Hivemind's economic barometer

The recent "credit crunch", and focus on Northern Rock, is the most public manifestation of an economic downturn. Here at the collective, we have seen other signs that consumers are tightening their belts, and that the highstreet is going to have to work harder than ever to get our pound at Christmas.

So what were these other signs?

• New "57" registrations came into force on 1 September. have you seen as many news cars on the road this time? We haven't, which suggested to us that people were waiting just that little longer before changing cars.
• Bonfire night: over the past five years, it's been hard to ignore the huge amounts of money literally going up in smoke in the weeks leading up to, and including November 5th. This year, however, things seemed a lot quieter which told us that some discretionary spending was being cut back.
• Property: we have reached, and perhaps gone beyond the top of the property market. The evidence for this is all around - for sale signs lingering longer than you might expect on properties, fewer properties coming on to the market, and those that are there reducing prices in an attempt to keep our interest.

We feel that this probably means a difficult 2008. For start up and early stage businesses, this is bad news, especially if you're a technology business with little by way of traditional fixed assets. There's a saying (Donald Trump, I think) which says "if you owe the bank a little money, it's your problem; if you owe them a lot, it theirs." At the smaller end of the market we can expect tougher lending criteria (quantum, term, rate and covenants) - our message is "get the right people in place with the skills and experiece to strenthen your offering."

Even Peter Jones gets it wrong...

For those of you that didn't see it, ITV's Tycoon was a programme in which Peter Jones (of Phones International and Dragons' Den fame) mentored a number of aspiring entrepreneurs through the early stages of their business.

It was meant, I assume, to be a cross between Dragon's Den and The Apprentice, but failed on all levels. First of all - the concept. Peter Jones trawled the country listening to elevator pitches, and chose six start ups to be based at "Tycoon Tower". The six businesses were:

• A range of branded gardening products to appeal to women;
• Lower cost, but high quality, hair extensions;
• A system for easy reuse by customers of supermarket bags;
• An importer of remote-control helicopters;
• A free magazine aimed at sixth formers;
• A new kind of vodka drink aimed at women.

The businesses were to be judged on profits over a 10 week period. The winner, chosen by viewer phone poll, would receive the profits of the other businesses. All sounds interesting - why didn't it work?

It seems to me that profit in a 10 week period is a very narrow, and potentially misleading way to judge the longevity of a business.

• I felt that two of the businesses (hair extensions and helicopters) might look good for a time but ultimately would build no long term value - both relied on being the exclusive UK importer of their product, and were one product businesses subject to the whims of fashion.
• Two of the businesses (vodka and gardening) were brand focused businesses. The former would take an enormous amount of money to deliver volume sales as it's a hugely crowded market dominated by big players with deep pockets; the latter had identified a niche, but with the best will in the world wasn't going to be able to fly within 10 weeks.
• The plastic bag business was very interesting. It hit the market at an ideal time, and whilst each was low margin this would be a high volume product if the IP was protected. There would also be opportunities to roll it out in overseas markets.
• Investing in a student magazine concept would take someone extremely brave - print is very competitive and being squeezed constantly by new media. However if it worked then the revenues could be exciting.

So what happened? We had two one-hour shows on consecutive weeks in prime time. No one got the chop, and by the time the repetition was removed, and the ad breaks taken into account, the viewer never got a real feel for the businesses nor gained any empathy for the entrepreneurs. ITV obviously felt the same, as the show disappeared for a few weeks to reappear as a 30 minute cut-down version shown at 10:00. At least two businesses did go - the magazine because the entrepreneur could never decide what he wanted it to look like, and the Vodka drink because of any one of about 20 reasons.

The final, filmed live outside in the raging wind of Summer 2007, was a bit like Blind Date, as the embarrassed Peter Jones and his surviving entrepreneurs were paraded on stage ready for the results of the phone vote.

The helicopter business won (it had been the most profitable, after all), although we never got to hear the results of the phone vote. Perhaps only one person called? We never got to hear what happened to the other businesses - in the passage of time we might come to realise that the plastic bag business is in every home, or that for some reason we've been given pink wellies for the garden at Christmas - but if they were binned simply because not enough ITV viewers called up, that would be a crying shame.

What does this tell us? That being a massively successful business person doesn't always mean that they know best. Even the best make mistakes, and that's something worth remembering.

Pitching your ideas - lessons from Dragon's Den

Dragon's Den has brought the world of business angel investment into our living rooms, and provided a fair bit of entertainment along the way. It's also a good source of guidance for anyone looking to pitch to a potential investor, such as:

• Know your numbers: you're going to get asked questions like "what's your sales to date?" and "what profit will you make in year 3?" so make sure you're prepared. Also make sure that you understand what the difference is between gross profit, operating profit and profit before and after tax. Doug Richard and Peter Jones , amongst others, have tended to switch off as soon as the businesses look as though their floundering in this area.
• Look professional: Peter Jones has consistently criticised those who have turned up looking unprofessional. He likes to see a suit and tie - remember first impressions do count.
• Pay HMRC on time: one individual noted that he hadn't paid his VAT for quite some time. Duncan Bannatyne gave some good advice: "Two people you always pay - your doctor and the taxman." The Taxman has the power to shut you down, and then you have no business.
• Explore your alternative funding options: equity funding is expensive; make sure that you have talked to your bank to establish what debt options may be available before you talk to providers of equity.
• Don't lie: many opportunities have been turned down, or deals failed, because of inconsistencies - Duncan Bannatyne says: "We don't hand over money to people who don't tell the truth.", while Theo Paphitis adds: "I kept up my end of the bargain. The show is not about a cash prize, it is about us pledging to invest. But people must tell the truth. Simple." .
• Get the valuation in the realms of reality: there's no right answer to valuation, but there are a load of wrong ones. There have been lots of examples of businesses looking to raise £150,000 and offering 5% (thereby valuing the business post investment at £3 million) where the company is pre-revenue, or early stage.
• Don't lecture your potential investor: Theo Paphitis has often lost interest in a deal because instead of the answer to his question, he's received a lecture in business theory.
• Know who you're talking to: understand what benefits the dragon can bring to your business (and if you're not certain, ask). A few examples spring to mind - forgetting that Duncan Bannatyne, by being a gym owner, is also a major licensee; Theo Paphitis has a track record in retail and has contacts throughout the sector; Deborah Meaden has considerable experience in export and fashion

We look forward to your pitches!

Why business plans go in the bin

As you might expect, we get a lot of business plans. Some are outright rubbish, and their authors ought to be ashamed; others have the vestige of a good idea, and their path to either the bin or the desk depends on how busy we are.

The idea is simple - make sure your business plan is the one on the desk, not one of the 50 in the bin. How? Here are a few common mistakes:

• The plan doesn't tell a complete story: there's lots of good guidance out there, so not doing your research is unforgivable. You might want to have a look at the Business Link website, for example, for help with the contents of a plan
• It's your plan, not your accountants: this is your business, therefore your plan, and the excuse that "my accountant did that bit" is never good enough.
• Financial forecasts are wrong: one of the purposes of the business plan is as a tool to assist in raising money, so we can't emphasise enough how important it is that the numbers actually make sense. If this is an area of weakness, get some professional help and get it right.
• Financial forecasts are unrealistic: getting a business off the ground is enormously difficult. You need to be realistic about your prospects for growth, otherwise your credibility will be shot.
• Valuations are unrealistic: think rationally about what you want to achieve. If raising equity might make the difference between success and failure, do you really want to scare off an investor by being ridiculously greedy? It's better to have 20% of a wedding cake, than 90% of a jaffa cake. A couple of thoughts... if you want to raise £100,000 and are offering only 10% of the equity, this means that after investment your company is nominally worth £1 million. Can you justify this valuation? If an angel wants to exit with a tenfold return in three years, can you realistically see the business being worth £10m in that time frame?
• There's always competition: we see plans which talk about a new product for which there is no competitor. An extreme example might be someone who has invested a laser for opening tin cans. True, there are no other lasers on the market, but the reason is that the manual can opener does the job just fine thank you.
• Run the spell checker: this might seem trite, but your business plan is potentially the only opportunity that you will have to impress an angel. As well as giving insight into your business idea, it also is an indication of your professionalism and competence, so don't let the simple things let you down.

We'll update this article whenever we see things which let a plan down. In the meantime, happy writing.

Funding round pitfalls

Never, ever believe that a funding round is complete until all the documents are signed and the money is in the company bank account.

It's good to get all parties to sign heads of terms; it's excellent to see the investors' funds hit your solicitor's client money account; it's fantastic to speak to all parties the night before completion and know (a) that they plan to attend and (b) that they can see nothing stopping them putting pen to paper BUT...

...funding rounds do fail at the last minute, and very often for reasons that were obvious when you apply some hindsight.

Common issues:

• There's always one more question: you will get asked questions at the completion meeting "bring us up to date with trading", "what's the position with the Vodafone negotiation", "can I have a quick glance at the bank facility letter" and so on. The key is preparation - you should be able to predict the vast majority of questions you might be asked, so prepare your information. As much as anything, the angels are investing in you and your team, so be investible
• Banks are unreliable: I've sat in completion meetings where the bank has faxed in the final facility letter, which strangely bore little resemblance to the draft (and not surprisingly the changes were all bad news for the company) - a sure way not to impress your potential angels. If you've been promised a key document well in advance of completion, keep on their backs until you get it.
• The "final" legal documents contain errors: it doesn't seem to matter how much you pay lawyers, there's always a mistake or two. Obviously you need to have treated every draft with a huge amount of care, but mistakes do creep through - after all, hoards of intelligent people have read it, so it must be right? Wrong! The trick here is to be adaptable - there's generally a solution, and you do have a room full of intelligent people, so take this as an opportunity to work together to find a solution. It may do all of you some good in the long term.
• Some business angels are not honourable people: think about it - your angels have done a great deal of due diligence on you and your company. Wouldn't it have been a good idea to do some diligence on them? Ask for references, take a look at their track record of investing, get to know them at every opportunity - a genuine investor will want to know that you do your homework, so take the opportunity to show how professional you can be.

You can, however, do everything possible and still have a deal fall through. It may feel like the end of the world, and potentially it will have a huge impact on you and your business, but the only words of encouragement I can give is that I have learnt more from occasions where things have gone wrong than when things go smoothly.

Accessing Collective Thought

Collective Thought is a group of experienced business angels who have built and sold businesses with a total value in excess of £300 million. These angels have a broad range of skills and experiences, and actively seek new opportunities.

Sometimes there is only a small difference between business success and failure, particularly in its early stages. The involvement of the right person, who has been through similar growing pains on more than one occasion themselves, could make all the difference.

So are we consultants? No, because we don't charge fees. Young businesses have to be especially mindful of cash flow, and business angels of this calibre would cost the earth if you had to pay a daily or hourly rate.

Once you have made contact with us, we will set up a meeting with the angels who would seem to best fit your needs. In advance of that meeting, you will provide us with the answers to a limited number of questions, so that we come partly prepared. We meet, probably for 1-2 hours, to discuss your issues and reach some initial conclusions. If it all stops there, the only thing it has cost you is time.

If we continue, then it works like this. We will propose one or more angels to work with your management team as a mentor/non-executive. They will receive equity in return for this input, which ensures that their goals are absolutely aligned with yours - if the business is successful, they make money, if it fails, they make nothing.

How do we decide whether to continue? The decision is based on our assessment of the evidence - is there a scalable opportunity and are you the right people to exploit it, together with softer issues - do we get along, can we work together successfully?

If the answer to all these things are "yes", and most importantly you feel the same way, then let's get on and make your business a success. Contact the collective on info @ collectivethought.co.uk

SFLG: Guaranteeing a good deal for banks, not business

Many small and medium sized businesses (SMEs) will have heard of the Small Firms Loan Guarantee Scheme (SFLG). It is of particular relevance to those businesses, such as those in the “new economy” which have little by way of assets against which to secure a loan. SFLG, a joint venture between the Department of Trade and Industry (DTI) and a number of participating lenders, was established to bridge this gap by providing lenders with a government guarantee against default in certain circumstances.

According to Business Link (http://www.businesslink.gov.uk/) the main features and criteria of the scheme are:

- A guarantee to the lender covering 75 per cent of the loan amount, for which the borrower pays a 2 per cent premium on the outstanding balance of the loan, payable to the DTI.
- The ability to guarantee loans of up to £250,000 and with terms of up to ten years.
- Availability to qualifying UK businesses with an annual turnover of up to £5.6million and which are up to five years old. This is generally determined by the date the business came within the charge of corporation tax (for a company) or became liable to pay class 2 National Insurance contributions (for a self-employed individual). In the case of a business transfer the five-year age limit applies to both the business making the acquisition and the business being acquired.
- Availability to businesses in most sectors and for most business purposes, although there are some restrictions.

All well and good. However I have become increasingly concerned by some of the terms offered by banks trying to “help” small businesses. The following example uses a real offer of £138,000 from one of the major high street banks to a software business:
§ An arrangement fee of 1.93% of the loan amount (£2,670)
§ 2% scheme guarantee premium (£2,760 in first year) payable annually
§ Interest of 4% over Bank of England base rate (currently 5¼%) on the entire loan
§ A “success fee” of £10,000 to be paid by the company if shareholders sell their shares.

What does this mean in reality? The bank is putting at risk 25% of the money (£34,500). The balance of the money (£103,500) is risk free because it is backed by a DTI guarantee. And it’s not unreasonable to allow for the fact that the lender deserves some reward for putting up the risk-free money, say 1% over Bank of England base rate.

Therefore on the risky element of the money, the bank effectively charges interest at 10.25% over base, receives an arrangement fee and gets a £10,000 success fee.

So, the bank arranges some risk free lending on behalf of the government for which it receives an interest rate (6¼%) far in excess of what you or I could earn plus an arrangement fee (1.93%). Not bad business in its own right, BUT here’s the nasty bit…
On top of that, it puts at risk £34,500 for which it stands to receive:
§ An interest rate equivalent to 15½% (10¼% over base)
§ An arrangement fee of 1.93%
§ A bonus of £10,000 (equivalent to 29% of the loan).
The total return to the bank – more than a whopping 46%.

This is a scheme set up to help small businesses. However the way in which the scheme is structured leaves it open to abuse. On the face of it, a loan at 4% over base for a young company doesn’t seem unreasonable. It’s only when you break it down into its component parts that the real costs become apparent. And when you do so, you are left with the distinct impression that the only guarantee here is that the banks are on to a winner.