A good financial plan demonstrates to investors that you are a competent manager, and that you may have that special managerial edge over other small business owners looking for equity money. You may gain a decided advantage through well-prepared plans and projections that include: cash budgets, pro forma statements, and capital investment analysis and capital source studies.

Cash budgets should be projected for one year and prepared monthly. They should combine expected sales revenues, cash receipts, material, labor and overhead expenses, and cash disbursements on a monthly basis. This permits anticipation of fluctuations in the level of cash and planning for short term borrowing and investment. Pro forma statements should be prepared for planning up to 3 years ahead.

Now, making these financial plans will not guarantee that you'll be able to get venture capital. Not making them will virtually assure that you will not receive favorable consideration from venture capitalists.

Annual Charges

An investment in the company may be in the final form of direct stock ownership which does not impose fixed charges. More likely, it will be in an interim form, such as a type of loan that can be converted to stock.

Angel investors and venture capital firms generally intend to realize capital gains on their investments by providing for a stock buy-back by the firm, by arranging a public offering, or by providing for a merger with a larger firm that has publicly traded stock. They usually hope to do this within five to seven years of their initial investment.

Most equity financing agreements guarantee that a major investor participates in any stock sale and approves any merger, regardless of their percentage of stock ownership. Sometimes the agreement requires that management work toward an eventual stock sale or merger. Clearly, the owner-manager of a small company seeking equity financing must consider that taking in a venture capitalist as a partner may be virtually a commitment to sell out or go public.

Types of Equity Investors

There are several paths to locating equity capital.

Individual private investors. Private placements of equity can be made through your contacts, those of your financial advisors, or by presentations before investment groups.

Finder firms. Such firms may be able to help the small company seeking capital, though they are generally not sources of capital themselves. Deal with reputable, professional finders whose fees are in line with industry practice. Further, note that investors generally prefer working directly with principals in making investments, though finders may provide useful introductions.

Traditional partnerships - which are often established by wealthy families to aggressively manage a portion of their funds by investing in small companies;

Professionally managed pools - which are made up of institutional money and which operate like the traditional partnerships;

Investment banking firms - which usually trade in more established securities, but occasionally form investor syndicates for venture proposals;

Once an interested investor is located, the rest of the process would seem simple; if you're selling stock, you take the investors' check and give them a stock certificate. Or if it were to be a loan, you would take the check and sign a note. Unfortunately, it's not quite that simple.

Regardless of the source of financing - family and friends, angels, or venture capital, expect some "due diligence" to be performed. Claims would be verified, and generally some forms of guarantees of collateral on the part of the entrepreneur would be documented, and possibly situations where the investor could take charge of the business.

Entrepreneurs, in their enthusiasm, often oversell. The execution of documents that clearly express responsibilities and safeguards is essential to a system based so heavily on trust.