Ask anyone who has ever raised millions of dollars in funding and they will tell you that it is an expensive proposition. Whether it is an Initial Public Offering, a Private Placement or a simple commercial loan, it costs businesses thousands of dollars before they see their first dollar in funding. To the uninitiated this seems downright backwards. After all, they say, “My business needs money. Why should I have to pay any fees to get it?” While on the surface this seems to make perfect sense, a closer look at what goes on during a capital raise reveals some shocking facts.

There’s no better place to start our exploration of this subject than by taking a closer look at a sector whose very existence depends on its ability to raise hundreds of millions of dollars every single year: charities. According to the Giving USA Foundation’s Giving USA report, last year charities raised an astounding $307.7 Billion in donations. While some might think that 100% of their donations actually go to the causes they have donated to, there are others who know better.

The reality is that charities spend hundreds of thousands if not millions of dollars each year in their efforts to raise money. While great charities are able to keep these expenses between 5% and 10%, it’s not unheard of for others to spend as much as 90% of the donations they take in. That’s right, 90%!! So much for helping those in need, right?

While the costs for your capital raise will be nowhere near that rate, you need to be prepared to cover certain unavoidable expenses. Walk into any reputable commercial financing institution and you’ll soon learn that getting them to invest in your project is going to cost you. It’s not unusual for prospects to have to spend anywhere between $15,000 - $120,000 in due diligence and other third party fees. The greater the scope of a project and the more money is being sought, the more complicated, lengthy and expensive this due diligence process is.

“That’s insane! Why do they do that?” you ask? It’s simple really. You see, part of an institutional investor’s process to determine whether or not it makes sense to take a chance on a project is to utilize reports prepared by independent, third party firms. From appraisals to engineering reports to feasibility and environmental studies, there are an array of reports, among other things, that an investor will need to study before they commit to investing in a project. Suffice it to say, the firms preparing these reports do not work on a contingency basis. They need to be paid upfront.

On top of this, financing institutions incur substantial expenses related to the work performed by their underwriting staff. Within many financing entities there are a host of highly trained professionals whose sole responsibility it is to rigorously vet a project and give it the final thumbs up or thumbs down. They also need to be paid upfront for their services.

Make no mistake, they are there to protect their company’s interests. In the wake of the collapse of so many financing institutions in recent past, they’ve been placed under enormous pressure to weed out the worthless projects and hone in on those that offer the greatest return with the least amount of risk. Oftentimes their costs make up the bulk of a funding sources’ due diligence expenses.

“If that’s the case, then why don’t they pay for it? Why should I have to cover the cost of all this? After all, I’m coming to them with an opportunity to make millions!” some might snap back. The unpleasant truth is that, as far as they’re concerned, you need them more than they need you. While this perspective may not sit well with some, the fact of the matter is that, right now, funding sources are literally being flooded with investment opportunities. Every single day, they’re sifting through hundreds if not thousands of projects. This means that they can comfortably pass on the expenses involved with the evaluation of your project onto you. If you don’t like it it’s no big deal. They have hundreds of others who understand that this is just another cost of doing business and are more than willing to pay for the opportunity to get their project in front of them.

In their eyes, the onus is on the prospect to demonstrate that they have a viable and lucrative opportunity, not the investors’. That’s why you’ll always have to pay for them to perform their due diligence on your project before you get funded. There’s just no way around it. Truth be told, funding sources actually prefer it this way. You see, by making prospects cover their due diligence costs it helps them dissuade the disingenuous from presenting them with projects that have no real merit or are outright fraudulent. You’d be surprised how many individuals try to get funding by misrepresenting themselves, their financials or their project.

Given all of the time, energy and expenses involved in trying to get a project funded, it’s extremely frustrating and painful when a prospect spends so much only to have a funding source come back and say “No”. Having a project you think is fantastic just isn’t good enough. If it doesn’t cater to investors’ appetites they won’t fund it. Period.
That’s why it’s smart to have your project evaluated by an advisory firm with a strong grasp of what investors’ predilections are before you put it in the hands of a funding source’s unforgiving underwriters. They are adept at accentuating the strengths and shoring up the weaknesses of a project. This saves business owners tens of thousands of dollars in wasted due diligence fees because they’re able to find problems and fix them before the underwriters discover them and are forced to kill the deal.
Now that we’ve cleared this up, its critical that you not underestimate the costs you will incur in your search for funding. This will be the topic of our next post.

We’re pretty sure we’ve struck a nerve with some of you. It’s an issue which really frustrates a lot of people so we’ll be very interested in hearing you sound-off on this controversial topic. Let the debate begin!

Author's Bio: 

After more than 10 years within the construction industry, Joseph Polanco came to understand the intimate relationship that exists between real estate development and financing. As he embraced residential financing, he became involved with sophisticated commercial transactions. However, the more time he spent working on these types of projects the more he felt his clients’ frustrations…
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