The primary motivation for anyone going into business is for them to make money. However, substantial capital is often required for one to properly launch and sustain a business.
by Clive Mphambela
The money required for one to start a business is called “capital” and the amount of funds required by each business is unique and has to do with the particular goals and objectives of the business owner and his underlying business model. It is, therefore, important for any new business to develop the capacity to raise the required resources to kick-start the business and also the ability to raise additional funds because without adequate financing, any new business enterprise will find it extremely tough going. The lack of funding also leads to a very high risk of company failure. It is important for one to fund his or her business appropriately, so that the business stands a greater chance of success.
Today, we discuss some of the financing sources that should be considered by SMEs and other businesses so that they can make effective informed decisions on how to and how not to finance a startup business.
Do not start a business with borrowed money
Most people kill their business ideas by making simple but lethal mistakes in mobilising the wrong kind of money right from the beginning. Borrowed funds are not good for a business, especially in the very formative stages of the business, but it may be a good idea to access some loan finance much later when the business has run successfully for a while and its cash flows have stabilised.
It is usually quite dangerous to start a new business entirely financed through borrowed funds, especially when its cash generating abilities have not been fully tested. Debt capital by its nature is money that needs to be paid back and it also comes at a big interest cost. Loan capital will leave the business, even whil the business still needs the money to grow. Funding a business initially from a borrowed capital puts both the business and its owner at risk. It also puts the bank at risk and that is why banks will generally shy away from start-up businesses that are yet to build a financial track record.
If you borrow money to start a business and the business idea fails, you will fail to repay the bank loan and possibly permanently damage your financial reputation.
Therefore, today, we discuss the concept of “bootstrapping” as a source of funding for funding SMEs. Before rushing of to your bank to ask for a loan to fund your start up business or even to expand your existing operations, think about these innovative equity-based financing ideas that will prepare you and your SME for a successful long-term relationship with your bank.
“Bootstrapping” — Using personal savings is the best way to kick start your business
The term bootstrapping refers to financing methods where the business owner decides to fund their business solely on their own without resorting to outside funding sources. With this type of business funding, the business owner will typically evaluate all of his or her assets, including personal savings accounts, built property and land, pension and other provident accounts, life insurance policies, motor vehicles, excess household furniture and recreational equipment, jewellery and collectables such as art. By assessing the value of their personal assets, the business owner can then sell these assets such as property to generate cash to put into their businesses. The entrepreneur can also use the assets as collateral for loans. The more money that an entrepreneur uses on their own for their business, the more likely they will acquire capital from other sources when they need it in the future.
When a business is financed this way, the business owners are able to gain complete independence and total control of the business and, therefore, avoid having a diluted role in the decision-making setup of the business.
The flip side of this problem is that, unless the business owner is very wealthy, they will face serious financial constraints when they use their own finances and the business may become underfunded. They will be tempted to underestimate business costs, and may face challenges getting critical skills and resources and support services that the business needs to successfully take off.
Because they usually do not have to account to anyone, these entrepreneurs also have the tendency of not documenting their business plans, which increases the chances of business failure since the business is less likely to be well-researched and has no access to independent outside influence and feedback.
Seeking financing from family, friends and business associates
Whenever self-finding is not feasible enough to provide the needed capital for a startup, business owners will usually turn to their families, relatives, friends, and business partners for further financial support. These people tend to provide needed support to the entrepreneur and will enjoy the excitement and success of the new business venture.
The advantage of this type of funding is that loans from family, friends, and business partners can be obtained quickly since they are based on the personal relationships that the funders have with the entrepreneur. Sometimes entrepreneurs will have the benefit of not paying any interest on these funds and repayment terms may not be cast in stone, giving flexibility on how long the business owner can have access to the funds. One major downside of borrowing money from friends, family members, and associates is the fact that the entrepreneur may have to give up some ownership and control of their company. The more business partners are involved, the more the profits will have to be divided among all the members, who will have funded the business. In addition, friends and relatives, who provide business loans, will sometimes feel that they have the right to a say in the management and running of the business. Their interventions and suggestions may sometimes be at variance with the entrepreneur’s strategy and may lead to a strain in personal relationships.
Clive Mphambela is a banker. He writes in his capacity as the advocacy officer for the Bankers Association of Zimbabwe (BAZ). BAZ expressly invites other stakeholders to give their valuable comments and feedback related to this article to him on email@example.com or on numbers 04-744686, 0772206913