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Part III: Securing the Capital You Need

Part III: Securing the Capital You Need

A few budding entrepreneurs are able to finance a business themselves. Most however will find it necessary to locate at least partial funding. Unfortunately, obtaining funds to start a new business is usually more difficult and more involved than obtaining a personal loan for a home improvement project or to purchase a new car.

To formulate a plan to secure the capital you need, address the following three key questions: (1) How much money is needed?, (2) What kind of money is needed?, (3) Where can the money be found?

How much money? There is considerable variation in the capital required to start a new business, so don’t approach potential investors hoping that they’ll know how much money you will need. In the fast food industry, for example, Kentucky Fried Chicken was originally started with an initial investment of only $105. More recently, McDonald’s first restaurant in Moscow, Russia required a total investment estimated at $40 to $50 million! Start-up costs for most small businesses fall somewhere between these extremes—like a Subway sandwich franchise for $75,000, or a Western Sizzlin steakhouse franchise ranging from $744,000 to $1,454,000. The amount of money you’ll need for your new business depends upon the type of business, the size and scope of your operations, the location and specific site you select, and perhaps most of all upon the particular business strategies you’ve selected.

Estimating Start-Up Costs

Fortunately, having collected the information for your business plan (steps 1–7), your determination of capital needed should be relatively easy. Refer to the “forecasts and” section you will prepare for your business plan and retrieve the data used to prepare your estimated start-up costs and cash flow estimates. Consider the following suggestions:

  • Avoid padding your estimates. Although some “contingency” expenses are understandable and expected, don’t penalize yourself by being too conservative.

  • Don’t make the mistake of raising just enough funds to open the business without sufficient funds to operate the business once opened. Remember that cash is required to operate the business (especially as it grows). It may be months (or years) before the business is profitable.

  • Determine the funds needed at each stage in the life of your business. For example, if you plan to initially purchase resale items from other manufacturers and not engage in manufacturing until the third year of operation, the initial funds needed won’t require production facilities. Most investors (especially banks) will be more receptive to investing in stages as your business develops and proves itself rather than in a one-shot gamble.

What Kind of Money?

What kind of money? Rather than simply believing you need XX dollars for your new business, consider how the money will be used. This will help you determine the kind of money needed and the type of source to approach. According to John F.Murphy of the Small Business Administration there are four basic types of money. He explains:

  • Trade Credit. This type of “money” is not borrowed. It is money you owe your suppliers who permit you to carry fast-moving inventory on open account. A good credit experience is proven evidence of your ability to repay borrowed funds.

  • Short-Term Credit. Banks and other lenders often provide this type of money to carry your purchases of inventory for special reasons, such as buying inventory for the next selling season. Such loans are self-liquidating because they generate sales dollars. You repay short-term credit in less than a year.

  • Long Term Credit. Such loans—for more than a year—are used for expansion or modernization of your business. These are repaid out of accumulated profits. Usually, the evidence of this type of loan in a small business is a mortgage or a promissory note with terms.

  • Equity Funds. This type of money is never repaid. You get it by relinquishing a part of your profits to an investor. That is you sell an interest in your business.

Where Can the Money be Found?

Methods to raise funds and potential sources of funds are limited only by the entrepreneur’s imagination. A check list of potential sources is shown on the next page.

However, although you’ve done your homework and prepared a professional proposal, you should still be prepared to contact more than one source, because you may face some initial rejection. This is especially true when the economy turns sour. During the 1990–91 recession, for example, venture-capital funding for small firms dropped 66%. About 91% of surveyed small businesses felt a credit crunch according to National Small Business United, and 55% who applied were denied loans for business expansion or development.



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