Working Capital (Debt) Financing For Entrepreneurs: Heather Onstott, Director Of Small Business, LaunchCapital (Part 5)

By guest authors Irina Patterson and Candice Arnold

Heather: For the market size, there’s no real minimum because minimums are going to depend on whether the success of the business is based on traction and customer leads and hits or whether the success of the business is based on profitability. That affects what your minimum market size needs to be.

Irina: Do your venture people think about exit strategies when they invest?

Heather: Of course, definitely. For the venture guys, it’s more about the possibilities, and the more possibilities, the better. Obviously, I think, everyone would say, “Oh, it would be fantastic if every company we had in our portfolio went public.” OK, maybe.

But the reality is, in this day and age, the exits are typically acquisitions. So, when we look – from the venture side – at acquisitions, we think who would be interested in this type of company?

The more there are multiple players either within an industry or across industries, the better. So, from that side, they look at an exit. One of the first things they think about is, where does this go from here?

On the small business side, most of the time, my companies are what the venture capitalists sort of sneeringly call lifestyle companies.

Lifestyle companies are companies that are started by entrepreneurs who have full intention of running those companies for several years and no interest in selling them or bowing out after two or three years.

That model does not work in the venture capital world, for very good reason. For mine, it’s fine because it starts off as a loan, the principal and interest are repaid, and then anything that is a risk repayment comes in the form of either a dividend – if you have an equity stake – or a royalty repayment. So, no exit is necessary.

Irina: What was the driving force behind the creation of your small business division?

Heather: My understanding is when everything started to fall apart in the fall of 2008 – and even prior to that – credit liquidity really shut off.  It started to really get tight in the summer of 2008 and basically just turned off in the fall.

All of a sudden, the backbone of America, which is the small businesses that started up, the mom-and-pop shops that employ three to five people, had nowhere to go to start their businesses.

Normally, they would turn to family and friends, but the market crashed and anyone who’d had excess cash on hand who would normally invest in his friend or family member didn’t have that at hand anymore. This was really why our board said, “Hey, there’s got to be a way that we can meet this immediate need and make it worthwhile for us and the entrepreneur.”

Irina: What is the typical range of interest for your small business loans?

Heather: When we looked at the interest rates that are already out there, we couldn’t really compare to what if you could borrow against your home, and the housing market crashed too, by the way, so most people didn’t have that either. We couldn’t really compare to that because your house is probably the best thing that you’ll hold onto forever. It’s going to be the lowest risk so a very low interest rate.

We looked and compared ourselves to credit cards. Credit card interest rates were running, for small businesses, anywhere from 14% to 22%. We said, “That seems a little high. Let’s come in below that.” I think our quoted range is 10% to 15%. I have one on the books at 14%, but that was because I took a very low equity stake in the business, and those two work in tandem. I would say our median interest rate that we’ve deployed is 12%.

Irina: Do you know if the venture guys look for a certain return in a particular time frame?

Heather: I think it’s, again, case dependent. We have an internal hurdle rate that we aim for, but part of the calculation for that hurdle rate is the element of time. If we know that a company is going to be acquired or we think that a company is going to be acquired in the next two years, then that expectation of a multiple is much lower than if we think the company will be acquired in seven years.

This segment is part 5 in the series : Working Capital (Debt) Financing For Entrepreneurs: Heather Onstott, Director Of Small Business, LaunchCapital
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