Academic journal article Journal of Small Business Management

Financing Small Technology-Based Companies: The Relationship between Familiarity with Capital and Ability to Price and Negotiate Investment

Academic journal article Journal of Small Business Management

Financing Small Technology-Based Companies: The Relationship between Familiarity with Capital and Ability to Price and Negotiate Investment

Article excerpt

This study examines the financing of small technology-based firms. Specifically, the study investigates the familiarity of owners of small technology-based firms with alternative forms of capital by stage of development and in comparison with their ability to price and negotiate external equity and debt investment. The results indicate that owners are most familiar with traditional sources of capital, somewhat less familiar with capital commonly used to fund growth, and least familiar with government funding initiatives. Owners believe that they are better able to negotiate than to price equity and debt. The perceived ability to negotiate and price externally funded investments increases as the firm matures through the various stages of development.

Traditional finance theory is based on the premise that the firm's goal is to maximize the wealth of its owners. Wealth maximization is attained through financial decision-making that achieves a combination of maximizing returns and minimizing risk. The development of traditional financial theory is based on the assumptions associated with perfect capital markets, such as absence of transaction costs, perfectly divisible assets, homogeneous expectations, and complete access to the capital markets (Brigham and Gapenski 1997). While appropriate for firms having great access to the capital markets, much of finance theory may not be applicable to small private firms, especially technology-based firms, that have limited access to the capital markets (Ang 1992).

The acquisition of capital by small startup firms may not be consistent with wealth maximization due to numerous market-related constraints (Petty and Bygrave 1993). The financial theory of capital structure posits that owners should select a financing mix that minimizes the firm's overall cost of capital by identifying the optimal levels of equity and debt capital. Small business owners are often faced with a limited set of choices that may not achieve a minimum cost of capital. For example, the availability of equity may be limited, capital from financial institutions may not be available, some financing alternatives may be expensive, or funding from other capital sources may have significant time delays. These violations of capital market theory may be even more significant for owners of technology-based firms due to high risk, apprehension of investors, and the limited financial experience of the owners.

New business owners attempting to raise capital are confronted with a number of challenges that include developing the business concept, discovering potential sources of capital, and understanding the relationship between the firm's characteristics and capital acquisition. Obstacles confronting small firms in their search for capital have been attributed to high agency costs that result from monitoring costs, bonding costs, and residual loss (Land-strom 1992). Gibson (1992) believes that owners' search for capital is often inefficient, unorganized, and unsuccessful as a result of their lack of information about the alternative sources of funding. Those business owners who are successful commonly must persist in their search for capital after several rejections (Bruno and Tyebjee 1985).

This article reports on the results of a study on the start-up financing of small technology-based firms. Specifically, the study examined (1) the degree to which owners of new technology-based small firms are familiar with alternative sources of start-up capital; and (2) the relationship between the owners' familiarity with alternative sources of capital and the difficulty of raising start-up capital. An underlying premise of the study was that the acquisition of start-up capital is affected by the owners' awareness of potential funding opportunities. Owners who are unfamiliar with funding opportunities may under-utilize some sources of start-up capital. Unfamiliarity with sources of capital may be an even more significant problem for owners of technology-based firms due to the long product development time, high risk associated with technology transfer into the market, and complexity associated with raising funds from some public and private providers of capital (Timmons 1997). …

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