Funding for Consumer Product Companies in 2024 | What to Expect & How to Get It

0:12 Greg Russell

Hi, this is Greg Russell with BRG Growth Partners in Dallas, Texas. So it's great to be here with everyone, and thanks for joining.

0:23 Stephen Brown

Awesome. So what we're going to cover today is the current funding landscape. What we're seeing, how to prepare for funding, looking at options, and I think this will be a good deep dive because there's a lot of crap that's thrown at ecommerce consumer product companies. And then talk about what the future entails.

So Greg's going to be doing a lot of the talking today. Feel free to ask us questions on the Q&A and we'll be happy to answer them real time.

0:54 Greg Russell

Thank you, Stephen. So as Stephen mentioned, we're going to start and really look at it from a broader current state of the market and even the economy a little bit, and then begin to drill down from there in terms of some specific lending options, specific lenders that I've seen come back into the marketplace here just really over the course of the first part of 2024. And then I think we have some examples we want to run through just to help people understand how to think about the actual cost of capital and the cost of these borrowings as you're considering different options.

1:41 The venture capital picture

Greg Russell

So very quickly, this is a very high level view of the venture capital marketplace, not necessarily the lending marketplace. It focuses in on consumer products, but you can see one of the things that I look at very carefully is the different stages of rounds. These are very early stage rounds beginning with the seed round to the series A round, and looking at the time that it takes for these companies to go through those stages, and then also how many of them actually advance from pre-seed funding to series A funding.

2:21 Greg Russell

And you can see over to the right I pulled a couple of numbers from Crunchbase with regards to just how this market exploded, of course, during COVID and 2021, the year following the absolute apex of COVID of course, and then even into 2022, and then how much the market has slowed down. You can see a couple of the capital data points there. You can see five billion some odd dollars that came into the market in late 2020 and 2021, and how that has shrunk down by the end of last year to only $150 million of capital that's available in the marketplace.

3:06 Greg Russell

One thing that I would add to this is that many people perhaps also track the creation of what were called Amazon aggregators and other ecommerce business aggregators. When you look at the growth, those firms were, and some of them still exist, they've gone through a major down cycle as well. But the capital that they attracted was enormous. It was some odd close to $70 billion over the course of 2020, to buy smaller ecommerce platforms and aggregate, consolidate those and create efficiencies. That market has taken a dramatic turn. There's been a lot of bankruptcy and consolidation in that market. So you can feel and see the number of participants that have come out as well as capital.

4:00 Greg Russell

In the middle of that chart is consumer. There are obviously various sectors there starting with fintech to biotech, but you can see consumer. So the way you look at that, take a look at 2019, 2020, that's when a seed round was done. And then the 27%, 31%, then dropping to 19% for a consumer products company that did a seed round in 2021 achieving a series A round. You can see how those percentages dropped significantly over that particular period of time.

And I'm sure that number is, I've not seen that number, this is all provided by Carta, who many of you may be aware of. If you looked at 2022, it would probably be even less than the 19% where we saw the vintage seed rounds being done in 2021.

5:00 Stephen Brown

The big thing I take away here, Greg, is the number to the side that you have. And this correlates with what I've been reading and hearing from venture capitalists, is that the venture capital market for consumer product companies is all but gone, right? Like I've talked to a number of VCs over the last year or two who said, ah, we don't invest in consumer products right now.

5:20 Greg Russell

Yeah. I agree. It's very narrow, for sure. And think about series A, as you're looking at this slide and think about these stages, these seed rounds, that's oftentimes, we're going to talk more about this, but that's oftentimes friends and family, local angel investors. So sometimes there are some institutionally backed venture capital firms that are active in that space in consumer. That's not necessarily the case in tech, but in consumer. So you really don't start to see organized, institutionally funded venture capital firms really beginning to engage in this market until that first kind of priced series A round.

6:12 Macro conditions, and what changed

Greg Russell

These are just some points, and the next couple of slides are just talking about the macro environment and the trends for consumer goods, consumer product companies, but it's also of course related to the state of the consumer and the economy right now.

The first bullet point really speaks to that we just have a lot of uncertainty, and that has continued. The economy has surprised many people. It's actually been stronger, I think, than many people would have thought. But we're there obviously with inflation running very high and prices of goods going up, interest rates going up, more pressure on many consumers and households.

7:01 Greg Russell

I think this is part of the concern of the investor community, is what is the state of the consumer? Where are they going to spend money if they're getting squeezed due to inflationary pressures? Where are they going to spend their household dollars? There's no question they're going to need to buy certain things for their homes and for their consumption, but how does that money that's available shift around? What does that look like from a deal standpoint, whether that be from an equity investment and even credit?

It's just slowing things down. It's a longer underwriting. It's a more cautious underwriting than where we saw it back coming out of COVID and in 2021 and the first part of 2022. And what Stephen was alluding to, and I agree, I say narrow, there's just a lot less capital out there. So as a result of that, people are being very selective.

8:00 Greg Russell

To continue with the points. Part of what happened was, when there was so much money available, this was a bit overshadowed and it really followed the thought process, in my opinion, with technology investment and SaaS businesses. Was this notion of let's just focus on top line revenue growth. Here's a pot of money. I want you to focus on growing that any way you have to. That means you're going to have higher customer acquisition cost. Your marketing spend's going to be higher. Just go do it. Spend, spend, spend, and let's show top line revenue growth.

8:38 Greg Russell

That mindset has changed dramatically. That's across all sectors, and that is definitely the case with consumer products companies. And so the way that I describe it is, yes, it's still important, but margins are important and ultimately profitability is important. So it's really being more disciplined about that capital and where you're spending it.

9:03 Greg Russell

And the last point, it's a little bit of a melding between what we talked about with venture capital and what's been more traditional growth private equity, where growth private equity firms really do spend more time looking at the fundamentals of the business, really looking at the margin structure, looking at how you manage overhead and the ability to have sustainable growth of profitability, where venture capital hasn't necessarily been as focused on that. It's been more top line revenue growth. And so it's been a merging of the two mindsets and strategies specifically for consumer goods company investments.

9:50 Stephen Brown

Yeah. And I think if you look at the public stock market and down to the private companies, we've moved from that, like you said, it's not about growth anymore. I mean, it's not to say that growth isn't important, but if you had to err, you probably have to err on the side of profitability, right, Greg?

10:10 Greg Russell

Yes. Yes, I would agree with that. Investors want to see some growth, but they'd rather see modest growth, high margins, versus high growth, no profits.

10:17 Stephen Brown

Correct.

10:19 Greg Russell

And it's really a better founder model, operator model as well, because you have better options, what people will say optionality, because you're actually generating profits. You're creating internal equity, and that gives you more options in terms of funding your business. And you're not on this constant flywheel of, I'm going to have to go raise money sometime in the next 6 to 9 to 12 months, and you're just continually having to do that.

10:50 What comes next

Stephen Brown

Let's talk about the future. Greg, what are you seeing and hearing?

10:56 Greg Russell

Well, this is interesting. Of course, we all know what's going on, or we think we know maybe what's going on around the world. There are so many things, so many variables. We're in an election year. It's going to be a presidential election. We always say this, this one's going to be probably crazier and different than any that we've ever seen. So that creates anxiety for people, not just consumers, but also for businesses and spending money.

11:28 Greg Russell

Interest rates I think are going to remain elevated, and that's going to be the case for a longer period of time. And so you're going to have to really adjust to that. That has not been the case for the past several years. We've come out of a very low interest rate environment and a much more capital friendly environment. So I think you have to make adjustments for that.

11:53 Greg Russell

And the middle point's really interesting. There was an article in the Wall Street Journal this morning about this very issue, how with the stock market returns that we've had, it's really helped support a lot of the pension plans, both public pension plans and private pension plans, meet their required hurdle rates of return. And so you're going to see, and have already begun to see, a meaningful shift away from equities towards fixed income investments. And that would of course include traditional fixed income, high-grade bonds, treasury instruments, agencies. But I think it's also going to create probably more liquidity into lending options, and we've seen an explosion in private lenders away from the traditional bank market.

12:46 Greg Russell

And I think this is a big reason why a lot of people were investing around COVID in equity in these types of deals, including angel investors and everything, is back loaded. It's all about the equity return and capital appreciation.

More and more people are focused now on cash yield. They want some level of income that's being derived from their investment portfolio kind of at large. And we're also seeing an aging group of people demographically in the country, and so as you retire you need income, and so that's also putting pressure on this.

13:26 Greg Russell

So all of this being said, it kind of points to us seeing a return of lenders back into consumer products, and we're actually seeing that, and that's the point of my last bullet point. We're going to talk a lot about that over the remaining time we have together. But I have seen capital coming back into the short-term lending market for consumer products. It's not everywhere and it's not open-ended and it comes at a cost, and we're going to talk more about that in a few minutes.

14:00 Stephen Brown

Yeah. And the one note I would say here is the equity market, which is your investor approach, as we said, has dried up. So now really what we're looking at is you've got to fund your business through debt. And debt is expensive, and you have to realize that it's expensive because lenders are looking for a return above what the safe market can give you.

So treasuries, you can go get 5% on a one-year Treasury bond, which is almost zero risk. Whereas if I'm putting money into a consumer product business, there's a higher level of risk, and therefore I need to charge a higher rate. And that's fundamentally, if you want to understand rates, watch the Federal Reserve and understand the dynamics there, because everything flows out of the Federal Reserve's federal funds rate.

14:55 What it takes to get funded

Stephen Brown

So let's talk about what it takes to actually get funded. We've kind of painted a not so pretty picture of the market, but there are ways to get funded. Let's talk about what it takes to get funded.

15:11 Greg Russell

Okay. So what I wanted to do was really focus in, and these bullet points and characteristics cross over a little bit from a debt standpoint, but also from an equity perspective as well. So I would just think about this as your product offering, your brand build, your brand creation, and then also the fundamental parts of the business as reflected in your financial reporting month in and month out.

15:45 Greg Russell

And so I would probably start there, the third bullet point, which I call get tight on the basics. And we've already touched on some of this, but your gross product margins, your customer acquisition cost, repeat purchase rates, depending upon your product and the type of business. Many institutional investors including venture capital are very focused on repeatable business. They want to see recurring revenue, recurring customer activity.

16:15 Greg Russell

And then the last sub point there, supportable overhead cost, that is really, really important. I've looked at all kinds of companies and looked at financials and have noticed this significantly over time in this time period. Again, so focused on top line revenue, many people weren't focused on managing the business very efficiently. And that's one of the most important things that people watch for, is managing the overhead cost, which would include salary expense. And so oftentimes these businesses will just bring too many people in too quickly, they'll have too many management team members or even layers, and it's just too much of a burden.

17:04 Greg Russell

That money should really be deployed into my first two bullet points, really focusing on your product and your brand, focusing on your target audience, building that community and that brand experience. That's where that money should really be directed, and not so much in terms of unnecessary overhead expenses.

17:24 Stephen Brown

Let me ask you some questions, Greg, get into some brass tacks. I'm going to define these. I'm going to ask you what you like to see, and then I'm going to chip in with what I hear in the marketplace.

So product margins. Let's define it so everybody's on the same page. Product margins, in your mind, is your gross margin, right?

17:46 Greg Russell

Correct. Yes.

17:48 Stephen Brown

And gross margin, just to be clear, because I see it over and over that people don't understand. Gross margin is typically the number after you subtract your landed product costs from your net sales. A common mistake I see a lot of companies want to do is they want to layer in their merchant account fees. They want to layer in fulfillment. But really, gross margins from an investor's perspective is just looking at the landed product costs. And if you do that as a ratio, you would take that raw number and divide it by your net sales to come up with a percentage.

So now that I've got that defined, Greg, what do you like to see? What is the minimum gross margin that you like to see in a consumer product company?

18:37 Greg Russell

Yeah, great question. And I agree with your definition of how you look at that. Look, the higher the better obviously, but I really get focused in, I tend to like ones that are going to be in the 45% area and up.

But it depends. You know, food and beverage is usually a little thinner margin, but it's a higher turn. It's a higher velocity product. So you kind of have to look at it from the standpoint of that velocity of sales with regards to a particular product. But that's usually where I get interested and get focused in.

19:18 Greg Russell

But then that also, and maybe you're going to get to this, that also kind of carries over into your overhead cost too. I've seen some businesses that are attractive that may be in the mid to high 30s, but they're also very good at managing their overhead cost as well. So you're kind of looking at it in total, but I think those are some good ranges to think about, at least from a gross margin perspective.

19:49 Stephen Brown

And what I've heard over the years, I've talked to a few investors that have said, I don't touch it if it's not greater than 40% gross margin.

The reality though, when you're looking at ecommerce, I've heard others say, if you think about the cost of customer acquisition, that goes to the second bullet, that's typically your advertising spend, it's very expensive. And I think it's darn near impossible, unless you have a really efficient customer acquisition model, which I don't see very often, to run a profitable business with 40% gross margins.

20:24 Stephen Brown

Can it be done? Yes. But you better have a lot of organic customer acquisition. In my mind, I think you should probably be getting product margins closer to, it depends on the product category, but I'd be shooting for 60% or higher in your gross margin so that you have enough room for that customer acquisition.

The other cost of sales, which is your fulfillment costs, that's usually going to be 10 to 15% at least. And then you've got your merchant fees, and then you get down to your fixed fees. And to Greg's point, I see this problem a lot where people have got too much payroll, they've got too much warehouse, they've got too much office space, they're spending too much on those things and they have no profitability, right? The lender doesn't like to see that, because there's a higher risk of them not getting their money back when you don't have an efficient business model.

21:25 Greg Russell

All great points, and that all makes, I mean, you kind of do the math, and like you're saying, Stephen, if you're running relatively high overhead depending upon your margin structure and fulfillment and how you're lining up your advertising dollars, it's really hard to have any level of profitability. Because really one of the only things that you can get in and put your thumb on and really control are those overhead expenses.

22:03 Stephen Brown

So let's talk about what it takes to get funded.

22:08 Greg Russell

So it's all the things we just talked about. We've talked about understanding capital allocation. The discussion we just had is so much a part of that. From my perspective as a lender, investor, I want to talk to people that understand what it is we just talked about, and they see that and they're living it in their business. And it's hard. This is not easy really at all.

22:32 Greg Russell

I talked some here about the heavy payroll expense, too much money towards management layers. Many of you all understand this. That top point, riding the wave of cultural momentum. I think so many of the high flyers that we see, they've just latched on to something. It's almost an intangible.

I think about Liquid Death as an example, as kind of that, they really attached to, in my opinion what was happening was there was a movement at least for certain parts of the consumer base out there away from alcoholic beverages, and they really captured upon that and had a cool product and cool brand. That's kind of what I'm talking about, that cultural momentum.

23:20 Greg Russell

If you can get on one of those even for some period of time and you can get the momentum and generate some internal equity, some earnings, then you have more options, because you're going to have to continue to kind of rebrand and recreate yourself to continue to expand above a certain revenue level. But that's really what I'm speaking to with regards to that.

23:51 Stephen Brown

My thoughts there, Greg, kind of a pivot. I feel like in the last two years, gone are the days where you could go on to Alibaba, source a product that a hundred other people could source, slap it on a Shopify store, and put money on Facebook and really have a successful business.

Can you do it? You could, but it's really hard, because you're probably competing, especially if you're an Amazon only seller. Let me take that same equation, put it on Amazon, you're competing against dozens, hundreds of Chinese-based Amazon sellers that have cheaper infrastructure because they're based in China. They're using AI to generate good copy.

24:36 Stephen Brown

And so I think that generic approach to market, if your product isn't unique, if there are not some unique characteristics, it's really, really hard. And so I just kind of want to put a point on what you just said, Greg, of you've got to have a really good product, a really good brand story, and be able to distinguish yourself from the Chinese knockoffs that are going to knock off even your distinct, unique, patented product that you might have.

25:08 Greg Russell

I agree. I think you just can't be naive about that, and you just have to know that going in, and you almost have to have a very offensive kind of risk management approach and strategy, just knowing that that's going to come as you're building out your business.

25:28 Greg Russell

The other thing too, and I know we're going to get into this, and maybe this is a good lead in. It's really great to see people that come in that have a good handle on their numbers. They have good financials. And I know we're going to talk more about that, but specifically these are asset intensive businesses. It requires inventory. I see a lot of businesses that will come in to us and they've got a great view of their P&L, but not so much the balance sheet and what does that look like in terms of capital required in order to support growth and to support inventory build. That's something that if you can work with outside professionals such as LedgerGurus and others, that really can make a difference from an investor's perspective.

26:16 Stephen Brown

Let me talk about this next point, Greg, which is preparing your financial statements. Obviously this is what we do all day long. I spend a lot of my time when I'm working with customers talking about higher level things, advising them, doing more of the CFO type services.

When you're dealing with lenders, and we'll talk about the lenders that don't require financials, and that usually comes at a price. If you want a good price on your capital, you're going to need to have clean financial statements, and those need to be accrual based. Ecommerce looks like a total mess if it's not accrual based, which means that you have your revenue timing right.

26:54 Stephen Brown

The big one is your cost of goods. Cost of goods is gnarly in ecommerce and a consumer product company. And that means that you are doing the proper process of applying inventory purchases to your balance sheet, and then taking that value off the balance sheet and applying it as a cost of goods sold as products are sold. I still see a lot of customers, it's complicated, and I'll be honest, it's kind of expensive to do it right, but that's what it takes to get good financial statements.

27:26 Stephen Brown

Making sure that your loans are treated properly, that they're going onto your balance sheet, and then that interest expense is being applied. But the big one I see, the most complicated thing for good financials, is your cost of goods.

Consistency, right? They want to see many years of financials. If you have a forecast, that's based in some sort of, you can tie it back to your financials. Financials tend to be a starting point. So if you've historically been growing 20% or 50% or 100%, I mean, a couple years ago brands were growing really high, that's not going to be so good. Most brands will show a revenue slowdown over the last few years, and that's to be expected. So if you show a big pop, there better be some logic behind it, because an investor is going to look at history and they're going to say, well, how are you turning this around in a market that's slowing down?

28:38 Stephen Brown

The other item, I've talked a little bit about COGS in accounting. Here's the problem. People go on to TikTok or Instagram, TikTok's the worst, and they'll get this advice about stuffing all sorts of owner discretionary expenses into the business for tax purposes. And some of that is legit and some of it's a little bit gray, to be perfectly honest.

But the problem is an investor like Greg comes in and they see that, and it usually comes in the form of fixed expenses, or sometimes people put it in the other expense part of the profit and loss, but it still affects the bottom line. And so if your business has no net income because you're stuffing all sorts of personal expenditures into the business for tax reasons, investors don't care about your tax strategy. They care about the profitability of the business.

Anything you would add to that, Greg?

29:38 Greg Russell

Yeah, a couple things. I agree, and we see this, and what I like to see are owner operators that are just transparent about it. I mean, I understand tax strategy, and this type of approach has been going on across a lot of different industries and privately owned and operated businesses for a long time.

It's nice to see a breakout schedule that says, look, Greg, these are kind of add-ins. These are some things that I run through the business that if I had outside investors or what have you, I wouldn't do this, or I would think about this differently.

30:18 Greg Russell

It's nice to at least be transparent and open up that conversation, because I'm looking at this going, okay, don't make me have to go uncover everything and pull it out of you. That's just really a waste of everybody's time. And it also shows a desire to just be forthcoming about where this stuff is and let's just talk about it and get it out there. That gives me a better way to, as Stephen uses the word add-backs, we can then go back and add it back and make some adjustments to the financial statements and the reporting of the business.

30:52 Stephen Brown

And personally, I like to do those owner discretionary expenses, when they're truly discretionary, they're not core to the business, down at the bottom. You see in your profit and loss, there's that other expense section. It's a great place to put that stuff. Just do it. I call it below the line, kind of drop it down in its own section.

31:14 Greg Russell

I think that's a great idea, Stephen.

31:45 The options, and what they cost

Stephen Brown

All right, let's talk about options. This is going to be interesting, because there are a lot of options and you're probably getting hit up by a lot of people. We're going to talk about them, and what we want to do is talk about these options, but also talk about the realities of what those options equate to from a cost of lending and cost of capital.

So Greg, talk us through some of the options that a consumer products company has to getting funds for their business.

31:45 Greg Russell

Yeah, absolutely. And we've touched on some of these, and this is a high level framework of the buckets out there, if you will. We've touched on short-term secured lending. This comes in all different kinds of forms. Banks would be put into this, and we'll talk about this. I do not see traditional community banks, regional banks active in this market really at all. And if they were, they've kind of taken a step back in a big way.

32:17 Stephen Brown

Let's talk about that. Well, I think we're going to talk about that here in a little bit in the next section, but let's talk about now.

The thing, every time I talk to banks, they don't like unsecured loans. And we're throwing a lot of financial terms around here. Let's talk about first what a secured loan is. A secured loan, I have a building, I have a truck, I've got a warehouse. I have an asset that is tied to the loan. Banks like that, because if things go bad, they know how to sell trucks and warehouses and those physical things.

33:03 Stephen Brown

The only asset that most consumer products, especially ecommerce consumer products companies have, is inventory. And I hate to break it to you, your inventory isn't as valuable to a bank as it is to you. They won't secure it. So on the other side of the fence, you have what is known as an unsecured loan. And so most of the time, if you can get anything from a bank, it's going to be an unsecured loan.

Did I say any lies there, Greg?

33:35 Greg Russell

No, you didn't. I mean, they will take collateral and they'll expect collateral and they'll have advance rates, but I think you're spot on, Stephen. They're traditionally really set up to deal with real estate. Banks like real estate as collateral, and mortgages on that real estate. Other things of course, equipment, trucks, things where they feel better about the liquidation value.

Having a warehouse someplace full of sunglasses does not give them a lot of comfort, or shorts, or fill in the blank on the snack goods. So they're going to discount that heavily.

34:22 Greg Russell

Even the consumer products lenders, and there's one out there that's active and that I see a lot, Assembled Brands, their advance rates are relatively low on inventory. I was speaking with a company a couple of days ago, they have a deal in place with Assembled Brands. Their advance rates are 50 to 60% against inventory. So you can see where they adjust with regards to that.

34:50 Greg Russell

But to Stephen's point, on the bank side, what I usually see are personal guarantees. They'll ask for a second mortgage on your primary residence. I've got another company that I work with here in the Dallas Fort Worth area. They have a line of credit. It's 100% cash collateralized with a money market fund. And so it's very restrictive.

Is it cheaper than the non-bank lenders on the face of it? Yes, it is. But the cash secured loan that I'm mentioning in one example, which is at a 9% interest rate, it's 100% collateralized with a money market account that's being held in the bank. So hopefully that gives people a sense of what you're up against here. That's not to say that you can't get them done, and there are different SBA programs which have their own set of issues that we could talk about, but it really is not an active liquid market for this particular industry, I guess is the best way to summarize it.

36:04 Stephen Brown

And one of the things I want to just point out, you talk about personal guarantees. If you're not aware, a personal guarantee basically says, I personally back up this loan. I see a lot of brands and small businesses in general that don't want to take a loan that has a personal guarantee behind it.

The reality is you're severely limiting your options. And my thought is, if you don't have enough confidence to personally guarantee the loan, you may not want to be taking it. That's a sign that maybe you're not ready to use that capital effectively. If you feel like there's so much risk that you don't even want to personally guarantee the loan, one, you're going to limit your options. You're going to end up with really expensive capital, which we're going to talk about next. And two, you just have to ask yourself, why am I not willing to personally guarantee it? Because I don't have confidence in my ability to use that capital effectively.

37:01 Stephen Brown

So let's move next. This is the money slide. If you want to pay attention and take a look at one slide, this is probably the most interesting slide that we have in this whole deck. And this is a breakdown of the different providers, or the types of capital, the providers, what it's best for, the pros and the cons.

And let's go down this real quick. So short-term secured lenders. This is, you've got Wayflyer, Uncapped, Ampla. There's a whole bunch of these out there.

37:30 Greg Russell

There are more. This isn't, these are, I just wanted to capture the ones that I see active on somewhat of a regular basis.

37:44 Stephen Brown

Would you put the revenue based lenders in this category as well, Greg?

37:46 Greg Russell

Yeah, they're all in there. Now, Kickfurther is really not that. And Uncapped was, and they've kind of recreated themselves. It's interesting. Wayflyer and Uncapped are Europe based lenders, which is really interesting to me. Ampla, I believe, is still focused on revenue based lending. They're an expensive option.

And I mentioned Assembled Brands earlier. They're good. They're focused on a little bit bigger companies. They have more of a traditional what you'd call an asset based lending type model. They have advance rates and a borrowing base against inventory and accounts receivable.

38:36 Greg Russell

But I am seeing money come back into this, but it's expensive. This group Uncapped has been the cheapest one that I have seen so far.

38:44 Stephen Brown

And we're going to walk through, when we go through this slide, I'm going to show you the different costs of capital. So now let's go to the next category, term lending. Who's doing that?

38:56 Greg Russell

Ah, like this slide says, it's so fragmented. This is some of what we do at BRG, because a couple years ago when I put this platform together, I really noticed that there was kind of a capital piece missing. And I call it term lending.

But it's very fragmented. They're going to be specialized lenders and investor groups that are out there. Maybe they're unique to a particular geography or a particular subset of consumer products. But there's really not a deep source of capital that exists out there, which is really a shame, because this could replace a lot of what is otherwise equity capital and more expensive capital that consumer brand companies really use to fill this need from a company use standpoint.

39:56 Stephen Brown

Yeah. And when you say less dilutive than equity, basically this is debt where it's like a loan versus equity. When you get equity, you're giving up the current and future value of the business, versus a specific loan that you have to pay back.

40:20 Greg Russell

Correct. That's correct. No, it's set up as debt. Some people will have warrants in them. Sometimes there'll be a partial conversion option. So there is some dilution. That's why I described it as less dilutive as opposed to non-dilutive.

And so you can understand, think about this as more of a cash flow type loan. This is someone that's really coming in and they're really understanding your business, and they want to see the business able to repay that loan. And it's not a structure like in the short-term secured lenders. Most all of that's 12 months and under. The term lending would be something between 12 months and 36 months, maybe 48 months.

41:03 Greg Russell

The application that I see a lot, or did see, not so much in the current market, is kind of bridging between rounds. So companies will go out and they'll raise a discrete equity round thinking that that's going to give them capital for the next 20 months. Well, something happens and that money is only there, and they're going to run out of money basically at 16 months. So people need these bridges of capital to support them between more organized institutional funding rounds. So that's an application that you see in this particular category.

41:47 Greg Russell

Stephen, we talked a lot about banks in our previous slide.

41:50 Stephen Brown

I think the points that I would highlight, one, again, it's usually debt. So you're not giving up the value of the business. You're just having to pay back that debt.

But the bigger issue you need to be aware of is it's really hard to get these bank loans, bank lines of credit. They don't like consumer product companies and they usually require personal guarantees. So you need to be prepared to step up. The reality is I see personal guarantees in some of these other options as well. So usually personal guarantee equals less expensive, because that's derisking that loan for the bank.

42:37 Greg Russell

Right. We talked at the beginning, a lender doesn't necessarily have to be a bank. But I agree, and that also depends on your personal balance sheet too, because they're going to look at that very carefully.

42:49 Stephen Brown

That is a good point, Greg. I have seen a lot of times where they want to not just look at the business, but they want information from you the individual. What's your financial position as an owner in the business? And usually if you're over 25% owner in the business, then you're going to be involved in submitting your personal financials.

43:08 Greg Russell

Correct. Yeah, key principals, sometimes they'll call that key principals in the business.

43:20 Stephen Brown

Yeah. The next one we talked about at the beginning. I think the one point I want to reiterate that Greg pointed out was the general VC market is dead. If you are going to get equity based financing, you're going to have to probably look at a consumer products focused VC. They do exist. There are not a ton of them, versus there are a lot of venture capitalists that will touch software companies, that will touch biotech.

In my opinion, just coming here from Utah, I know the consumer focused venture capitalists and it's a very short list, and it's shrunk. There were some lenders here, and we're a small venture capital market, but there were a few that used to invest in this space. They don't touch it anymore. So your options are low and they're being very, very picky these days.

44:11 Stephen Brown

And the last one, I think, self-explanatory. I'm sure many of the people participating are familiar with that. That's the way many of these businesses are capitalized to start.

44:25 Greg Russell

That market continues to be there. I've seen and heard different things around angel investors and angel investor groups working a little bit differently and operating a little bit differently, but I think that market is still out there. But it's equity capital, and it has structure, and sometimes it comes with other strings attached.

44:53 Stephen Brown

So I want to take a quick detour and compare the costs of capital of some of these different options and have Greg chime in.

45:01 Greg Russell

Sure.

45:02 Stephen Brown

Let me just log into one of my portals so I can show you the differences between a bank, a revenue based loan. Maybe I should do it in reverse order. We'll start with a revenue based loan, and then we'll look at a fixed fee loan, and then we'll look at a bank. And then Greg, I'd love for you to chip in on some of those term lenders, since that's an area that you have some experience in.

45:37 Stephen Brown

So let me just log in onto the portals that have timed out real quick and just show you. While I'm doing that, finance math can be a little bit weird. Even if you're familiar with it, sometimes you have to take a step back and be like, okay, is that right?

There's a really good article, if you're familiar with Bill D'Alessandro. He does a really good job of outlining the dangers of fixed fee loans, which applies to revenue based loans, and he even created a spreadsheet. So go to billda.com. He's also a good follow on Twitter. Billda.com/debt. If you do one thing out of this, other than learn some things, you'll get some good knowledge there.

46:22 Stephen Brown

I'm going to use this fixed fee calculator to walk through some of these options. So first I want to talk about Shopify Capital. If you have a Shopify store, or if you're on Amazon, they're always pushing their loans on you. And these revenue based loans are really tricky, because you go in and you're like, okay, I have to pay 10% on a $46,000 loan that's only going to cost me $4,600 to repay.

Now the tricky thing is you've got to think about it in terms of how long would I need to repay this? So I'm going to do one that's a little bit easier, the $27,000 loan. This is a business that I own, so I'm able to show this data. I'm not showing one of my customers, just as a side note.

47:14 Stephen Brown

So in this particular business, it's a smaller business, it's our sandbox we bought a few years ago at the peak of the market. And I've estimated to pay back 10%. This is probably going to take us about 6 months to pay back $29,000, which is an 8% loan at a 10% of daily sales rate.

So let's go over into Bill's little calculator and just do the math. Most people understand APR, which, Greg, help me remember what that acronym stands for.

47:52 Greg Russell

Annual percentage rate.

47:54 Stephen Brown

Annual percentage rate. So this loan, actually, I've got to do this right. So this is a $27,000 loan at an 8% fixed fee. And my estimate is, at the sales velocity, it's going to take me about six months to pay that back. And what this calculator does is it goes through and shows you the blended APR. And you can see that the real APR rate is about 39%.

48:30 Stephen Brown

If I paid it back over 12 months, it's 24%. So the danger of these revenue based loans is you see, oh, it's only going to cost me 8% of capital. That is not an APR. And so you've got to be real careful, because you'll get into it and what you'll find is that that debt's a lot heavier than it feels.

48:52 Stephen Brown

Let me go downstream. There are other fixed fee lenders. The one I like is American Express. It used to be Kabbage. It's still expensive though. So let me take, this is my LedgerGurus account, so again, I'm not showing a customer.

And let's just take some easy math. These things also have caps, right? My Shopify business, the most I can get is 66,000. I have a loan on this same business, our cap is 39,000 on that business. So that's the max that American Express is willing to give us on that one. But here's my LedgerGurus. It caps out at 250,000.

49:37 Stephen Brown

So if I got myself a six-month loan, it's essentially 3% is the fee. So let's go back and do the math on this one. So $100,000 and I'm paying 3% for a six-month term. 14.7%. So a lot better than that revenue based loan, but still pretty darn expensive.

50:04 Stephen Brown

Now let's look at a bank. Now, as we said, if you can get a bank loan, right? Because here are the differences. Shopify is not going to put you through a whole lot of rigor to get that loan, because they're going to look at your store and they're going to say, okay, I can see their sales velocity, I can see their history. And they'll come up with some risk assessments.

So the rule of thumb is, if it's a lot of work to get the loan, there's a good chance it's going to be cheaper in value. If it's easy to get the loan, it's going to be more expensive.

50:38 Stephen Brown

American Express, when we set this up, we haven't actually used it, but my American Express account manager said, hey, here you go. There are a lot of really nice things about this thing. There are no early payback penalties, no extra fees. So if you're going to do a fixed fee loan, American Express business line of credit is one of the better ones I've seen, but it caps out at 250,000.

I'm pretty sure there's a personal guarantee in here. Yep, this little loan requires a personal guarantee. So again, they're derisking that.

51:13 Stephen Brown

Here, let's look at Wells Fargo. Good luck getting a loan from Wells. So this is their unsecured business line of credit. If you've been a customer for more than two years, you're going to be able to get up to $150,000. So again, you're capped. There are some things below, like if you have history with them, you probably get a higher line.

Their rate is prime plus 1.75. So let's look at the prime rate, which they put down low. The prime rate that they're listing is 8.5, which is interesting, because they're saying that's as of July 2023. I'm curious, maybe the prime rate hasn't gone up. But 8.5, so you're going to be spending what is that, nine, about 10, which is pretty much what I'm hearing right now for most bank lines of credit, is about 10 plus percent APR.

52:15 Stephen Brown

And there are all sorts of conditions. You've got to have a FICO. All the guarantors have to have a certain FICO score. So if you've got crap personal credit, you're not getting it. Personal guarantees. All sorts of stuff. You're probably going to have to submit your financials. The applications for these bank lines of credit are gnarly. They're a pain in the butt, but you'll get a better rate.

52:39 Stephen Brown

My thought, and Greg, I'd love to hear your thoughts. If you can get it and you're going to use it, it's probably not a bad idea, because the best way to grow a line of credit is to have one and use it and pay it back. A lot of lines of credit will have service fees, so you have to pay to not use them. I know the American Express business line of credit does not, but that's a more expensive loan. Usually bank lines of credit will have service fees. They'll have fees when you start the line, use the line, they ding you with fees, but it usually is cheaper.

53:21 Greg Russell

Yeah, no, that's right. Just a couple quick things. You know, they talk about this key principal. Anybody that owns more than 25%, I think in this case the example you're using, Stephen, you are probably the 100% owner in the business. But if you have partners that are significant partners, you also are required to convince them to sign personal guarantees.

53:47 Stephen Brown

Which I do. So my partner, I have one partner in both of these businesses. I have two partners in the Shopify store. Two of us are, one is below 20%, so two of us have to.

And I'm either lucky or unlucky. My wife is my business partner in both of these businesses. So it's easier for us to get on the same page, because the downsides both equally affect us.

54:12 Greg Russell

There you go. Yeah, there's, anytime we do these type of things, it's a lot of paperwork and a lot of putting our personal assets behind these things.

54:26 Stephen Brown

Yeah. So we've kind of talked through the rates. Tell me, Greg, let me go back to that slide. How would you say the rates for a term lender would compare?

54:38 Greg Russell

Oh, it would be in the low 20s would be my guess. Think about, so traditionally a private equity hurdle rate return targets 25%. So kind of think about plus or minus off of that.

That's why you can see these fixed fee loan structures, why institutional capital likes them, because if you can put those in place, roll them out programmatically, and they can generate somewhere between 25 to 40% internal rates of return, that's pretty significant. And so that's why capital's kind of coming back into that particular marketplace.

55:22 Greg Russell

On some of these other lenders that I see, even on the short-term side, I see monthly fees anywhere from 1% to one and a half percent. And so you can do the math on that. That's going to range somewhere between 12% to 20%. And these are for very short-term working capital lines from more of these, we'll call them fintech type lenders, the Wayflyers.

Uncapped is 1% per month. They're the lowest out of that group that I've seen specifically.

55:55 Greg Russell

But no, the term lending is going to be more, and then that's not really factoring in the equity conversion. You're going to be looking probably around a 30% return target to take that risk. That's usually where those things will get underwritten.

56:16 Stephen Brown

And the thing is, as you're looking at your profit and loss, you have to have room in there to service this debt. So when you're looking at any of these options, if your net income is 0%, you're not going to be able to service that debt.

56:31 Greg Russell

No.

56:33 Stephen Brown

You need enough margin to service the debt. And so most consumer products companies as they grow, they need that debt to pay for inventory, because of the times to manufacture, to ship, to sell. But you've got to have the profitability before you take that debt, or you're just putting an anchor around your neck.

56:58 Greg Russell

Yeah, and it's a dangerous situation. I agree, and that's one of the things that we underwrite for. If I can't see that business getting the profitability, including the debt service of a term loan, then I'm not going to do that transaction.

57:13 Wrap up and questions

Stephen Brown

So let's wrap it up and take any questions. So Greg, tell us a little bit about BRG, what you guys do and what the options are.

57:24 Greg Russell

Yeah, we've touched on some of it. We will look at short-term secured credit, do PO financing, inventory, and AR financing, but it's usually with companies that we're interested in the long-term value growth opportunity of that particular business. It's a little bit of an entry point for more of our term funding options.

And then that crosses over, we will certainly acquire companies. That's control investments. And then we also look at what I call stressed financial situations.

57:57 Greg Russell

I'm seeing a handful of these actually right now where there are companies that have too much leverage on them. Their businesses have slowed down and they're basically in a workout mode. A couple of patterns and themes that I've seen most recently is people have gotten into trouble with their manufacturers and gotten overextended with their manufacturers, and that's causing some real pain.

And so we'll really look at all parts of the capital structure, but I'm not necessarily focused on just churning out three, six, nine month loans creating loan receivables that are short-term credit, if that makes sense. I'm looking at the broader picture and looking at the long-term viability of the business.

58:42 Stephen Brown

Is there a minimum revenue size that you're looking for with some of these?

58:50 Greg Russell

Four to five million a year in revenues is really where we get interested. Most of everything I see right now is in the 30 to $50 million a year revenue ranges. But I'll definitely look down at four to five. I see a lot of stuff under a million, it's just too early for us to get interested in that.

59:11 Greg Russell

But that's where a lot of the things that you're looking at in terms of what I call that short-term credit market, there are some of those companies that will fill into that particular market. I think Uncapped is looking for about $100,000 a month in revenue. So around a million dollars is their minimum threshold level, just as an example.

59:43 Stephen Brown

And then you also have BRG Growth Partners.

59:50 Greg Russell

Yes. Well, Growth Partners is the umbrella organization over a couple of the different capital pockets, and we have a fulfillment distribution center here in a business called [unclear]. We also have an operating brand platform where we would acquire and roll in depending upon the particular product. One of my partners has a long 40-year retail history and manufacturing history. And then I have another partner that's worked in an Amazon environment for a long time. So we have the pieces put together where we can do different things all the way from a lending perspective all the way to owning one of these brand companies.

1:00:31 Stephen Brown

And then LedgerGurus, we are an ecommerce specialized accounting firm. We also have added an inventory consulting practice. So we help with inventory management system implementation and operational consulting. And we're in the process of launching, right now I like the acronym FBA, forecasting, budgeting and advanced analysis service as well.

Here's how you can get to either of us.

1:01:01 Stephen Brown

Well, I do have a really good question that I want to hit. So the question is, what would you recommend for a startup business, not necessarily a consumer product business, starting in terms of funding? Are there grants? The specific business was a red light therapy, which I apologize, I'm not familiar with red light therapy, but I'm assuming that's some sort of personal care. Are there business grants, lending options that'd be better than another?

I'll go first and I'll be interested, Greg, in what you know. When you're starting from zero, it is tough. Are there grants out there? There are, again, paperwork. There are a lot of specialized grants, especially if you are in certain demographic categories. There are a lot of grants for minorities, for women. But they take a lot of work.

1:02:04 Stephen Brown

The best thing I would say if you're starting up a business is, I'm going to go back to this category because it doesn't change too much by different industries, but typically you start down here at the bottom. You're looking at friends, family, rich uncles.

A lot of people, like when we started LedgerGurus, I was working a full-time job. My partner and wife Brittany, she just had this idea and wanted to start going for it. The nice part about it is our business is a low capital intensive business, so it wasn't too hard to capitalize the business. But typically when you're getting started, you're probably looking down here at the bottom, friends, family, rich uncles. Maybe you can find an angel investor that really believes in your idea.

Greg, what are your thoughts about somebody who's getting started?

1:03:02 Greg Russell

I agree with everything you said. I hear people talk about grant money. I think some people have success with that. I know there's a lot of searching and looking around for that and paperwork. So I'm not discouraging that, because I do think that there's some of that out there and available.

But then I agree, spot on, Stephen. It's really probably friends and family. Maybe there's an angel investor in your local community if you could get introduced to him or her. And be prepared to talk about your business plan. And you need some kind of financial model too, in my opinion, to be able to sit down and show the economic model of the business that you're trying to start.

1:03:49 Stephen Brown

In my opinion, the best way to start is to be your own bank. To build up savings, to do what you can while you're doing your day job. Obviously you have to be fair to your employer, but a lot of businesses have been started on nights and weekends. And then, like that's how we started LedgerGurus. And then when we got going, I quit my day job and we lived off of savings for a while while we grew the business.

Unfortunately, you kind of have to get, it's a chicken and egg thing. So I wish there was a better answer, but you've got to kind of just struggle through it.

1:04:25 Stephen Brown

Other questions around anything we've covered? We've covered a lot of things, so happy to take your questions. Kelley, anything else on the chat from a question standpoint?

1:04:39 Kelley Birrell

No, you've caught them all.

1:04:41 Stephen Brown

Okay. Well, I'll leave this up here. Again, if you want to talk to Greg or us at LedgerGurus, here's our contact information. We hope this is helpful. It's a tough lending environment, but it's not impossible. You just have to be smart.

1:04:52 Greg Russell

Yeah, we've got to be smarter business operators, owners, than ever before. If you do it right, you can find your funds.

1:04:58 Stephen Brown

And thank you, Greg, for joining us today. Thank you all who have attended.

1:05:03 Greg Russell

Okay, thanks everyone. Bye bye.

1:05:09 Stephen Brown

Oh, we got one more question. What should owners do once we realize we don't have a profitable business model? That's a really good question.

I would say you need to go to work on the areas that aren't profitable. We recently put out in our newsletter, last week's newsletter, a couple of podcasts that talk through this.

1:05:26 Stephen Brown

So if your gross margins are below 40%, you need to figure out how to get those up. And honestly, you should really try and work on that if they're below 60%. How do you raise gross margins? That's pricing, that's finding different suppliers, that's getting really strategic around your supply chain.

The area that I see really problematic in profitability is marketing. Your marketing spend isn't efficient. You just have to roll up your sleeves. I see too many brands that are throwing it over the wall at really expensive agencies that aren't getting the returns that they would expect. So I would really encourage people to look at their marketing spend. The two areas that I see the most of, as I've looked at so many companies over the last year or two, it's their gross margins, but more often than not, it's their marketing. So you've got to fix your marketing. You've got to roll up your sleeves and sometimes get involved, and at minimum understand what your agency is doing.

1:06:33 Stephen Brown

The other area that I see that results in poor profitability, and Greg touched on this one, and this is the easiest one to fix, is your fixed expenses. You're spending too much, you have too many people, you have office space that you don't need. You just have to get scrappy. If you don't need it, just cut it out. That's stuff you can cut faster than almost anything else.

Fixing your marketing takes time. Fixing your gross margins takes time, because you have to look for different suppliers, you've got to do price tests. But the fixed expenses in your business, that's the easiest to fix. And I occasionally run into that, but most of the time it's marketing.

Anything I missed there, Greg, in terms of if somebody realizes they don't have a profitable business, what to work on?

1:07:28 Greg Russell

I mean, the only other thing I would add to that would be, you could evaluate, is there a better home for that business? Do you have a good and growing product interest? But could someone else on somebody else's platform, all the things that Stephen just talked about from an expense structure standpoint, could they actually make it profitable?

And what I'm talking about is it's a sale. It's transferring. Are you going to get paid upfront for that particular business since it's not really showing any money? Probably not. But maybe you could structure it in such a way where you could have some kind of earnout by transferring the business over to a different platform. So that's just another angle to think about if you can't fix it organically.

1:08:20 Stephen Brown

And if you're a customer of LedgerGurus and haven't had a meeting with me, I'm happy to sit down with you. I can go over financials and I can tell you where the problems are. It takes me about 60 seconds to find the problem if your financials are in order, and our financials are.

And if you want to reach out to me, probably the best way to do it is hit our contact page and Kelley will connect you, or reach out to your accounting manager. That's probably the best way. Reach out to your accounting manager and say, I'd like to have a meeting with Stephen. And I'll be happy to go through your financials. I'll tell you where I see the problems are, and then give you some suggestions on what work needs to be done to fix your profitability.

1:09:07 Stephen Brown

All right, good question. I'm glad that came in at the last second. We'll do a formal adieu for now. Obviously, you can hit us up online and anywhere else. Thanks for attending.

1:09:20 Greg Russell

Thank you.