Your Questions Answered: Q&A 1st Round of the Financing for Growth Roundtable #5: Trademarks, Valuation & Exit Strategies
Welcome back! Here we are presenting the 5th and final post in our series on the Financing for Growth Panel from our NewPoint Emerging Food Brands Conference. A short recap of how this works:
Emerging Food Brands looking to grow have limited options financially. Many we talk to are self-funded through sales. This can be hard when they need come up with the capital to buy raw materials, packaging or labels to convert into final product when they need to fill orders. The more the sales, the better the opportunity is to have the cash for the next order with a little left over for profit.
This got me thinking. I’m a small business owner, and I tend to operate with a “buy-it-only-if-you-can-afford-it” mentality. But I also have a line of credit and a good relationship with my bank in case I need to invest in new equipment, staffing or training to service new business. But what happens if I am growing faster than my traditional financing relationships can help?
This series explores the finance options emerging food brand have if they want to grow.
Questions about financing? The content of this Financing for Growth Panel portion (and all program content at our conference) was submitted as questions during registration by the 64 food company/brand attendees. Our expert presenters then addressed the questions—and more—in their programs. In the coming weeks, we’ll be posting each presentation to the “Intel” section of our website. So check back often!
One last time with feeling! Here is our expert panel:
John Hanak (Moderator): Managing Director of Purdue Ventures. John is the Managing Director of Purdue Ventures and also an Entrepreneur in Residence at the Purdue Foundry.
Andrew Bluestein, Co-Founder & Managing Partner, Bluestein & Associates. Andrew is the co-founder and Managing Partner of B&A, which includes developing the firm’s investment strategy, leading the investment committee, and advising portfolio companies.
Andy Miller, Managing Director, Ouabache Investments. Andy leads the Ouabache team bringing prior experience as Corporate Development Leader at Weaver Popcorn where he focused on sourcing and evaluating larger bolt-on opportunities.
Jacob Schpok, Entrepreneur-in-Residence (EIR), Elevate Ventures. Elevate EIRs provide first-time entrepreneurs with business advisory services to help them navigate the uncharted waters of starting a business, from launch to exit and every decision in between.
Let’s jump in…
Trademarks and Patents
Question: In your experience, what do you think about getting a patent on a recipe or production process?
Andrew Bluestein: In the food space, there are a few things that you can patent that are meaningful. It would need to be some type of technology. So, any food formulation, what not. There’s nothing patentable there. And even when we get into technology business, unless there’s some real, hard technology, like even software people don’t have many patents. And sometimes, even if you have a proprietary process on how to make a product … So our coffee company has a unique way of making their cold brews so that it’s shelf stable. That’s not something that we’re going to patent or need to patent because even by patenting it, you tell everyone how you do it, and then people can figure out another way of doing it. It’s better to just keep it as a trade secret. Don’t tell anyone about it. That’s what typically makes more sense. You do more tech investing, so it sounds like you guys might have different perspectives?
Jacob Schpok: No, I think you’re spot on. The real value of the company comes from the leadership, the strategic relationships you develop, and the brand itself. Those are the assets that an investor will be looking at to decide whether or not they want to add additional capital to help grow into new markets. I wouldn’t say that having a proprietary recipe is what’s going to differentiate an investment in the eyes of traditional institutional investment.
Andy Miller: On the IP side make sure you’ve locked trademarks. I’ve talked to a couple of companies who founded their company as “ABC” only to find out that somebody’s already trademarked “ABC”, so make sure you hire a lawyer, doesn’t cost a lot of money, but to lock up your trademarks. That is something from an IP standpoint every brand who are backing branding, and you need to make sure you’re not caught off guard and have to change everything.
Question: How do determine the valuation or equity if friends or family want to invest?
Jacob Schpok: I’m going to start with convertible notes. A convertible note is a vehicle that businesses can use to take on investments without having to create a valuation for the business. The idea is, down the road, other investors will value your business, institutional investors, likely, that have a pulse on what the company would be worth at that point and time. And those that have invested up to that point would then be able to own a portion of the company equivalent to this new valuation plus an additional extra. Generally, it’s about 20% extra for the risk that they’re assuming by putting money in today, relative to the risk that people are putting in down the road.
A convertible note allows you to bring in money without having to set a valuation because it’s so hypothetical, especially when we’re looking at assessing the business without having the tools, quite expensive tools, that institutional investors generally invest in and use every day.
When it comes to raising capital – and this is one thing I don’t think we’ve talked about yet – is that there should always be a strategic end goal for the capital that’s . Generally what that is is, if today we’re not generating any sales, how much money do we need to raise to hit a break even point with just those early sales to cover our cost and be able to prove, validate that the market wants what we’re selling. What’s that going to cost, and how much money do we need to raise?
After that point then, it’s about growing your market. So, if I’m now selling, let’s say, to the great Lafayette MSA, what’s it going to take to take over Indiana, what’s it going to take to do Midwest. In each of those steps, you want those to be as small as possible. Because guess what happens each time you make that next jump? Your valuation’s higher. For instance, if I’ve saturated the Indiana market the next step is to grow the Midwest market. It’s going to take a lot more capital than me growing the Indiana market. Why would I want to take all that additional capital at a valuation that’s less than what it’s going to be when I take over all the Indiana? So that was just a little snapshot to illustrate the importance of the very intended purpose on why you should bring to bring in capital.
So if you have friends and family that they’re loving what you’re producing and they want to get in, they want to get in early, my recommendation has a very intentional next step. Know what that is for your business, and only raise that capital if you know that next step is going to improve your valuation and bring you to that next level where you can go to institutions or even maybe more friends and family and continue to grow.
I would recommend that convertible note to anyone that’s thinking about bringing in more of the friends and family, or generally it’s a good rule of thumb for pre-revenue businesses, or early revenue businesses, to look at convertible notes, since it allows for the investor to feel like they’re getting a good return. It’s called a discount in terms of getting that 20%, which I referred to before, for that next round. As well for the founders and the entrepreneurs, it allows them to be able to bring this new capital in without having problems with pricing.
Generally, you see friends and family agree that the business is worth some amount – like 100 million dollars – and the entrepreneur thinks it’s a 100 million dollars. Everyone agrees that to get to that next point, we’re now raising money. The institutions say, you know, you’ve done some great work, it’s worth 10 million dollars. Well, guess what just happened. You inadvertently upset a lot of friends and family that put money in that are now getting less equity than they first thought that they were getting because the pricing’s getting cramped.
What are some valuation tools available to small business owners?
Jacob Schpok: I don’t know if my fellow presenters have rules of thumb, but Crunchbase is a site where businesses that are raising capital. Crunchbase does a good job aggregating as much data for the general public as they can on how much businesses are raising and what valuation is expected for a business to raise capital, they needed to disclose it to the Feds, and some of that information then can trickle down for public consumption.
But I don’t know if my fellow presenters have different guidelines for food company valuations.
Andrew Bluestein: It can be kind of broad. One of the things you can do (which is not always the best), is looking at what some of the public companies in that space sell for. It’s not always apples to apples. There are private tables, but yes, Crunchbase is a useful tool. You can also talk to some advisers and say, “what do you think?”
An essential resource you should be your lawyer, your counsel. If you can find a lawyer who does a lot of startup financing or does a lot of food investing in their financings, they may have market data because they’ve been involved in a number of deals. They an be very versed about like a verbal note to different structures.
So I would put a lot of emphasis on trying to find a good lawyer who could be helpful. I’ve seen a lot of lawyers who’re really unhelpful, so I’d invest in that relationship. Another thing you can do is read about companies that have been bought. For instance, take RXBar. RXBar sold to Kellogg for $110M, which is around five times revenue. That’s a little bit on the high end. Usually food companies, food is more two to three times revenue and beverage is a little bit higher. Three to four times revenue in a high margin business can sometimes reach four to five times.
But the best-performing companies sell for a lot. If you’re just like an okay business, you’re going to be traded at a lower multiple, so there’s no right kind of rule of thumb.
Andy Miller: I agree that early stage valuation can be very it’s difficult. Just looking at precedence transactions if you can is an excellent way because, again, back to the data, you can present a potential acquirer and say, “We’ve seen deals valued this.” We’re looking at high-end bourbon company right now, and there’s been a ton of public transactions where they’ve acquired companies like what we’re looking at, so we got that data to say, “Okay, you traded for this multiple so, if we’re successful, we think it could be this.”
Do you have successful exit strategy examples?
Andy Miller: Once again, there’s not one size fits all. It’s going to go back to thinking about that, mainly when you’re getting your invested money. I mean, if you’re a traditional fund, they are going to have about a seven-year horizon typically, maybe quicker. From a family office standpoint, we don’t have a horizon. We look at it and say, “We can keep it for 12 months or 12 years,” so we don’t have that parameter.
But again, I think it’s very important to think through, at what point do you think you want to move on? Some of that is just time. I don’t want to run this for the next ten years. I’d like to sell it in four. I want to make sure I can get this kind of value out of the businesses, so I know that I can sell it for 50 million.
But the last thing I’d say in terms of these guys is some of this is also being opportunistic. You may find yourself in a situation where you have an exit offer on the table that you didn’t anticipate. But consider that very carefully because you may say, “Gosh, this is an amazing opportunity for us to get out and for me to realize some of the capital that I’ve got into this business.”
Jacob Schpok: Most exits occur through acquisition, and most acquisitions happen when it’s not planned. That’s the reality of it. So the question is how much money do you want to make and know that number. Because a mentor of mine, when I was in my 20s, told me, “Pigs get slaughtered, and hogs get fat.” So it’s a byproduct of knowing yourself, knowing what you’re going to be comfortable with, and when that number presents itself, be ready to act on that opportunity.
Otherwise, enjoy continuing to grow the company. A big conversation right now with a lot of baby boomers retiring is just succession planning and looking for these exits, so it is something that exists. The unfortunate reality is more often than not if it’s a rushed exit, it ends up being less than satisfactory for the entrepreneurs since time is not working for their advantage.
So the marketing needs to be right. There’s a family office in Indianapolis that acquired Oodies before the whole gluten craze took place. Time is everything for those guys. And it just worked out to everyone’s advantage. But at the end of the day, I would figure out your own personal limit, and I’ll also recommend, just for the sake of the group, for those interested in more on this subject matter.
High Park Venture Partners, they have a blog. They have great blog posts on a lot of the things that we’re talking about. Now, they’re not necessarily directed towards food. It’s more the broader sense of investments and the kind of leans towards that as well, but just great content on knowing your numbers and how to figure out what your valuation is and those pieces. I guess I’ll quickly say the valuation aside; valuation is largely determined based on how many investors you have willing to go back and forth and get on a bidding war on your company with value.
Andrew Bluestein: If you only have one institution that wants to buy you or invest, well, guess what your valuation is going to be. Whatever they say the valuation is going to be. So that’s a large piece as well.
We Need to Say this…
- Every brand and company is different: The experts here are addressing general questions from a wide variety of companies. Use their advice and guidelines as a starting point.
- This post is by no means all you need to know: There are a ton of great resources to draw advice on when considering a financing growth. The above are a few questions that food attendees asked for this finance and investing workshop. Here are a few more awesome references for more intel:
This is the 5th and last in our series of “Financing Growth” posts. Look for our Retail Buyer’s Roundtable series next!
There is a ton to learn about investing and finance. If you’d like to review something in this post or just want to I’d love to hear from you. Contact me at firstname.lastname@example.org.
And, as always, Keep Moving Your Brand Up the Food Chain!