March, 2012
Strategies for Financing Your Business
A comprehensive financing strategy, including estimates of the capital required for short- and long-term needs, is a key element in growing your business. A long-term plan reinforces short-term spending discipline and reduces the likelihood your business will burn through capital too quickly. The time to create a capitalization strategy is before your business reaches a financing benchmark. You are more likely to impress potential lenders or investors if your financial affairs are in order and you have a firm grasp of your company’s long-term needs.
Creating a capitalization strategy requires an understanding of business activities your company plans to finance, estimates of how much these activities will cost, and knowledge of appropriate sources of financing.
The state of the economy and your management skills also influence your company’s need for capital. The prolonged economic downturn has reduced sales and profits for many entrepreneurs, often requiring business owners to scale back operations, cut their own salaries, and extend payment cycles for customers who also are feeling the pinch.
Doing the Numbers
Once you understand the business activity you need to finance, you can develop an annual budget and estimate your capital requirements one and two years hence. Your accountant can help with this exercise. Many experts recommend planning for worst-case, realistic, and best-case scenarios. This approach may decrease your likelihood of underestimating your capital requirements, running out of money, or passing up potential opportunities.
After researching your capital needs, you are ready to consider potential sources of funding. There are various sources that entrepreneurs frequently use, and each source has it own characteristics:
Company profits: Allow owner maximum control. May be unpredictable for early-stage company; may be inadequate to finance long-term expansion.
Personal assets: Owner maintains control. May require an increase in personal debt or jeopardize long-term goals such as a secure retirement.
Family and friends: May provide flexible terms. but they may lack business expertise or be inadequate for long-term needs.
Loan from a bank or commercial finance company: Loan officers may have business experience and provide assistance with financial issues; may be reluctant to provide long-term loan or to finance a start-up company. Requires collateral to secure loan agreement.
Loan guaranteed by the U.S. Small Business Administration: May provide capital for businesses that would not qualify for loans through other channels. Guaranty requirements may change in response to federal fiscal policy and current conditions.
If you are estimating capital needs for a start-up business, plan on maintaining sufficient funding to cover anticipated expenses for at least six months. Most start-up businesses are not profitable and typically operate six months or longer before generating capital internally.
Also, the type of business you manage will influence your capital requirements. For example, a retail business requires inventory that must be financed before taking delivery. Many service businesses typically wait between 30 and 90 days before receiving payment from customers, which may require an infusion of capital to pay interim expenses.
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© 2012 McGraw-Hill Financial Communications. All rights reserved.
March 2012 This column is produced by the Financial Planning Association, the membership organization for the financial planning community. It has been modified and is provided by Thomas A. Fisher, a local member of the FPA.
The material presented is believed to be from reliable sources and we make no representations as to its accuracy or completeness. All information and ideas should be discussed in detail with your own adviser prior to implementation in order to determine whether the strategies mentioned are appropriate for your specific situation.