Capital Ideas – finding finance for a new venture
Caterers are cashing in on the recovery, encouraged by a food-savvy public and a hike in corporate spending, but if you're looking to finance a new venture, who should you turn to? John Greenwood investigates
With the overwhelming majority of contract catering companies having weathered the downturn with resilience, this renewed confidence is feeding through into greater interest from investors and a slight but significant loosening of the purse strings by banks when it comes to lending.
Published at the end of last year, business advisory firm Zolfo Cooper's Foodservice Growth Report 2013 identified renewed investor interest in catering after years of seeing it as a low-margin sector, facing stiff competition from giants such as Compass and Sodexo.
But the warming economy, coupled with an increasingly food-savvy consumer base, has created opportunities for smaller, niche players to grow. This has, in turn, led to increased investment in foodservice companies.
It is a trend that Graeme Smith, partner and head of hospitality sector at Zolfo Cooper, expects to see gather pace throughout 2014.
"The sense we get from talking to investors across the catering, leisure and hospitality sector is they are a lot more bullish and upbeat than they were two or three years ago, and this
confidence is now more broad-based across the country," he says.
"There has always been a two-speed economy, and in recent years London has performed strongly, benefiting from its status as an international centre. But since last summer the main conurbations outside London have started to show positive signs of improvement.
"The other factor attracting investors to this market is that catering is seen as another way to ride on the improving economy. Catering and events are expected to be positively impacted as companies' budgets increase."
Foodservice caterers eyeing the opportunities presented by these green shoots of recovery have a number of funding options if they are looking to expand. Entrepreneurs choosing the traditional financing routes of bank borrowing or cash injections from external investors will find the process tighter than it was back in the pre-crunch era. But the credit-starved economy has also fostered the emergence of creative new ways of generating finance, such as crowdfunding and peer-topeer lending.
Getting the financing right is crucial for your new venture. The finance option that will be best for your project will be influenced by a number of factors: is it a start-up or an expansion
of an existing business? Are you expecting growth to be rapid or steady? And do you want investors to help guide you on your journey, or does the thought of outside interference
leave you cold?
The basic rule of financing is: the bigger the risk your proposition presents, the more you have to pay. Using your own cash is, of course, the cheapest way to get a business off the ground as you pay no interest at all, but you do shoulder all the risk if things go wrong. Other options include the following.
Bank lending
The next cheapest option is bank lending, which typically comes in at between 4% and 7% for terms normally ranging between three and five years. Loans are for a fixed rate and
normally come with covenants that require you to hit certain targets along the way if you don't want the bank to call in the debt early.
Your bank will also often want a first charge on the assets of your business (making it the first creditor to be repaid if your venture goes bust) and may want you to take personal liability for the debt, meaning you could lose your home if things go wrong.
Direct equity investment Direct equity investment, either from venture capital investors or business angels, sees cash injected into the business in return for a stake.
"Equity investors are looking to return two to three times their money over a three- to five year period. That equates to an annual return of between 20% and 30%," says Smith. "Equity
doesn't have a fixed return or covenants, so it is used where people are pursuing high growth because it allows for bumps along the road. But people expect higher returns to
compensate for that risk."
Mezzanine finance Sitting somewhere between bank lending and direct equity investment is mezzanine finance, which carries interest rates typically between 10% and 15%, but the investor may also seek some of the upside if the business takes off. Look out for administration and exit fees with mezzanine finance that can bump up the cost beyond the headline rate.
Since the credit crunch, banks have received lots of criticism for not lending to businesses, but experts say things are getting better.
"The good news is that banks are now more willing to talk to small businesses," says Russell Kett, chairman of global hospitality consultancy HSV London. "If you have an existing
business and a good relationship with your bank and a good track record, you will find it a lot easier to get funding than it has been."
But people coming to the sector for the first time will struggle, says John Roe, managing director of independent contract caterer Aspens Services specialises in providing catering services to schools, colleges and business clients across England and Wales.
The company was established in April 2008, just five months before the financial crisis struck. Aspens' strategy of targeting educational establishments, many of which are public sector organisations, has enabled it not only to weather the downturn, but also to grow through it.
Managing director John Roe has adopted the growth strategy that allows him and his management team to retain complete control over their destiny - funding expansion through
earnings as and when the organisation is able to do so.
But he sounds a cautious note about equity investors: "We have financed growth by retaining earnings because we are loath to fall into the arms of venture capitalists. Venture capitalists will manage the business for profit, and that can mean you have to do things you wouldn't normally do; things that are anathema to your client.
"For example, they can require you to simply terminate unprofitable contracts rather than try to turn them around. If I want to hire extra staff, then I can do so without having to have
someone from a venture capital company telling me it's OK.
"It is great how low the barriers to entry are in the catering sector. You have clients who pay you before you have to pay your suppliers. It is a great sector and I would urge others to go into it."
Funding expansion through earnings Aspens Services. "Banks are not lending to start-ups, or if they are, only in very limited circumstances," he says.
Peer-to-peer and crowdfunding One of the plus points of the squeeze on credit is the emergence in recent years of new lowcost funding options facilitated by the internet.
Peer-to-peer lenders, such as Funding Circle, which matches people with money to invest with businesses seeking finance, are suitable for established businesses looking to take their
enterprise to the next level.
Crowdfunding is more suitable for people with ideas they want to get off the ground. In 2011, Jonathan Downey's Rushmore Group, which owns bars such as Milk & Honey, set
a new record for crowdfunding, raising £1m from 143 investors who learned about the opportunity through the Crowdcube website.
Whoever you are asking for cash - business angel, venture capitalist, bank, peer-to-peerlender or crowdfunding site - you must have a convincing and compelling business plan.
"The thing people get wrong most often is assuming they know what a business plan looks like. But it is very easy to find a business plan online, so search for one and then follow it," says Kett.
A coherent business plan involves not only detailed projections for the business's journey to profitability, but proof of a committed management team, expertise in the field, good relationships with suppliers and other partners and, most importantly, a clearly voiced idea for the business.
A strong vision and a well-drafted business plan should leave you with more than one option. At this point, gut instinct should come into play. "If you find yourself in a quarrel at the very
beginning, it is clearly a partnership that is not going to last," Kett says. "Whoever you go with, it has to feel right.
The business investor Formed in 1999, foodservice provider Yes Dining was looking for a new direction. Managing director Chris Mitchell pitched the idea of a management buyout to a number of suitors, including entrepreneur Luke Johnson, who liked what he saw.
Renamed the Genuine Dining Co, Mitchell and Johnson's company has been repositioned as a quality contract caterer.
Mitchell has no qualms about giving up part of his business to an external investor. "You see people in Dragons' Den on TV quibbling over a few percent of equity and losing the possibility to work with someone with masses of expertise. That is crazy. "For us, Luke has been more than just funding. He gives us expertise and also a huge amount of credibility.
One of the many things that Luke has done is to press us to come up with what we are about - what it is that makes us special.
"There is a lot of equity funding out there, but you have got to have something people want to invest in. There are successful people featured in Caterer and Hotelkeeper every week who know the business.
To find the three or four people who were interested in investing in us, we must have contacted somewhere between 30 and 40. You just need to be thick-skinned and tenacious."
Funding expansion through earnings
Aspens Services specialises in providing catering services to schools, colleges and business clients across England and Wales.
The company was established in April 2008, just five months before the financial crisis struck. Aspens' strategy of targeting educational establishments, many of which are public sector organisations, has enabled it not only to weather the downturn, but also to grow through it.
Managing director John Roe has adopted the growth strategy that allows him and his management team to retain complete control over their destiny - funding expansion through
earnings as and when the organisation is able to do so.
But he sounds a cautious note about equity investors: "We have financed growth by retaining earnings because we are loath to fall into the arms of venture capitalists. Venture
capitalists will manage the business for profit, and that can mean you have to do things you wouldn't normally do; things that are anathema to your client.
"For example, they can require you to simply terminate unprofitable contracts rather than try to turn them around. If I want to hire extra staff, then I can do so without having to have
someone from a venture capital company telling me it's OK.
"It is great how low the barriers to entry are in the catering sector. You have clients who pay you before you have to pay your suppliers. It is a great sector and I would urge others to go into it."
Useful contacts
www.ukbusinessangelsassociation.org.uk
www.fundingcircle.com
www.crowdcube.com
