Kumaran Padayachee's Advice On How To Access Growth Funding There's a big difference between funding that will help you grow your business, and trying to plug a self-inflicted cash flow problem. Kumaran Padayachee unpacks the difference, as well as what funders look for and how businesses can build better cash flow bases.

PLAYER: Kumaran Padayachee

CCOMPANY: Spartan SME Finance

WHAT THEY DO: Growth finance, bridging finance and specialised asset finance for the SME sector

VISIT: spartan.co.za

When do most business owners apply for funding? For some it's because they suddenly — and urgently — need cash. For others, it's the culmination of a long-term growth strategy that requires additional working capital to invest in new equipment, people, premises or marketing.

The difference can make or break a business. Do you have a strong base to build from, or are you trying to plug a hole in a leaking ship? Spartan SME Finance is an alternative funder that focuses on the SME market, ranging from businesses with a turnover of R5 million right through to hundreds of millions.

The key to alternative funding solutions though, is that they should be accessed to help you grow.

Spartan CEO, Kumaran Padayachee, unpacks the key elements business owners should have in place to build sustainable businesses with healthy cash flows, and how this will place them on a better footing to secure growth funding as well.

1. Know your numbers

A key success factor in all growth businesses is a focus on internal financial management. "As businesses move from start-up phase into a growth phase, considerations around financial management, forecasting and overall strategic decisions require a higher-level resource than a bookkeeper whose role is to do the books," says Kumaran. "Someone must be responsible for the business's financial portfolio, whether that's a senior financial manager or a financial director."

Kumaran and his team interview hundreds of business owners each year, and this key area is a clear gap for many businesses. "Entrepreneurs come from many diverse backgrounds. A few have accounting or BCom backgrounds, but most are subject matter experts. They have marketing backgrounds or industry-specific skills. They've never studied finance and their decision-making isn't influenced enough by the numbers.

"For example, we often analyse a business that has applied for finance and discover that their pricing is incorrect and they are actually undercharging for their product or service.

"There are clear gaps in their strategy and understanding of product/market fit and a lack of access to market. There are also gaps in how gross profits, margins and pricing formulas work.

"Put this all together and you have a business that is making less profit than it should, which means less cash is coming into the business, resulting in cash flow problems. Additional financing won't fix the problem — but financial insights will."

The lesson is simple: Invest in a financial manager or director sooner rather than later. "Having a financial head offers SMEs two clear advantages. First, their financial housekeeping is in order and up-to-date. You can't apply for finance if you don't have up-to-date management accounts and realistic forecasts.

"We often find business owners applying for funding and they need the cash immediately because they haven't had a clear view of their financials to see what was coming; the problem is that these businesses tend to have poor management accounts, which delays the process because we can't get a clear view of the business.

"Second, if the business owners had a tight hold on their financials, they could plan for future requirements, or not need financial assistance in the first place. Finance should be for growth — not to plug cash flow problems."

2. Focus on a healthy working capital cycle

It's an all-too-familiar scenario: A manufacturing business needs to purchase raw materials and pay their suppliers within 30 days. Meanwhile, it takes 30 days to manufacture the product, they sell it after a further 60 days, and then another 30 days pass before they are paid.

It takes 120 days before the manufacturer sees their cash, and yet they need to be able to fund a production cycle and pay their suppliers. "The key is to recognise your cash flow cycle and through forecasting be able to manage it," advises Kumaran. "You can approach your suppliers and negotiate 60-day terms.

"You can negotiate with your debtors to pay earlier. These are the levers of the working capital cycle that need to be managed to minimise your cash crunch."

From Kumaran's perspective, a strategic view of working capital is essential if you want to scale, but there are many basic areas that need to be addressed before a business owner can start focusing on strategy.

"For instance we have businesses with a R30 million turnover that approach us for R5 million in finance. These are not small start-ups. They're established businesses with decent turnovers. And yet they can't give us up-to-date management accounts.

"We need debtors, creditors, management accounts and the last set of financials to evaluate a business and whether it can service the loan. Financials aren't good enough. We live in a volatile world and a lot changes quickly.

"Management accounts and a debtors report shows us who owes you money, but more importantly, how you manage the people who owe you money. We see this more often than we can count: business owners who are owed a lot, and yet they aren't collecting their cash.

"A company's debtors age tells us a lot. We can see how you're exposed, how many people owe you money, how good or bad you are at managing that, and who your bigger customers are. We can see the balance between your debtors and suppliers. Any accounting system today can capture this information, but is it up-to-date and are you reviewing it?

"Without these figures at your fingertips, you can't have a firm grip on the health of your organisation. A healthy working capital cycle is the lifeblood of a business. It doesn't matter how much money you're owed if you can't pay your bills."

3. Realistic forecasting can make or break you

When you're in a scale or growth phase, it's essential that you lift your head beyond simply the survival of the month or month-end. "Many entrepreneurs get stuck in the trenches, working on the day-to-day challenges and requirements of their businesses without looking ahead. If you want to grow, you need to be focused on the future: How many people do you need to hire to achieve certain goals; how much funding do you need; where are your growth opportunities?

"Answering any of these questions requires a forecasting ability that takes into account cash flow, sales forecasts, your pipeline and any opportunities to increase revenue and margins."

A great example of forecasting is a company that Spartan recently assessed. "This business is a niche wholesale supplier to the confectionery industry. This sounds like an incredibly narrow offering, and yet they did their research and found a machine that can improve their margins by 75% — after paying for the machine.

"They needed to finance the machine, and they approached us with full financials, including sales forecasts and the improvements that importing the machine would make on their margins. They had also calculated whether or not they could service the loan."

4. Be able to service the loan

Your cash flow forecast demonstrates past and future cash flow. It shows how you're managing the business, how you're managing cash flow and debtors, and the residual cash that's available to pay a loan.

"If you're approaching a funder, make sure you have these figures on hand. If you don't, the funder needs to figure it out, and more importantly, you might not be able to service the loan. Having the numbers on hand impresses the funder instead — you've determined your payability and whether the loan makes sense. You've reviewed your options and evaluated the best course of action for your business — these are all clear markers of success."

According to Kumaran, more often than not, growth requires funding. Businesses that ensure they are in a constant state of readiness, whose financials are always up-to-date and who understand their needs are far more likely to access that funding for the right reasons. More importantly, they're far more likely to access funding they can afford.

5. Use funding for growth

There is a key to growth funding that can be summarised in a sentence: Will this help me make money? If the answer is yes, you've ticked the growth-funding box. If you're not sure, relook your financials and forecasting. If the answer is no, you're trying to solve a cash flow problem that will not be fixed by taking on more debt funding.

"As a funder, we care about what entrepreneurs want the money for," says Kumaran. "We look at business models and strategy. We take a view of the entire picture, which gives us insight into whether the funding will be used in a growth context, or to plug a gap created by a strategy, cash flow, sales, marketing, management or access-to-market problem.

"Why does a business need funding? Is it because they've given customers 90 days to pay when the industry norm is 30 days? Is it because they have poor debt collection processes in place? Are they asking for money because their cash flow systems are inefficient? Is a big contract not paying you, and now you need funding to cover a delinquent client?

"On the other hand, is there a legitimate need? One of the key areas we look at is contracts. Project and contract-driven businesses have become the norm in today's economy. A six-month contract with no prospect of additional work shouldn't be used as a reason for large capex expenditure. A three-year contract, on the other hand, can be justification for finance to purchase additional machines or to hire more people. You now have three years to build up your pipeline while you service the first contract.

"We also evaluate each business's strategy. A company that competes with cheaper imports and has no discernible value proposition shouldn't be securing funding to do more of the same at poor margins, particularly in a highly challenged sector.

On the other hand, a company in a commoditised sector that needs funding to pursue a new niche where they can improve margins, play in a space with far fewer (if any) competitors and even start exporting to other markets has a good case for securing funding.

"Can you creatively engineer yourself based on your knowledge, sector expertise and skills base? Or are you trying to bridge a self-inflicted cash flow problem? Too many business owners don't adequately research their markets. Do you understand the market you're in? Is your product or service unique? Does it allow you to be insulated against competition and charge a higher premium? Remember, healthy profits equal healthy cash flow, which in turn allows you scope for expanding the business."

6. Grow slow

Where does growth go wrong? Accessing finance doesn't automatically ensure success. "Growth is like placing a big bet, and the reality is that in most cases, an incremental bet is better," says Kumaran. "Are you hiring one staff member every six months or 20 in one go? Will you buy one machine every two years or three in one year? If you're focused on incremental growth, the chances of falling are lower.

"We've seen business owners go big, and then they lose a key contract. The debt burden of that funding they've taken to service that growth buries the business, instead of boosting it. We evaluate every assumption business owners make relating to growth, because that's the last thing we want to see happen."

A problem Kumaran often encounters is when entrepreneurs use one positive sign as an affirmation for an entire strategy.

"Entrepreneurs may get anxious that if they don't "seize the day', they'll miss out on a big opportunity. The result is that they do things too quickly and over-expand. "Ego also plays a role, particularly when it comes to opening multiple offices.

"Our advice is to watch yourself and your ego when making these expansion decisions.

"Get feedback from two or three alternative sources, whether that's from your board of non-executive directors, mentors or a business group. Ask others for red flags. Review your decisions from every angle.

"Big bets should be slow; they should be the result of considered decisions rather than impulsive ones. You won't always get everything right. You can plan ahead and still need to plug gaps. But at least start from a solid, sustainable base, with a clear strategy in place."

7. Know when to fund your growth — and what funding to access

When is the right time to apply for growth funding? For starters, when the growth you're planning can't be funded organically, or simply through unlocking more cash within the business. "Retail businesses and restaurants are a good example of this," says Kumaran. "A retail business's growth is often dependant on multiple locations or sites.

"You reach a point where you're reasonably confident that your brand and business model works, you've piloted your first store for a few years and now you're ready to expand. To organically build up the cash to fund a second location will take another five or ten years. If the business has the margins to pay for debt funding over the next five years however, you can have two stores operating at the end of that cycle, with both turning a profit.

"Just consider your burn — there will always be a period where you are not making money from the investment. Is it six months, nine months, 12 months? You need adequate cash flow to support the debt and the burn.

"Go back to your strategy. It's not just about your market, margins, product, uniqueness and so on. We've found that a lot of businesses are poor in their sales and marketing strategies.

"They want to grow — they have a plan and have pinpointed where to invest — but they can't fill their sales pipelines. If you aren't bringing in sales to support your growth investment, you'll just increase your burn. In this economy, rather operate under capacity than over capacity. You'll never be able to match supply and demand perfectly, no business can.

"No business can afford redundancies though. When you're considering your growth options, focus on what you absolutely need to push the needle, and make do with what you can as you build up your pipeline. In every case ask the question: Do the costs involved make sense? Will this help drive growth? How?

"Once you've ticked those boxes, consider all your funding options. There are a lot of solutions available to you, from bank funding, which is the cheapest to access but requires a lot of collateral, to private equity funding, which involves giving away equity in the business.

"Alternative funders play in the middle of these two traditional options. Alternative funders tend to be niche and specific, focusing on specific sectors or industries.

"They carry more risk and don't require collateral, which is why they're more expensive than banks, but they bring industry and sector-specific insights as well — and it's debt funding, which means you aren't giving away equity in your business. Their processes tend to be efficient as well, largely due to the niche nature of the funder. When you're ready to grow, find a funder that matches your needs and understands your business."