As the old saying goes, “you’ve got to spend money to make money.” And although the capital journey may be changing, this old adage remains true. Small business owners must anticipate some costs – either up front or out of the funds raised – in order to fund their capital needs. If a business owner can understand this fundamental principle, he or she will be better prepared for the capital journey ahead.
In the old days of investing, start-ups would have been required to hire securities underwriters to perform “due diligence” including, many times the cost of an audit and at the least, hire an attorney to make sure that the business venture adequately disclosed its financials [A1] and the risks involved in investment in the company. Then, the securities underwriter would market the deal on behalf of the business owner. This whole process typically begins with a non-refundable deposit, minority stock ownership and a percentage of the total fees raised. Whether or not the business gets funded, the owner must still pay the broker dealer or securities underwriter for the costs of due diligence.
Most business owners realize this is the cost of raising capital and agree that most of the fees will be paid out of the proceeds of the amount raised on their behalf. The reality is this is a normal part of doing business. Most lawyers or CPA’s will not work, on the basis of a success fee (many are not allowed to due to securities regulations). Likewise, loans also cost fees for approval a $750,000 loan can cost up to $40,000. The same can be said for closing fees for crowdfunding equity platforms, which can be from 4-10% of the total raise in some cases. Entrepreneurs need to understand this from the get-go, and appropriately plan for these costs before planning to raise equity capital or debt to avoid disappointment.
Serious entrepreneurs will understand that there are no shortcuts to a successful capital raise. While it may be hard for a new business owner who hasn’t raised equity before to understand, most experienced owners would agree that the process and costs are well worth the effort to accelerate their business growth opportunities.