A combination of the credit crunch, high raw materials price inflation and low business and consumer confidence makes this a testing time for owners looking to finance an early or mature phase of expansion in the food sector.
Shaun Galloway, finance director at pie and pastry manufacturer Ginsters, says: "It’s far tougher now for anyone to raise funds, and it will become more difficult for companies to refinance. The credit crunch has had an effect, and banks won’t lend on such aggressive multiples any more." New entrants could fare particularly badly, he says: "There are some quite substantial barriers to entry, and we are seeing far fewer start-ups than was once the case."
Nevertheless, there are businesses at different evolutionary stages, for which key decisions about expansion, investment, buy-outs or selling up have to be taken now or in the near future. As relationship director for food, drink and packaging at Barclays Commercial Bank, John Laud tries to be positive: "Forecasts are that the food sector will grow annually at around 3.5% over the next three or four years - and businesses can expect to grow with their customer base."
Operations which see themselves as targets for acquisition may not be disappointed either, he argues. "Food is one of the fastest-consolidating sectors in the UK," he points out. "The supermarkets are looking for synergy savings from their supply base they can be a part of."
At one stage or another, most businesses will look to the banks for some sort of debt finance. "It’s cheap compared with equity, and the interest is tax-deductible," Laud explains.
Working with a bank will also tend to put less pressure on the owners. "Banks have to be conservative creatures, and lower margins mean less risk," he says.
One business that has navigated the first few years of growth, through a combination of personal funds and bank debt, is Higgidy Pies. MD James Foottit, husband of founder Camilla Stephens, plots the development of the company, from a turnover of some £880,000 in the year to September 2006 to a projected £3m turnover in 2008.
Initially, the owners used only a small overdraft facility. "But then we changed banks to HSBC, where we had a very good relationship with the commercial manager," says Foottit. "He was something of a maverick and was more interested in the story of the business." That story now includes a listing of 10 Higgidy-branded products in Sainsbury’s.
Last year, a move to larger premises became overdue. "We funded the new building with bank loans," he says. "This is the cheapest way to realise investment, but it is secured with personal guarantees."
Similarly, since setting up the first café in London in 2004, Amano CEO Jonathan Cooper says that bank debt finance has been essential to the growth of that business. "As a non-covenanted company, we were also looking at personal guarantees," he says. "But when we moved to the Clydesdale Bank, it was very supportive."
In Amano’s case, the bank agreed to waive personal guarantees. But where this is not on offer, says Cooper, the government-backed Loan Guarantee Scheme, which effectively ring-fences the bank’s risk, can be a useful option.
== Fight for control ==
Alongside risk, control is one of the prime issues when owners are looking for additional finance. At Higgidy, Foottit and Stephens have vivid memories of life with just a 25% stake in their business. "There was someone else calling the shots and reining us in, when we were looking long-term and losing money in the short-term," he recalls. "We fought tooth-and-nail to get a majority stake."
The couple now own 80% of the business. But Foottit admits: "We’re out of personal funds now, so if we want to jump to the next stage of a £1m factory, we’d struggle to do that without giving away some equity. We’d just try not to give away a controlling share."
Like most ambitious owners, Foottit and Stephens have looked at private equity or venture capital finance. To date, they have avoided it for the same reason, that they are wary of losing control of the business. But these days, even when small companies court this type of investment, they may have trouble obtaining it.
Some 12 years ago, Amano’s Cooper was one of the three founders of the sandwich chain EAT. "Back then, venture capital would get involved very early on," he says. "But now, the opportunity to get that kind of finance for a one- or two-store operation is no longer there."
The nature of risk assessment for these funds has changed, he says, and this change predates the credit crunch by two or three years. "Amano talked to some quite large funds early on, but nothing was forthcoming," Cooper states. "The notion of a ’proven concept’ for a roll-out brand has changed considerably."
Yorkshire-based private equity fund management company YFM Group explains the shift that has taken place. Investment manager Nigel Barraclough says: "The problem is not the availability of funds, it is the cost of due diligence. So for a £250,000 investment, there might be £5,000 of negotiation and other fees." And as Barclays makes clear, most of these fees are fixed costs. Barraclough adds: "Not many people provide private equity under £2m."
Amano’s Cooper agrees with Ginsters regarding the equity gap problem for new businesses. "The capital investment required for any new site is enormous, particularly in London," he says. "Small start-ups are just squeezed out of the marketplace."
== A guardian angel? ==
One solution is the angel investor. The maverick element, and the personal, intangible appeal of certain propositions, again comes into play here - more so than with corporate funds. But while businesses may start life as partnerships of like-minded, experienced individuals, finding a new private investor at a later stage can be a daunting task.
As Cooper puts it: "It’s a case of caveat emptor on both sides. Angels have to do their own level of due diligence, though it’s a lot lower, usually, than for institutions." A robust shareholders’ agreement is essential, he adds.
YFM’s Barraclough says: "Business angels are much more organised now, and their networks operate more as teams. We’ve seen this evolution over the last 10 years or so."
Another option for smaller funding levels is regional development finance. Amano was looking at an extended network of angel investors when the London-based Capital Fund began operations. This venture capital fund, managed by YFM, is aimed at supporting fast-growth SMEs in the capital. Here, funds can initially be up to £250,000, with the possibility of a second tranche up to the same limit six months later. Investors include the Department of Trade and Industry and the European Investment Fund.
With a 2007 turnover of £120m, Cornish-based Ginsters is no start-up. But a year earlier, it too benefited from regional funding under the EU’s Objective One programme. This reached almost £1.3m, including matching sums from central government. "As a bakery business, with a link through to agriculture, we qualified for up to 40% funding for expansion," says Galloway.
While Objective One no longer operates, 2008 saw the arrival of EU-backed regional convergence funding. However, this is more focused on training and skills than infrastructure development. Regional Development Agencies will know about funding opportunities in different parts of the UK.
In fact, as part of the privately-owned Samworth Group, Ginsters sources most of its investment internally. Galloway wonders about the wisdom of conceding influence - or control - to private equity investors. "Retailers will no doubt look at the ultimate ownership," he says. "Quality of supply and stability beyond a three-year horizon will be important to them."
Media attention tends to be lavished on the serial entrepreneur and the perceived short-termism of private equity investors. But there are many more privately-owned businesses, which grow by sticking to what they do best.
For now, at least, Foottit at Higgidy falls into the latter category. "We hope that Higgidy can be a springboard for new ideas," he says. "A brand gives you benefits that own-label production does not. We feel we are still a long way from even thinking about wanting to sell up."