Financing the business is one of the critical activities in accomplishing the desire to start a business. At this point, before you draw your business pattern and propose the business modus operandi, you need to ask yourself the following fundamental questions and provide answers to the questions.
- What are the major cost lines of your business?
- How are you going to cover those costs?
- What will be the sources of your finances?
- Will you need to borrow money or just from your savings? If lending, how are you going to repay the money? What is the rate of interest, and if it is bearable?
- When will you be breaking even? (Breakeven point is the level of sales at which total revenue is equal to total costs of the business)
Thus, establishing the business start-up cost precedes determining the source of funding.
Establishing your startup costs
The first step in funding the startup business involves calculating the cost for your business before
you are determining the sources of your business financing. The initial money requirement is what we commonly term initial capital, which some call starting costs. Depending on the type of business, required resources include machinery, office premisses, office furniture, systems, and human resources. Thus, you need to know how much money is necessary for every element of the capital items. Consideration of time and quality of the product or service is essential in determining the amount of money needed initially.
Determining your sources of finance
There are several ways to decide on the source of finance for the respective startup. The sources include self-funding, funds from investors, and loans. However, the decision on the funding method depends on the type of business and the amount of money required. Thus, establishing the startup costs of your business precedes the decision on funding sources. Primarily, we can group the funding sources into three: self-financing, funds from investors, and loans.
Self-funding method of financing a business is a method whereby the business owner makes a self-mobilization from personal savings, family, and friends’ monies. The method is also known as bootstrapping, primarily for sole proprietorship businesses.
Being a sole proprietor of your business means you have complete control of the company; hence, in the case of profit, you have the total share of the profit. However, there are several disadvantages of the method as follows:-
- The method only fits minor and small businesses that require a small amount of money as capital.
- Being the business’s sole owner, you will take all the business risks yourself.
- As it is for profit, you will have to take the entire loss yourself in case of a loss.
- In mismanagement, you might be liable for expensive fees and penalties to various authorities, including tax authorities.
The Dos and Dont’s in doing business
Despite the above limitations, most startups use self-financing to start their businesses. Researchers have proved that the probability of startup businesses using external financing is less than 1%. Therefore, the following should form part of the Dos and Don’ts in doing your business.
- Do not opt for early retirement to establish your small business unless necessary.
- Before starting your business, consider taking business training to understand managing the business.
- Consider having a business management expert who will give you a hand from time to time.
- Learn to be strict in allowing unnecessary expenditure not related to business development.
- Consider differentiating your interests from business interests. If necessary, pay yourself a salary to main maintain financial discipline.
- Make sure to open and operate a business bank account different from your bank account.
Remember that the success or failure of your business rests in your hands.
Funding from Investors.
Investor funding is one of the methods of funding businesses. Financing your start-up business from investors can serve as the lifeblood of your new business. However, not all investors are the best fit for financing start-ups. You need to work extra in selecting the investors for your start-up. Let me share a description of the following five Investors to empower your selection.
a) Venture Capitalists: These are private equity investors providing funding to businesses with high growth potential in exchange for an equity stake. Venture capitalists do rarely work with start-ups; if any, the possibility is less than 1%.
·b) Angel Investors: These are individuals found across sectors. Like venture capitalists, angel investors deal with businesses between first-time financing and venture capital efforts. Your business stability level forms part of the criteria for their readiness to fund your business.
Despite the limited possibility level for both venture capital funding and angel investors’ funding for start-ups, it is worth knowing the steps necessary while looking for venture funding.
- Finding an investor: You needs to do enough background search to find the investors. It would help if you were sure of the reputations of the respective venture capitalists before making any decision to fund your start-up with venture capital. It will be worthwhile getting an investor who has worked with a start-up previously.
- Prepare and share your business plan with the investor: Both Venture capitalists and an Angel investor will need your business plan to review if your business meets the respective investment criteria set by the investor. It has been common to find investors interested in specific geographical areas, industries, and a particular stage of business instead of being open to any business.
- Be ready for due diligence review: The potential investors will need to know about the management team, the market potential, the availability of customers, and the legal aspects of the business. The investor will also want to review your financial statements to assess the health status of the business.
- Agreeing on the Terms and Conditions: If you are lucky enough that the investor is ready to invest in your business, the next step is to agree on the terms and conditions of the investment. At this stage, you also need to be well equipped and understand the meaning of every item of the agreement. If necessary, use experts to take you through the terms and conditions before you sign the document.
- Receive the funding: Depending on the contents of the terms and conditions of the investment, you will start receiving the funding after the agreement. From this point onwards, the investor will be actively involved in the business’s operations. Successful implementation of the first agreement calls for more and more funding.
What Investors say about Startups
Many investors are skeptical of funding startups. Thus, it is good to know what investors say about startups.
- Small business Idea: Investors like to issue a considerable amount of money, expecting significant returns. Most Startups start as micro or Small businesses. Thus, investors consider startup ideas too small to attract funding from them.
- An underwhelming pitch deck: While applying for funding from investors, business owners prepare executive summaries describing their businesses in terms of the market strategies, customers, competition, and the like. Investors consider the startup’s executive summaries underwhelming and can not attract funding.
- Inability to figure out what investors like: Most startups are not aware of the investors’ areas of interest, and thus they can not get well prepared. As a result, they fail to answer even common questions from the investors.
- Lack of market knowledge: Investors usually consider startups as just having an idea not tested yet. Thus, it is possible to fund an idea that seems to fail shortly.
- Lack of the Right Management Team: Having the right Management team is essential in managing business and taking it in the right direction. Most startups are single-run entities; in most cases, the owners are neither skilled in business management nor experienced. Thus, they will tell you that you don’t have the right management team and miss the funding.
- Lack of knowledge of Competition: Competition in business is something that one can not avoid. Most Startups are not capable of thoroughly evaluating their competitive industry. Knowing the competitors and setting strategies to fight competition are among the requirements from the investors. So, if you don’t understand the competition, you miss the attraction of investors’ funding.
- Inability to compete with the capitalized competitors: There are already strong competitors in the market who are well-capitalized. The fact that startups can not compete with them denies the right to get funded by the investors.
- Inability to prepare realistic financial projections: Knowing how to project your financials is a business strength. However, most startups do not have the skills to prepare realistic financial projections. Financial projections give ideas on the future profitability and financial position. Before investing in any industry, investors want to project what will happen to the business in the short, medium, and long term.
- Inability to carry out proper market research: Investors need to get convinced about the need for the product or service that needs funding. The ability to convince investors about the need for the product or service comes from market research. However, many startups cannot undertake proper market research. Therefore, investors lack confidence in the demand for the product or service. Furthermore, most startups don’t articulate how to market the product or service and obtain customers cost-effectively.
- Lack of good prototype of the product: Most startups lack an excellent prototype of their products that can convince the investors. A good product prototype facilitates attraction and promotes investors’ appetite to invest.
For more information, read Understand the Reasons Why Investors do not primarily fund Startups