RE-INVENTION: A CONTINUOUS PROCESS THAT MUST START NOW
by THOMAS H. HICKS - Managing Partner, Renaissance Partners, L.C

As retailers and consumer products companies approach the Holiday Season it is again time to objectively evaluate the business. Many companies are at a crossroads. Management, Directors, Shareholders and other “Stakeholders” annually, if not more often, ask:

• Do we continue to do nothing;
• Do we close the doors, liquidate, payoff creditors and move on;
• Do we identify and address our needs internally and take action;
• Do we seek help from outside our business?

To answer these questions objectively requires a critical assessment of the company’s position financially and competitively and a determination of core competencies and liquidity. Simply put, why are we in this position, do we have what it takes to fix it and what are the alternatives?

The industry faces a maturing US economy, higher gas prices and increasing interest rates, social security fears, rising medical costs, a time stressed society and new bankruptcy laws that go into effect in October. Performance influencers include the fast paced fashion cycle change; over-storing, tightened credit by asset based lenders, the Wal-Mart affect and growth in Internet retailing. Competitive changes continue as the big get bigger and stronger, indirect challenges are posed by large retailers in many merchandise categories and the affect of thrift-chain growth. Private equity and hedge fund investments are furthering consolidation in many segments of the industry

To address these changes companies must first look introspectively. Management must not be in self-denial and must assess their business objectively. Directors, Owners and Managers must be active and motivated to take intense action to evaluate and reinvent their businesses.

Thinking outside the box and aggressively testing before being in financial distress is critical. Concept, format, real estate, assortment, pricing, advertising, service level and use of technology are all up for assessment. Companies should develop reliable networks for information and reliable input from customers, employees, suppliers and professional outsiders.

What Do We Do Now?

Get factual, diagnostic information about the business and believe it! Get it fast!

• Access and assess customers, their likes, dislikes, shopping habits, who they think of first as the authority for each merchandise classification;
• Access and assess people and their input regarding the customer and the business;
• Determine if the company has “brand significance”, or is it merely a distribution point collections of goods (branded or otherwise) supplied by manufacturers;
• Understand the culture of the company and its relevance versus what needs to be done;
• Tap information about factors external to the Company – i.e., markets, competitors, products, services and service level;
• Understand and objectively evaluate internal factors that drive execution of the existing strategy and will be required to carry out future strategy – i.e., people, people/job/culture match, systems, merchandise content and management thereof, asset utilization, customer satisfaction.

Armed with hard facts commit management and stakeholders to action.

Profit Improvement and Turnaround Action Plan

Most profit and cash flow improvement programs require time and resources. Most have limited access to new capital, requiring that the cash be internally generated. Time and lack of focus is often the enemy. The successful turnaround requires decisiveness, focus and a simultaneously executed two-pronged approach:

• Create Liquidity – collect receivables, liquidate slow or non-turning inventory, sell hard assets that are not essential to the core business, trim all non-customer essential expenses (payroll and non-payroll). Everything that is nice to have but not core to the business must be turned into cash. The income statement is not meaningful – cash is.
• Strategically Assess the Business – perform external and internal research on the customer, employees, markets, assortment, competitors and core competencies of the company and its competitors. Commit to knowing more about the competitor than it knows about itself.

Based on the above, critically assess your Company as you would in a due diligence evaluation pursuant to an acquisition or merger:

• Does the business have a reason to exist?
• Can it be #1 or #2 in its markets and in its category? What must be done to position the Company to be #1 or #2?
• Is the business viewed as a “brand” – does it stand for something and can it be made to have value?
• What financial commitments must be made? How long will it take?
• Develop a new financial business model;
• Develop a detailed financial (cash) model of the restructured business by month for 24-36 months to assess cash availability;
• Develop a full strategic plan that supports the financial (cash) model;
• Communicate with existing creditors, lenders, stakeholders – do they believe in management, its plan, and will they support the plan (under what circumstances, for how long, what benchmarks must be achieved for their continued support);
• Develop a detailed implementation plan – who does what and when; establish a time-line driven set of measurements of success.

Turn It Loose

If the outline and questions above have been diligently and exhaustively performed and the evaluation is positive, believe in it, commit to it – do it. If management doesn’t have the stomach for it, find someone who does and support him or her without second-guessing and undermining of their leadership. Then, stay the course and focus on execution excellence – there may not be another chance.

New Bankruptcy Code
The bankruptcy code changes affects consumers and debtors, making it tougher for both to escape debt, and favoring creditors including landlords, credit providers and utilities. Strict limits on Chapter 7 filings favor providers of credit card programs by limiting chargeoffs. Company’s will face tougher hurdles when seeking to reorganize in bankruptcy due to reduced time to assume or reject leases (210 days), greater attention to lease use clauses, landlord greater representation on creditor’s committees, higher costs of assuming and then later rejecting leases, increased reclamation rights, shorter plan exclusivity period, reduced KERP plans aimed to retain key personnel and higher deposit requirements to protect utilities. Companies will need to plan earlier and in more detail if reorganization under Chapter 11 is a desired course of action and the above code changes will likely reduce the probability of successful reorganization in bankruptcy.

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Thomas H. Hicks is Managing Partner of Renaissance Partners, L.C., a full service management consulting firm focused on retailing, consumer products and e-commerce.. Renaissance provides profit and cash improvements, turnaround and crisis management, and business development services with engagements managed by veteran retailing executives that have functioned successfully at the CEO, COO and CFO levels.

RENAISSANCE PARTNERS L.C.
3500 Gateway Drive, Suite 101
Pompano Beach, FL 33069
Phone: (954) 971-3555 Fax: (954) 971-1922

Website: www.renaissancelc.com
E-mail: renparlc@gate.net

Charlotte ….Cleveland….Columbus….Houston….Memphis… .Pompano Beach….Williamsburg

“WHY PAY MORE?”
By Jeffrey A. Mitchell – President, Dominion Business Finance, LLC

I recently received a call from a Bank who wanted to refer one of their existing customers to Dominion Business Finance because the Bank could no longer service them through a traditional line of credit. His customer needed additional working capital to handle increasing demand for their products and services. Although the customer had always performed “as agreed”, the Bank was reluctant to grant any increases due to the uncertainty of the current economic environment. Furthermore, the company’s balance sheet was already leveraged and growth would only compound the problem. The Banker knew that an asset-based revolver was a viable alternative solution but expressed some concern that the prospect may struggle a bit with the increased cost associated with such a facility. “Don’t be surprised if the first thing my customer brings up is cost.” he said.

A couple of days later I arrived for my meeting with the prospect. After some preliminary pleasantries, we began discussing his business and financing needs. Not long into our discussion, the prospect asked, “How much does it cost?” Somewhat taken a back, I replied, “It depends.” To which the prospect quickly replied, “On what?” The prospect had a valid question, not one to be taken too lightly when considering how critical financing can be for a company. In order to understand his financing needs, the only place to start was the beginning. Consequently, over the next hour or so the prospect and I engaged in a discussion that detailed the history of his company, the industry that he was in, the products that he sells and to whom he sells his products to. We then began discussing the future of his business and his need for financing. The prospect eluded that he had opportunities to increase his sales with both existing customers and some new ones as well. However, the more he grew, the tighter his cash flow got. As many businesses do, he decided to grow before knowing exactly what impact growth would have on his cash flow. Before he knew it, he was capped on his Bank line and beginning to fall behind with his vendors. In the meantime, customers were increasing their orders and he was reaching a point where he was literally afraid to answer the phone for fear it might be another order. He was also concerned that if he turned down sales with existing customers or simply postponed, potentially his customer would go elsewhere with their business and never return. Panic was beginning to set in and the prospect began to realize that he had to find a solution quickly.

We began to discuss his accounts receivable and inventory levels and I quickly realized that his cash flow dilemma could easily be solved with an asset-based lending facility from Dominion Business Finance. With some minor enhancements to the advance rates on the accounts receivable and inventory, we were able to substantially increase his availability allowing him to pay the Bank line out and bring him completely back to bubble with his vendors (who were becoming concerned with his slow pay). Furthermore, there was additional availability that could be used to service increasing demand from his customers. This was obviously great news for the prospect as this facility would truly solve his problem.

“WHY PAY MORE?”

Back to the question of “Cost”? Having always been financed through traditional Bank lines of credit the prospect was not prepared for the additional fees associated with an asset-based loan. His initial reaction to paying more for his line was negative. “I don’t see how I could possibly justify paying more”, he said. We then discussed the circumstances that brought us together and reviewed the issues contributing to his cash flow dilemma:

• Bank line of credit was capped
• Increasing sales demand from his customers
• Concerns about the consequences of not being able to respond to his customers needs
• Falling behind with his vendors

In reviewing the “pain” that brought us together, the prospect began to realize that the cost of not going forward was far more expensive. Furthermore, the increased availability created under our line would enable him to say “yes” to business he‘d otherwise not be able to do AND begin to increase his purchasing power with vendors. His analysis indicated that the cost of the line could easily be justified incrementally towards his increase in sales. Overall, an asset-based line of credit with Dominion Business Finance, LLC was the solution he had been seeking.

Jeffrey A. Mitchell – President
Dominion Business Finance, LLC
2111 West Swann Avenue, Suite 204
Tampa , FL 33606

Phone (813)341-3660 x101
Fax (813)341-3659

Email jmitchell@financedominion.com
Web www.dominionbusinessfinance.com

Financing Strategies for Early Stage Technology Companies
By Mark Watson

Most new and early-stage businesses are built without raising substantial amounts of outside capital. They are founded with small infusions of cash from the founders, perhaps supplemented by support from relatives or wealthy individuals. In doing so, the founders avoid the effort and dilution of raising capital from institutional investors. The vast majority of small businesses remain small, and their founders are happy maintaining family control and pursuing modest growth

In high-technology, however, two factors confound this common pattern: 1) founders tend to be ambitious about growth and liquidity, and 2) the rapid pace of technology makes slow growth unsustainable. Because some technology companies use capital as a competitive weapon to progress more rapidly, all their competitors are compelled to do so as well.

Recognizing the necessity to develop and grow rapidly, and the resulting need to raise large amounts of outside capital, technology entrepreneurs are faced with a range of options, each appropriate to a different stage of growth. Early in the company's development wealthy individuals and founders can provide the relatively modest amounts of capital (usually less than $1 million) to get the business plan written, the core management team assembled, and a prototype developed. At that point, the CEO typically turns to professional venture investors for larger amounts of capital ($5 million to $20 million) and for the expertise essential to building a company. Finally, the successful company turns to later stage investors, large corporations or the public markets for access to even larger amounts of capital (beyond $20 million) and for liquidity for the founders, investors, and employees.

How Much Capital?
Since a company grows in value as it progresses, the founders can minimize their dilution by raising only as much money as necessary for each stage of growth. Ideally, a company would raise money just as it is needed, but that would require constant fundraising and preoccupy management with selling stock as opposed to building and selling product. Because investors tie the growth in the value of the business to the achievement of demonstrable milestones, increases in valuation can only be realized in a step-like fashion.

So the answer to the question, "How much capital?” becomes apparent. A company should raise as much capital as is necessary to get to the next major milestone that will justify a substantive increase in the company's stock price. When it comes to cash, the cost of under funding vastly exceeds the cost of over funding. It is therefore prudent to add a fudge factor to the estimate of how much capital is required to get to the next milestone - 50% for example.

What milestones justify successively higher prices? Typically they are the completion of a prototype, completion of the management team, conclusion of beta testing for a product, building a list of initial reference able customers, getting customers to place repeat orders, reaching cash flow break-even and profitability, filling out a fuller product line, and completing a series of profitable, growing quarters on plan.

Prudent CEOs raise more capital than they think they'll need and rarely turn away capital in an oversubscribed round. There are two reasons why taking too little cash and running out is so costly. First, it puts the company in a very weak position when negotiating price with a new investor. More importantly, it reveals a lack of ability to forecast the future and therefore undermines new investors' confidence in management's plans. Most venture capitalists believe with good reason that there is an inverse correlation between bridge loans and a company's ultimate success. If it is available, t ake the money.

What Is The Right Stock Price?
Once a venture firm invests in a company and joins the board, they will want to be on the same side of the table as the founders long-term. Negotiating the price of a follow-on round for a company where only the founders serve on the board would be awkward at best, and could fracture the trust that is critical to maintaining an effective board. So with each subsequent round of investment, a new outside investor is usually asked to negotiate the price, at arms length, with the management team. Existing investors are then asked to participate in the round as an expression of confidence in the company's progress. While an inside investor can be used to signal pricing to a new investor, ethics demands that the insiders work strenuously on behalf of management to get an attractive price for the stock.

It is in fact a mathematical reality that an existing investor who participates pro rata in a follow-on round is indifferent to price. His ownership will be roughly the same over a range of valuations. At a low price his early investment gets diluted more, but his follow-on round buys more. At a high price, the opposite is true. The two effects roughly cancel one another out.

The argument for refusing to accept too low a price is self-evident, but there is an equally compelling argument not to push too aggressively for a high price. Too high a stock price too early can have several negative effects. Investors in subsequent rounds need to feel they got a fair deal, particularly as their support will be necessary when the company hits disappointments that inevitably come along. Even more importantly, employees need to see smooth, progressive stock price growth over time to feel that their efforts are well spent. Too high a valuation early on, and a consequent down or flat round later causes employees to question why, if they're working so hard, "value" isn't being created. Employee disillusionment and defection is common when stock prices don't grow in a consistent fashion.

 What about Other Sources of Capital?
Venture capital tends to be expensive capital. It is expensive because it generally brings with it free consulting, an enormous network of relevant contacts, access to additional capital, and early validation of success. There is nothing wrong with augmenting venture dollars with less expensive capital, as long as it's done at the right time and under the right conditions. Companies have access to several additional types of financing.

Bank debt. Substantial bank debt has no place on the balance sheet of an early stage company, and most bankers will tell you so. In a good year, banks make 15% on their money. They can ill afford even one portfolio loss and tend to get jittery when inevitable "start-up hiccups" occur. Their jitters can often make things worse. However, developing an early banking relationship with a modest line is not a bad idea as long as a few rules are followed: 1) deal only with banks that have a long and consistent history of high-tech lending, 2) deal only with banks that have established long-term symbiotic relationships with the venture capitalists, 3) don't borrow more than two weeks worth of revenue until you're solidly profitable, and 4) over-communicate with your loan officer. This way you'll have a banking relationship with someone who has a long-term business interest in your success, just like your venture investors.

Venture Leasing. This has become an increasingly popular vehicle for leveraging an initial venture investment. Many of these firms can provide a flexible array of services that allow you to devote your more expensive capital to people rather than PCs and cubicles. Venture capitalists also like this vehicle because it helps improve their return on investment as well. Price is by no means the most important factor in choosing a venture lessor. Ask for reference CEOs of difficult accounts to learn how the lessor reacts in tough times. Talk with other portfolio CFOs to find out how flexible the firm is in accommodating special service needs. And again, rely on your venture board members to advise you concerning who has built a sustained reputation for patience in the start-up community.

Corporate Partners. Corporate investors represent a double-edged sword to small companies. They can bring great resources to bear. They can also impose ponderous decision-making processes on fragile start-up companies. Venture capitalists only have one agenda in their investing, the maximization of stock value. That happens to be the same agenda as the company's founders. Corporate investors usually have a more complex and less compatible agenda in mind. The people making the initial investment frequently change jobs and the relationship with the company can suffer from corporate politics. Finally, a corporation focuses primarily on their own success. If that company's core business takes a sudden downturn, the relationship can suffer through no failure of performance on the part of the start-up. Business relationships with large corporations (such as marketing or technology agreements) should stand on their own feet without the complication of an equity investment. The higher share price a corporate investor may pay frequently comes with hidden costs that more than offset the lower dilution. These investments make far more sense as the start-up matures into robust profitability.

Revenues. The least dilutive way to finance a company is with profits. Before raising capital, make sure you've done everything reasonable to control costs and increase revenues. If your income statement can't provide any more help, take a look at the balance sheet. There is hidden cash in old receivables - and if they're old because of unhappy customers, the company will need to resolve those problems before prospective investors begin their calls

How Do We Chart The Ideal Financing Course?
Financing start-ups and early stage companies is a craft, not a science. The company's performance, macroeconomic fluctuations, capital market fads, and serendipity each play a role in determining what the best course of action is at any time in a young company's growth. There are many right answers, and there is never a time to rest. The best CEOs are always selling their companies, always raising money. Financing a company, like starting a company, is an exercise in predicting the future. Consult your management team, consult your board, consult your attorney and consult your spouse. But don't run out of cash.

Benelux Capital identifies and introduces appropriate capital to start, develop or transform privately held companies demonstrating significant growth potential. The firm provides a fully integrated service across M&A, equity, debt and acquisition finance and other specialized financing solutions.

Visit www.beneluxcapital.com for more information or contact Mark Watson at mwatson@beneluxcapital.com .