Share this page on:
FacebookTwitterLinkedInGoogle BookmarksMyspaceTumblrRedditGoogle ReaderDiggDeliciousBlinkListStumbleUpon

How to finance your new business

Financing is one of the most important things to get the company's operations to function. It's about creating an economic space for necessary purchases and investments. The goal of the invested capital is that it will provide a return that is greater than the efforts. Therefore it's important that the invested capital has some stamina and that it provides flexibility to operate in an efficient manner.

A key part of the company's economic activity is the ability to maintain liquidity. This means that there must be money to pay expenses such as invoices, payrolls, principal and interest. A business can be very profitable, but still get payment problems if the assets are locked up in inventories, receivables and other things that will prevent you from using the money. At first it's damaging to relationships with suppliers, lenders and government agencies if you don't pay on time. Moreover, it's expensive because of the late fees, penalties, interest and other things. An even worse scenario is that the company becomes bankrupt.

It's far from always that wealthy companies use their own capital to invest. Sometimes it's better to keep your own money as investments on the capital market and instead borrow money for the investments. In some cases, such as when a company develops a product with an uncertain future or when a small business wants to invest in a new and risky market, it may be advantageous to finance the business in parts with the contribution of various kinds of grants and other means of financial support. Funding is about the overall economic efficiency where cost-benefit, risk level and timing aspects must be taken into the picture.

There are different types of capital:
• Short-term capital needs is the availability of payment that the company must have in order to cover the ongoing payments to suppliers, salaries, etc.
• Long-term capital needs is the availability of payment that the company must have in order to achieve the necessary investments in product development, marketing, machinery, buildings and other fixed assets.
• Security capital is the extra buffer that the company needs to manage any disruption of operations; such as a major mechanical breakdown or a temporary dip in sales.

The equity ratio is about a company's ability to pay in the long run. The word itself comes from the word ”solid”, ie. fixed, which gives an indication of what it's about. High equity ratio means that there are assets in the company. It could be real estate, securities and other types of assets in the company over time. This property is normally not something you use to pay for the regular operation of the business. High solidity is very important when you are going to convince financiers to lend you money. It reduces their risk if your company goes bankrupt. Unfortunately, start-up companies can rarely show any equity worth mentioning. This means that you need to convince funders in other ways.

The concept of liquidity comes from the word “liquid” which also gives you an indication of what it's about. Unlike the equity ratio, liquidity is money used to pay bills, salaries and other expenses. Unlike the fixed assets, this is money that is quickly accessible. This liquidity doesn't have to be earned cash, but may very well be some sort of credit that you use to balance income and expenditure.

Money when starting a business:
I often meet budding entrepreneurs who want to avoid all types of loans and debt. Sometimes they have their own start-up capital that they intend to use without contacting their bank or any other financier.
My advice is always that they should consider the capital needs again. In most cases people will need at least one overdraft, an account with the ability to borrow money if necessary, when spending temporarily exceeds the expenditure. If you have an initial capital, then that's great. Use it to get yourself room to maneuver. It's no fun having to contact the bank when the money has run out. In most cases, the cash flow even in a small company is much rougher than that of a regular average person.   As an individual, you get your pay once a month at a certain date, which conveniently enough usually matches the time when the bills have to be paid. Predictability is therefore good. When it comes to your business, it may look quite different. You have expenses, but may not receive revenue until next quarter. Of course, you should limit your own and your company's indebtedness. However, I have unfortunately seen too many companies fall into insolvency due to illiquidity. No matter how good of an idea you have and no matter how large a backlog exists: it's your ability to pay bills and salaries that is the difference between staying on the road and sliding off and down into the ditch.

Calculation of capital requirements:
There are different models to calculate capital requirements. Since it's very different depending on the industry the company operates in, it's best advised to contact the trade association for the type of business you run or want to start.

About the author

Stefan Ekberg has worked in marketing for small business for 20 years and has written around 30 books on how small business owners can market themselves with limited resources. . In 2012 Stefan was nominated as Entrepreneur of the Year in Stockholm.

230 000 prescribes to his free newsletter "The 5 minute marketer"
Every week some 230,000 prescribers gets his free newsletter about 5 minute marketing.

"The 5 minute marketer" - the book
You run a small business and you want to get ahead of the competition, but how can you give resources to marketing when you're short on time and the budget is tight? The solution is here! The 5-Minute Marketer is packed with 395 tried-and-tested ways to market your business in 5 minutes or less.