- If You Build It, They Will Come...Maybe
- August 12, 2015
- Law Firm: Phillips Nizer LLP - New York Office
- All too often in fashion start-ups, planning about how and in what way the business will pursue its financing needs does not get the attention it deserves.
Are you prepared to borrow against your personal credit lines and credit cards in order to meet cash flow demands? Does the business have a realistic shot at surviving the initial stages without sacrificing your home or life savings? Do you have a wealthy uncle? In reality, many businesses have a tough time getting the necessary capital to build an expensive e-commerce platform or manufacture that first line, so initial capital is critical.
Depending on the type of business, there are essentially two tracks: (1) the “slow and steady” approach through a combination of one or more of the following: bootstrapping, “friends and family” money, “rewards-based” crowdfunding, organic growth, and factoring; or (2) the “hockey stick” growth approach through angel investors, venture capital or family office funding. The former are far more commonplace, while the latter tends to be utilized by a select few technology-focused fashion companies with the potential to “disrupt” large markets. Keep in mind that venture capitalists typically expect to see a few seasons of sales before funding and, even if they invest, may not re-up when the business needs additional investment dollars. Bank financing is more commonly utilized by established fashion companies, so it is not realistic to count on this type of financing option during the early stages.
Being realistic about your business’s prospects and gauging the optimal approach towards financing are essential to the viability of the business model. For a company that could have a national or international footprint and can scale rapidly, sitting back in slow-growth mode may actually hurt the business in terms of lost opportunities or the item becoming unfashionable or obsolete before getting to market. Conversely, companies that rely too heavily on friends and family investment, for example, may deter angel or venture capital financing.
Another important consideration is the manner in which financings are structured, as well as whether equity compensation will be used to incentivize employees or consultants. Founders love to keep control and the issuance of equity interests typically erodes that control. On the other hand, debt instruments are senior to equity for repayment. You can expect debt holders to require repayment directly out of cash flow. So, although the same control issues are not present when using “straight” debt financing, there is often an increased risk that the business could fall behind or even become insolvent.
In either case, a fashion company will want the initial capitalization from the founders to be sufficient to sustain the company for at least the first year or major milestone. The planning beyond that initial stage is equally important so that the company can be in a position to grow, rather than experience a business interruption, be forced to pivot, or worse. For companies that realistically believe venture capital financing is possible, the initial equity issuances and treatment of intellectual property rights should be done in a way that minimizes issues and puts the business in the best position possible to get funded.