Unlocking the Secrets of Startup Financing

Speaker 1: 0:10

Welcome to the Funded Podcast, where we dive into the details of how businesses really start, grow and operate. We'll hear from experts that could guide us to smart business decisions on finance, marketing, managing people and everything in between. I'm your host, Steph, The CEO of Funded, where we're on a mission to redefine how businesses understand and access capital. Today I'm chatting with Steven, the CEO of Paintbrush, about funding options for brand new businesses. Let's dive in. So for Steven, welcome, And we're excited to have you on the show for everyone listening. Paintbrush does $50,000 startup loans. We're going to get to the details of that later in the podcast. So, to kick us off for someone starting a brand new business today, I would love to start with. What are the different ways that they're funding their businesses?

Speaker 2: 1:05

Sure, well, thanks for having me. That question is exactly what drove me to start Paintbrush, because the options are really bleak. So I'll run through some of the options right now, but that question in particular is 100% what drove me to start this company. You and I both attend a lot of startup events and we hear a lot of really bad advice, and a lot of that bad advice is to take money from angel investors. And so, while not all angels are bad and we certainly have angel investors on our cap table at Paintbrush if you're not building the type of business that can have a liquidity event in 10 years or a secondary event in five to 10 years, that is just not a good path. So even if you can get an angel to say yes, like for 99% plus a percent of businesses, that's really not a great idea or a good way to get financing. The other thing I hear often at these startup events is people saying well, just rack up a bunch of credit card debt Like Chase and Capital One and AmEx or whoever will sign you up, they'll give you a line of credit. Most entrepreneurs don't realize that those are fully accelerated on default and the fees on them are. Those are tools that are meant to cover monthly expenses like software expenses or odds and ends for the company. They're really not meant to cover like payroll and lease and insurance and et cetera core expenses And the interest rate is very much reflective of that and the fee structure is very much reflective of that as well. But, worst of all, just because it says the name of your company on the top of that credit card doesn't mean you're not personally liable for all of that debt. And so the slightest hint of a default and Capital Water or Chase or whomever fully accelerate the balance plus interest, plus all the fees and come after you And that's a risk that I think is way too high for founders. We've seen a lot of founders who have borrowed money from friends in Jamley. It's also extremely high risk. Businesses are very challenging to get up and off the ground And unless your friends and family are okay with losing their money, that's really tough way to get financing. We've also seen people who have refinanced their homes use the HELOC. That's probably just depending on rates. That's probably not an option right now, but we've seen people do it drain their 401k, drain their savings. I just felt like these options are just awful. If you're building a venture-backable company, which is just a totally different beast from most businesses, then there is that venture capital path. But for everybody else the options were pretty late, so we started Paintbrush. To alleviate that, we offer a $50,000 loan through our partner bank And if there's a default, we have a workout program that is non-pianitive for those founders who want to go out and start something new.

Speaker 1: 4:36

Yeah, that's so interesting. So you said a few things there that I just want to dive into. Or, if we want to make fun of start up jargon more, let's double click on. So, angel investors. I just want to think about this audience and everyone listening and dive into that a little bit. So one of the things that was just brought up is the idea of kind of a venture-back company versus a normal business. Let's call it or what I affect.

Speaker 2: 5:03

I would say a real business.

Speaker 1: 5:04

Yes, i was just going to say that What I affectionately call real business is set out to make money. I think, as small business owners, we need to be really aware that angel investors are for big exits. If you don't have some and big can be a very relative term I feel like the number thrown around right now is if you weren't building a company that could potentially exit for a billion dollars angels really are a path and option. Another one that you brought up that I want to talk about a bit is credit cards.

Speaker 2: 5:39

Before you get there. I'm sorry to cut you off, but just to double click on that. The perspective is 100% right. It's not a good fit for angel investors, but it's also a terrible fit for founders. If you take on an angel investor who's expecting you to get to a billion dollar valuation when, wants you to run in the red and wants you to raise new money every 12 to 18 months, you are setting yourself up for a challenging relationship with that person. I've run both types of businesses. I've run real companies and I've run venture-backed companies. They are just completely different animals. The way that the cash flow works and the way that you, as a founder, make money off of the two different businesses are completely different. Having a cash-flowing business that, like a real company that distributes cash to its owners, is fantastic. It is truly one of the best things. It's the way that most millionaires in this country that's where they are generating their wealth is through those real businesses. If you want to build that style of company and you all of a sudden have this angel investor whose goals are totally divergent from yours, you're just setting yourself up for failure. Anyway, i feel pretty strongly about that. I feel pretty strongly about credit cards as well, if you want to talk about that?

Speaker 1: 7:08

Yes, yeah, credit cards, personal savings, 401k is. The thing they all have in common is personal guarantees. One thing I really like to emphasize in small business lending is that while it's called small business lending, almost always there's an element of the individual being on the hook for these things. Like you said, the credit card might say your company name, then the fine print that credit card company underwrote. Based on your personal credit, you're generally personally liable If the business doesn't work out. It doesn't mean you just get to cut that credit card up and pretend like it never existed. It's a real thing, a real commitment.

Speaker 2: 7:49

Not only is that true for credit cards and most business loans, it's also true for the SBA loan. So the preferred and approved endorsed loan style of the federal government has secured interest on all the assets of the company, often has secured interest on the assets of like specific assets of the business owners and has joint and several liability for the business owners. Meaning if you and I each own 50% of ABC Co and we got an SBA loan together, we default on that. I owe 100% of the unpaid balance of that SBA loan and you owe 100% balance on the SBA loan and they're going to pursue every which way they can to get repaid on that. Now that's not an awful thing. It's a great thing because SBA allows people to get financing pretty early, usually 24 months after kind of healthy P&L start. But it's not a free pass.

Speaker 1: 8:56

No, in fact, let's talk a little bit about the SBA, because I think it's interesting how it's often pointed to as the solution, especially for underserved small business owners. For the reality of the SBA I think it's only 11% of business loans are SBA and actually I think it's under 4% are funding women and minorities. Yes, there is still something on the hook. I was talking with some bankers the other night and it's like okay, so you're either going to leverage your personal family help. And they're like well, you don't always have to leverage your help. It's like well, what cases don't you? The answer is like well, when the business you can leverage that, that's usually meaning that you're buying an established business and you're putting that on the line too. That's not a very good alternative. When you really dive into it, when the SBA is great if you can't get anything else, but it shouldn't be the starting point When you really look into the details of the SBA, it seems like the biggest beneficiary is actually the banks, not the small business owner. It's like even though there's a lot more paperwork because the government's backing the loan, they aren't out as much. I think it's like 85% government backed, something like that. The bank isn't out much, but the small business owner still has all the things on the line, if not more, of just a normal commercial loan. Is that your understanding? That's how I think of it.

Speaker 2: 10:27

I go one further, which is that the SBA, a lot of great government initiatives, had the unintended consequence of encouraging banks not to come up with other styles of financing. In the same way that, like sort of the Freddie and Fanny prefer the 30-year fixed mortgage and 30-year fixed mortgage is a fantastic way to finance a home. It means that all other styles, any kind of creative thinking outside of that or individual case thinking outside of that, just does not get fine. So the same with the SBA. If you go into most banks and say I'm looking for a commercial loan, all they have is SBA, that's it. And the reason is because it's the most low risk if they can get it stamped by the SBA. The bank has so much less financial risk that encouraging the bank to get creative and stuff is just a non-starter.

Speaker 1: 11:36

And like.

Speaker 2: 11:36

For me, that paintbrush just absolutely would not exist if bankers were more creative in the way that they tried to finance real estate companies.

Speaker 1: 11:47

Sure, yeah. So when we think about traditional loans, we're typically talking about a commercial loan from a bank or an SBA, and in the bank's defense, the way that they're regulated isn't super inspiring in them being creative either. So we hear this from banks. It's like their hands are tied, like they have a lot of regulation over them to be creative And what that ends up doing is leaving a lot of people out of the market. But I do want to tap on some of the businesses that are good fits for either the SBA or a traditional commercial loan. So for the people listening, you are a fit for an SBA or a traditional loan And usually if it's brick and mortar, there's assets to leverage. Like if you're building a commercial building as part of your business, you're probably a good fit for a commercial loan or SBA loan because you could then leverage that asset. Another one that's really common and seldomly talked about is franchise concepts right. So there's a bunch of franchise concepts out there that are SBA pre-approved, which, if someone is looking to get into a franchise concept, should look for that right, making sure it's SBA pre-approved One. It probably means it's a pretty financially stable franchise concept, but knowing that, you're more likely to get the lending you need. And then the third kind of good option for these traditional loans are going to be when you're purchasing an existing business. A lot of times a bank can leverage the financials of that existing business to do a more traditional loan.

Speaker 2: 13:21

The other thing it's really time and business is the biggest hurdle for most business owners trying to get an SBA loan. The advertised time and business for most banks is 24 months, but that doesn't mean from the day you filed your charter with the state. That's usually from the first time you had revenue is really what they would prefer is 24 months in revenue so that you have some predictability on expenses, top line et cetera. The other thing about SBA if you are eligible for SBA, it is great in terms of rates because the federal government backs these loans. The banks are much more inclined to work with you in terms of top line rate. If you are eligible at one bank for SBA as an owner, you absolutely owe it to yourself to go shop with at least half a dozen other banks to compete on the best price and they will come down. They will absolutely come down in terms of top line rate, expanding the length of the contract, et cetera, if you are eligible. I was maybe being able to get you down in the mouth. If you are eligible for it, pursue it. You only have time to lose. That's really it.

Speaker 1: 14:50

Yeah, definitely. They are the lowest interest rates traditional commercial loans for banks and SBA. They're just available to so few people. It's a product that was created for a market that is very lendable that, if they aren't, risk taker is bank. When you think about rates, too, i think it's interesting about negotiating. A lot of us just feel so grateful to get a loan at all. One more negotiating piece that I recently learned about although I should have known about it is when you're shopping loans with banks. A lot of times they want your deposits because banks turn around and lend on those deposits. That's a chip for small business owners to remember that you can maybe get better terms, better rates or whatever if you're willing to give them your deposits. You could hold that as leverage while you're negotiating with options. One thing I want to talk about. I feel like we're already getting to this, but we're talking about this traditional path and how it doesn't work for most people. We're seeing a lot of innovation in this space. You probably know more about innovation in small business lending than most. I'm just curious what are you seeing out there as innovative solutions within either tech or in banking or whatnot, that small business owners should think about?

Speaker 2: 16:09

I've seen a lot of cool stuff on financing specific items. If you have an invoice, there are so many different types of factoring out there. If you have a purchase order from a customer and you want to pull forward that revenue, that might be months out or weeks out there are so many great tools out there right now that will help you pull forward that revenue to cover today's expense. The great thing about it is, because there are so many of them, you can go shop and you absolutely should be shopping if you have something like that. But it's also true for inventory financing. So if you have some inventory that you think you can finance against. the other thing is revenue-based financing. There's lots of co-options now. that just sort of did not exist even two or three years ago. So I felt like in those kind of corners we're seeing a lots of cool things. If you're running an econ business, there's specific companies that are working for you. If you're running like a trucking business, there's specific financing companies, And I've found that those who are kind of niche-focused on industries they tend to understand exactly your needs and get you exactly what you need a little bit faster. One thing that's great about banks is they're kind of open for everybody. One thing that's stuff about them is they're not necessarily going to understand the ins and outs of your business or your industry, And so there are lots of online lenders that are working toward that.

Speaker 1: 17:53

Yeah. So it sounds like what you're saying and the advice you're giving is know your industry and when you're going to do Google searches, try to search for capital either specific to the industry you're in or specific to what you're trying to get funding for, like equipment, inventory stuff like that.

Speaker 2: 18:12

My advice really is just shop, just shop. Like it's exciting to get an offer from a creditor, but if you're eligible for one, you're probably eligible for a lot of others And you just owe it to yourself to absolutely shop. There are so many lenders out there who are doing a merchant cash advance, for example. It's really hard to figure out exactly how much those cost, and the reason is because they cost a lot. It's just an extremely high APR rate. The amount of interest you would pay if you could go out and shop and do your homework and really go find some buy-ancing would be a lot lower, and that's just money that's back in your pocket or you can reinvest into the business.

Speaker 1: 18:59

Yeah, you bring up a really good point and something I love to talk about in small business financing, which is rates and the cost of capital. There's this idea I feel like in small business lending or than any other space specifically consumer, this idea of predatory rates. And it's so interesting because when I was first becoming a business owner I don't even remember who told me this, but I was sold like the cost of capital is high but it's because all you have to relate it to is your personal finances. So most of us as consumers the day before our business owners were consumers and we know nothing about business fine year. And so we could relate it generally to student loan rates, which are usually, for a lot of us, government backed into artificially low rates at least when I went to college, which was lifetime ago. Or our mortgages, which Intel recently have been at historic lows too. So I think we take those rates and translate them into business and then we're in shock. But it was interesting because one of my advisors early on told me is the big difference is with a business you can convert $10,000 to $100,000 in monthly recurring revenue. Pretty much nowhere else you can do that. So the cost to be able to do that? who cares about it? But I would just love to get your take on how you think about interest rates and business lending in that space 100%.

Speaker 2: 20:28

Yeah, I found the only rate that anyone tracks is mortgage rates And I think it's just because you can't avoid it. Just people just talk about it or you'll pass those signs on the freeway that have the rate up on the digital ad. Business rates are just much higher. They are just much higher. The other thing is that rate is only one aspect of a loan's amount, Like the terms of the loan are not just the top line rate. The top line rate is very important, but these are extremely important Origination fee is there a prepayment penalty? How long is the term on the loan? I find is for business owners should be the number one term that they're thinking about, because having a low rate and a short term does not allow you to actually get moving and put that capital to work because you're paying back at such high volume every month. It would be better, I think, for most business owners to take a higher rate with a longer term that stretches out the loan repayment to manageable monthly repayment rates. The paintbrush we fought tooth and nail to offer a five-year commercial term loan. I got laughed out of so many bank partners because the idea to them of offering something longer than 24 months at it for an early stage of business was laughable. But from my perspective as a business owner, a 24-month commercial term loan is pretty useless because I'm paying so much every month just to pay down my loan that I don't even have time to go put that capital to work and let it bear fruit. Top line rates will be shocking to people who have never had it look for a commercial loan before but they really need to take that and compute it into. What are they actually trying to accomplish with this capitalization? What are the other terms underneath the hood that can really help plan out exactly what they're going to put this money to work for?

Speaker 1: 22:45

Yeah, i love that. I love what you said about prepayment penalties. To that kind of reminded me of. If you have a business that is going to generate cash really quickly, negotiating hard on getting no prepayment penalty, it can wipe out your interest rate. If you're allowed to pay it off, who cares? The one other I had gotten in the past that I forgot about also was that I was starting that needed a whole build out before we could get open. I was able to negotiate with a bank to have I think it was six months of interest only payments, which can really help in the early days of a business too.

Speaker 2: 23:22

Yes, the other thing that's great is debt is fairly negotiable. You and I have both raised venture. That's non-negotiable Once you've signed the docs and they bought their shares. that's big. It's never changing. Credit if you're a lender is happy with your repayment pacing and they're happy with the state of your business, the state of your industry. you can refinance. You can go back to them and say, hey, how about this, how about that? You can take your loan often and go shop it to other lenders who will buy it out at a better rate. It's something that's much more alive than equity. Also, to say not to harp on this, but finances, it's not a good or a bad on a rate. It really is like What's bad and what's better and what's great. it's what's best for you. There are many circumstances where you might take a much higher interest rate if there's no prepayment penalty. If you're expecting to have the revenue to cover and pay back the entire loan within weeks, having a high interest rate with no prepayment penalty is absolutely less expensive than a low interest rate with a prepayment penalty. I've also seen variable interest rates. I've also seen warrants, which is a whole nother crazy thing to get into for most business owners. Just to say it's extremely complicated and can get really complicated. One of the things I fought really really hard for at Paintbrush was to make sure our contract was extremely simple, just boring to the point of being a snooze.

Speaker 1: 25:22

I love that. Let's talk about Paintbrush, because I think it's interesting. You guys are in this space doing something new and creative. You've kind of given this the high level. Paintbrush does $50,000 startup loans. but tell us more. Tell us the details, tell us about the boring contract and how do you guys approve people? What does it look like once they get approved?

Speaker 2: 25:44

Sure, i'll start with what the loan is. It's the Paintbrush loan. It's originated by our partner, bank Continental, and we help facilitate the approvals through that partner. What we look for is people with a good credit score, with a good income history. They need to have incorporated, they need to have a commercial bank account, just the basic setups of that business. The outcome of that is we're not looking through a business plan or P&Ls or bank statements or anything like that. That means we can approve loans that are a business that incorporated yesterday. We are just so so much earlier and faster than anyone else on the internet. The loan is only $50,000. We don't offer above that or below that. That might change in the future, but that's what we're starting with. $50,000 tended to be a number that came up a lot as we were talking to customers about exactly how much they needed to get off the ground, how much they rocked up in credit card debt to get off the ground, how much they borrowed from friends and family to get off. That tended to be a good number. Our APR is 15%. That's for everybody who are approved on our platform. The term on that loan I mentioned is five years. There's no origination fee. There's no variable interest. You pay the exact same amount every month from month one all the way through month 60. My goal was to make it really really easy for a business owner to understand what they were signing up for and how it affected their ability to perform at their company. If you know exactly how much you need to allocate every single month to manage the repayment of that debt, i just think it makes it so much easier to plan out your other expenses and see if this pencils for you. Those are the big terms. Our application takes less than 10 minutes. We've seen people end to end apply and are approved in six minutes or less. We just need basic information Your SSN, your EIN, your address, your other business owner's information, birth date. It's very basic information. We run that through a fully automated process that we purpose built for this exact type of loan. Then it's approved instantly. Most approvals we get you a decision in a minute or less. No-transcript, incredible time to capital because we find every morning So everybody that we approved every day gets batched up and our bank originates and wires out that money the next day. So we're moving to the same day at some point. I'll be excited to announce that. When we're done with that, then the last thing that's really important for this conversation is the personal guarantee. We created a wholly new type of personal guarantee structure. It's what separates paintbrush from any other type of well available anywhere in the world, and we're extremely proud of the fact that it allowed us to unlock capital at day zero for small businesses without punishing them and sending them to collections or bankruptcy. And the way that works is, if you fail to make a payment on your paintbrush loan at any point in time, we can move the repayment of the loan to the founder personally and create repayments based on how much somebody is making personally. So if you're out of work, we pause repayments until you're back making income again. If you're making a ton of money, you're going to pay a lot more. It would probably be better for you to just keep paying the loan off under the commercial term loan, but it's a structure that allows us to be flexible with people as they're working their way out of a business that probably fail and back into W2 employment or their next startup, and I think it's extremely innovative. I think it's going to change a lot of people's lives And it's not going to unduly punish them the way that credit card debt or wiping out your life savings would do to start a small business.

Speaker 1: 30:08

Yeah, i really like that, stephen. A couple of things that stand out to me about what you all are doing that's so cool is when I think $50,000 feels like a good number to take a risk and for people to bet on themselves right. Yes, it's that right number to be like I'm going to quit my job and I'm going to go try and do this thing. But it also gives them that backup plan, because the reality is is not all businesses make it. A lot of them do fail And instead of like shying away from that, you all created a solution that embraces that, and so it's like this idea that you know I love. This line is like the business failed but the person didn't. They still took a risk on themselves and they have a path to pay that off, but at least they don't live their life wondering what could have got, like they went and tried and did the thing, like I think that's really cool. And then just the straightforward payment plan. I think like I can't even emphasize enough like five years for $50,000. It's a really big deal.

Speaker 2: 31:08

I want an eight, by the way, which, like the best I could do, is five, and we're, i'm hopeful that down the road we'll be able to stretch out even more.

Speaker 1: 31:17

Yeah, because a normal commercial loan in SBA is going to be seven, right, yeah, so the idea and those are, like you know, we're talking $300,000 to a few million dollars over seven years.

Speaker 2: 31:29

Those are for businesses that are already many years in revenue, have a lot of inventory, have a lot of assets. Like those are not startups anymore.

Speaker 1: 31:39

Right, yeah, and then. So I want to ask you about one scenario with Paintbrush. So say, i'm a startup founder, i'm going to do something, venture back because I've lost my mind and for whatever reason, i think I've said path And I get your $50,000 loan and in four months or in six months I raise a pre-seed $2 million round. Yeah, what do I do with the loan?

Speaker 2: 32:04

Yeah, this has already happened to us. By the way, we already have customers who have done this. They can do whatever they want about it Perfect, they can. So we've had founders who have said, like you know what? I'm just going to pay off the entire rest of the loan from the proceeds of this And because the Paintbrush loan does not have a pre-payment penalty, there's no like punishment for just closing out your loan early. And if that's a good option for you, like, do it Absolutely. When I was figuring out exactly how to structure this loan, i talked to a lot of founders who were in the middle of Y Combinator And you might not be shocked, but I was shocked to find out even in Y Combinator they're racking up credit card debt, accepting that their venture investors will bail them out of that credit card debt after demo day, and so you know it's not like hundreds and hundreds of thousands of dollars, right, but I even heard people that were up to like $150,000 in credit card debt spread out over multiple credit cards and multiple failures that they expected to just pay back And this sort of dirty little secret. I think that the credit card industry is probably the biggest venture investor in the world. They just don't realize it and they're taking any equity for it. And so you know that's just a well-laid path that VCs or RU very well they already understand. They understand that there's credit card debt at that early stage that they're going to be paying off with. But if they want to just keep paying off the loan slowly, like they're more than welcome to do that, the other thing I would advise people to consider is just start more aggressively paying down a debt instead of paying the bare minimum of principal interest every month. Double your payments. If you have the capacity to work through your debt more quickly and you want to kind of balance out your risk, that's something that we're very well capable of taking off your hands. So the truth is like the whole goal of Paybrush is just to let it be in the hands of the founder. I believe they can run their business a lot better than I can and a lot better than their VCs can. So give them the optionality to make the decision Pay it off, don't pay it off, etc. And the last thing I'll say about that is we don't have any conversion. So this is not a convertible note. This is not an equity instrument. We're not taking shares. There is no warrants, there's no right to purchase any kind of stock at any point in time with the Paybrush loan And I think that's extremely high value add compared to all of the other financing out there.

Speaker 1: 34:44

That's amazing. I've learned so much today and I feel like my biggest takeaway specifically with the Paybrush loan, but really all loans is don't get hung up on the wrong thing, which is oftentimes interest rate, and it's because we relate it to mortgage interest rates. But it's all those other terms, because I think about all the terms you just listed for Paybrush those are also favorable to that founder, to that business owner, and creates that flexibility for them to chart their own course, absolutely.

Speaker 2: 35:12

We're called Paybrush because we think we're a tool for founders to go create, and giving them the flexibility to do that meant that we had to take a haircut on a lot of things that we probably, economically, should be doing, but we just feel very, very strongly that there ought to be a new path for founders at day zero to go up and get started and retain that kind of that ownership of that creativity to let them do what they do best.

Speaker 1: 35:43

Cool. Well, thank you so much for being here today. We've learned so much about funding a new business and I'm sure we'll be checking back in with you in the future.

Speaker 2: 35:53

Thank you so much.