Working the private equity circuit

Black Enterprise, Nov, 1998 by Donald Jay Korn

Are you a prime candidate for venture capital or other private investment backing? Here's how to get in the game.

Buyout specialist John Douglas has seen the best and the worst of private equity funding. "The first deal that I tried to put together was an acquisition of a television station in Austin, Texas," recalls the 59-year-old entrepreneur, who's based in San Francisco. "I needed $1.6 million to complete the deal so I lined up four sources of capital, with a $400,000 commitment from each one. At the last minute one of my backers got greedy, tried to squeeze me out and the whole deal fell through."

Fast forward a few years to another opportunity to secure financial backing in the TV arena in California. "I had learned not to raise `just enough' capital," says Douglas. "This time around I worked with several top firms, including Syncom and Opportunity Capital Partners, that specialize in helping minority entrepreneurs. I lined up enough capital to give myself a cushion, no one got greedy -- and the deal went through."

Douglas, who buys and sells companies for a living, wasn't out of the woods, though. "Not long after the acquisition, two critical pieces of equipment failed. Not only were they expensive -- $100,000 altogether -- but there was only one supplier and a long waiting list," he says. "We turned to Opportunity Capital Partners, which not only came through with the money but had a connection with the supplier. In fact, this company was one of Opportunity Capital's investors. We were bumped up to the head of the line, got the equipment in time and were able to keep broadcasting. That's when it paid off to have the right partner."

This may seem surreal to many entrepreneurs and business owners. A wealthy friend comes along at a crucial moment and intervenes in high places on your behalf. Fortunately, private equity funding is real, not make-believe. "In fact, this is an excellent time for lining up private equity capital because there's a great deal of money available for qualified entrepreneurs," says Lewis E. Byrd, general partner at Opportunity Capital Partners in Fremont, California, a family of three venture capital funds with $35 million in assets that provides debt- and equity-oriented financing to minority-owned businesses.

If you think there has to be a catch, you're right. Since business backers are selective, only the chosen few will receive private equity capital. And funded recipients must negotiate carefully to ensure a fair deal.

To win the private equity game, you first need to know the rules. begin with some definitions. The term "private" suggests that investments are made in companies that aren't traded publicly. "Equity" indicates that backers want part ownership in exchange for their investment, but that's not always the case. Sometimes private equity providers will be content with some form of debt -- collecting interest plus a return of principal -- rather than owning stock in a company. "Every deal is different," says Laurence C. Morse, partner at Fairview Capital Partners in Farmington, Connecticut, "so the structure will vary according to the situation." Fairview provides investment and advisory services to pension funds and serves as investment manager of three funds totaling $300 million.

Although dissimilar, private equity transactions can be grouped into a few categories, according to Morse:

SEED. At this stage, the business may be no more than an idea. An entrepreneur may need start-up capital for a product or service that's being developed. You need a business plan to attract backers.

EARLY STAGE. This category usually includes companies that are in the marketplace, perhaps a few years old, but not yet profitable. Capital is needed yet banks aren't willing to make major commitments. If the early results are positive and are combined with the potential for exceptional future growth, private equity funding may be available.

Money directed to a company during the seed and early stages may be called "venture capital," which is considered a subset of private equity. However, the lines aren't hard and fast: some entrepreneurs use the term venture capital interchangeably with private equity. Don't get hung up on semantics; what counts is whether or not money is available.

EXPANSION. Companies seeking expansion financing may have been around for five or more years and achieved some measure of profitability. "Now they need a significant infusion of capital to move on to the next stage," says Morse. "There should be a reasonable strategy in place for making the most of expansion capital."

ACQUISITION. In these deals, an entrepreneur desires financial support to acquire another company where there's unrealized potential. Douglas' failed and successful attempts to acquire existing TV stations are examples.

"There's a continuum of risk here," says Morse. "An investor who participates in a seed company, for example, is taking much greater risks than an investor who helps a proven entrepreneur buy out an existing company. In return for taking greater risks, investors want the opportunity for greater rewards." In practice, that may mean offering better terms (giving up more of your company) to attract capital to start-ups and early-stage companies.