay for what is delivered as it
is needed over that period. Can obtain bulk purchase price
but save cost on storage and paying up front

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 Table 1: Summary of Sources of Financing
Sources of Description Category
Financing
Personal Entrepreneur(s) own contribution in cash or assets. Internal equity
Funds financing

Family & Contribution by individuals who know the founding Internal equity
Friends entrepreneur and invest mainly because of their financing
relationship with the entrepreneur

Business Wealthy individuals who invest their own funds in External debt
Angels businesses that are not yet attractive to conventional bank financing with
financing but display attractive prospects for growth and equity
significant success participation
Venture Capital investments made by professional fund managers External debt
Capital from an equity pool lodged with a registered venture financing with
capital company. VC investments are repaid when the VC equity
exits the business with a healthy profit at the end of the participation
specified time.
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 Table 1: Summary of Sources of Financing…cont.

Sources of Description Category

Financing

Bank Loans Time-based borrowings that need to be repaid with External debt
interest or administrative fees. Often involves having financing
collateral or sureties.

Government Developmental loans and grants. Loans have to be External debt

Financing repaid with or without interest or administrative fees. financing or
Schemes Grants are one-time cash payouts that do not need to outright payout
be repaid.

Bootstrap Financing that comes in the form of internal savings Internal

Financing and conserving cash through supplier discounts and financing in the
deals form of savings
& cash
conservation

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 Business Development Phases
• While financing can come from several sources, at each
phase of business development different sources
feature more prominently than another

• In this course, the focus will be financing for the

following business phases:
• Pre-startup & start-up
• Early growth
• Full growth & expansion

• The financing source at each phase of development is

often influenced by the relative balance between risk
and potential return on investment at a particular
phase
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 Start-up Phases Financing
• The pre start-up phase is just before the business is officially
launched and funds are needed to create the business entity (e.g.
register the business, apply for licenses & permits) and prepare
basic resources (e.g. rent or purchase business premises, hire &
train staff , procure raw materials)

• The start-up phase is the point of time when the business formally
opens its doors for business & begins operations

• The start-up phase requires funds to jump start the business

operations including managing initial marketing & production
process

• The pre start-up and start-up phases are normally periods of high
expenditures, low sales, if any and no profits. This make this early
stages of new venture birth very risky for not only the founding
entrepreneur but more so for outside investors.
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 Start-up Phases & Financing…cont.
• Financing at these phases are categorized as seed financing & start-
up or 1st level financial respectively

• The main source of seed and start-up financing is primarily from the
entrepreneurs own funds and supplemented with funds from family
& friends

• In some cases, new ventures may be able to attract angel investments

but this more likely at the start-up stage and only after the founding
entrepreneur and/or family and friends have put in the initial
investments as a show of commitment to the business potential.

• Government financing assistance will feature consistently throughout

the different stages of growth while bootstrap financing will start to
play an important role from the start-up phase onwards.

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 Early Growth Financing
• This is the phase where marketing efforts are intensified to produce
sales that can at least cover costs

• Financing at this stage is referred to as 2nd level financing and it is the

first point where total strangers are likely consider financing or
investing in the business

• A key 2nd level financing source is the business angel

• Angel investors are valuable at this stage not only for the funds but
also for the business expertise and contacts & credibility their
involvement offers to the new venture

• Venture capital financing may come in at this point but are likely to
focus on high growth potential technology ventures where VC funds
and management involvement can do much to tap into the technology
venture first mover advantages.
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 Full Growth & Expansion Financing

• At this stage, the business is poised to take off and is

showing profits from established operations and
growing market acceptance.

• With a much better capability to service loan payments

from growing sales & profits, the entrepreneur may
now go for 3rd level financing primarily in the form of
bank term loans

• Debt financing through bank loans will allow the

entrepreneur to finance growth without having to
sacrifice anymore control in the business through
equity financing
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 Fig. 1: Summary of Sources & Stages of
Financing for New Venture

FULL GROWTH &

PRE-STARTUP START-UP EARLY GROWTH
EXPANSION

Seed financing Start-up or 1st level 2nd level financing 3rd level financing
financing
Own, Family & Friends Funds

Business Angels Financing

Venture Capital Financing

Banks Term Loans

Government Financing Schemes (loan, grants & govt. venture capital funds)

Bootstrap Financing

Adapted from ENT600 Teaching Slides, FBM, UiTM, 2009

© 2014 by McGraw-Hill Education.  This is proprietary material solely for authorized instructor use. Not authorized for sale or distribution in any manner.  This document
may not be copied, scanned, duplicated, forwarded, distributed, or posted on a website, in whole or part. 
 References
• Hisrich, Robert D., Peters, Michael P. & Shepherd, D., (2006). Entrepreneurship, New
York: McGraw-Hill / Irwin, 7th Edition, International Edition, 2006.

• Entrepreneurship Dept., Faculty of Business Management, (2009), Teaching Notes

for Technology Entrepreneurship (ENT 600).

• UiTM Entrepreneurship Study Group (MEDEC), (2004). Fundamentals of

Entrepreneurship, Petaling Jaya: Pearson-Prentice Hall Sdn. Bhd. 2004

• http://www.malaysia.gov.my, Loans, Special Grants & Guarantees

• http://www.mavcap.com

• http://biz.thestar.com, Malaysia Venture Capital Industry Poised to Bounce Back

• http://www.sc.com.my/eng/htlm.../RVCC.pdf, Securities Commission 2012 List of

Registered VC Companies in Malaysia

• http://www.cradle.com.my

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