Lesson 73: Structure

When I think back to learning how to play the piano, I remember sitting at the piano in our dining room staring at the sheet music for “Fur Elise.” The black and white keys each played one note, but when my hands played the scales and chords these keys brought the instrument to life. When my family came to my recital, the piano told a compelling narrative in the rhythm and harmony of the piece. The well-composed pieces I learned on the piano had a balanced structure. We need structure to make something beautiful. As I prepare to acquire a small business, I need to “compose” the right capital structure to help fund the operation.

Capital structure is the specific mix of debt and equity used to acquire a business. Composing the right harmony of debt and equity depends on the business’s characteristics. Stable businesses with predictable cash flow can generally take on more debt from the bank. Banks are confident the business can afford to make debt payments consistently. That is why searchers look for businesses with recurring revenue. They reduce the risk of not missing a monthly debt payment.

Debt is great for stable businesses with consistent cash flows, but when revenue falters the harmony breaks down and your business becomes out of tune. Equity is the other side of your capital structure coin: this type of capital comes from investors. In exchange for this capital, they receive an ownership stake in your business without the immediate payments that are required by debt. Equity is great for growing businesses that want to expand geographically or invest in research and development. However, equity is more “expensive” than debt because investors require higher returns than a bank for taking on more risk. 

When I acquire a business, I will use a combination of debt and equity. In Entrepreneurship Through Acquisition, you can raise a fund and borrow from the bank to fund your acquisition. To use round numbers, the cost of debt for a small business is around 10% - 15% and the cost of equity for search funds is around 30% - 35%. The combination is called your weighted average cost of capital (WACC). Having the right WACC is like having the balance of bass and melody; structure is the difference between performing a beautiful symphony or a screeching cacophony.

My mission is to increase representation for Black leaders at the executive, investor, and board level.  These are the roles critical for finding a harmonious capital structure for a business. Their collective decision sets the stage for long-term success, resilience, and growth.  I look forward to creating businesses with the right capital structure as I connect with more business leaders. Successfully navigating these complex financial compositions can open new doors and more opportunities for underrepresented talent in the business world.

This is Lesson 73: Structure. Next week is Lesson 74: Prudence.