The sources of initial finance, that need to be taken into account when seeking to establish a new business
I am working for the Hounslow Chamber of Commerce as a trainee manager. My job is to provide a guide explaining the sources of initial finance that need to be taken into account when seeking to establish a new business. It is important for entrepreneurs to identify and understand the difference sources of initial finance. They will need to choose them carefully as some may be risk free but some will have an element of risk; therefore, it’s important to choose sources of finance carefully.
The first way the entrepreneur can gain initial finance is from their own personal savings. Savings is when a person keeps back money aside to use at a later date. The entrepreneur will use their own personal savings to start up the business. Money they have saved over a long period of time. A good thing about using personal savings is that it is risk free; this is because it’s your own money, therefore you don’t have to pay it back or with interest. However, if they use all personal savings, and there was an emergency there will not be any more money to use.
Another way to get finance is by using retained profit. Retained profits is the profits the business keep behind and is set aside for other things. If the entrepreneur owned a previous business, they may be able to use retained profits from one business to start a new one. Retained profits are risk free as you don’t have to pay it back, or with high amounts of interest. Nevertheless, if they use all of the retained profits they won’t have any other funds to use in an emergency.
Legacies is another way they can gain cash to start up the business. Legacies is when someone leaves you money in a will. This money is risk free as you don’t have to pay it back with interest. Yet alike to the previous ways to gain finance, once all the money is gone, there are no funds in case of an emergency.
Furthermore, you can gain initial finance with lottery winnings. Lottery winnings are risk free as don’t have to pay it back with interest. However, there are very low chances to win the lottery and interest that is earned whilst the money is in the bank is taxable.
Gifts from friends and family could be a source of initial finance. Gifts are risk free as no payback or interest is required.
Additionally, you can gain finance from angels or dragons. If angels or dragons like your idea they will invest money to help run the business. A negative factor of angels or dragons is that they will own a share of the business. Nonetheless, they will help you run the business which could be beneficial as they are experienced and can give helpful guidance.
Moreover, the entrepreneur can get money by obtaining a bank loan. A bank loan is a large sum of money which is borrowed from the bank that has to be repaid over a long period of time at a fixed rate. Bank loans have risks to them; for instance, you will have to pay back monthly and with interest. You will also need to have a good credit score and the back manager will check affordability to see if you are able to pay back. If they feel that you are not, you won’t obtain the finance.
Similarly, you could get an overdraft. An overdraft is an arrangement between the bank and the owner where they will allow you to borrow money. The money that is over drafted will be paid off when your salary goes into your account. A risk of an overdraft is that you have to pay it back and with interest.
The entrepreneur can also gain finance with credit cards. 1 A credit card is a payment card issued to users as a system of payment. It allows the cardholder to pay for goods and services based on the holder’s promise to pay for them. A good thing about credit cards is that they provide protection. For instance, if you pay for something yet it doesn’t arrive, you can then gain the money back. However, you have to pay it back and with high amounts of interest.
In addition, you can get a mortgage. A mortgage is an arrangement with the bank which allows you to pay monthly installments to buy a property. A mortgage can be paid over a long period of time, around 20-30 years. However, you will have to pay interest. This interest can vary; you can have fixed or variable interest or interest only, or interest and repayment mortgages. Also, if you don’t pay, your property can be repossessed.
Another way is leasing. Leasing is when you rent a fixed asset for a certain period of time. Leasing is good because fixed assets can be very expensive, therefore if it breaks down, the leasing company will be responsible to fix or replace it. In addition, if the business fails you don’t have to still pay for it.
Venture capital is another way to gain finance. Venture capital is money provided by investors in high risk businesses. Banks will not give loans to high risk businesses, therefore they finance them instead. Venture capitalist will have potential to get high returns from it. They are good because they can help manage the business and give advice to improve. Yet they have a portion of the equity.
Furthermore, you can gain finance from community development funding. For instance nestle trust provide support for young people. The entrepreneur can gain money from them if they contain one of the following fields, nutrition, sport, arts and culture, out of school childcare or health and wellbeing. Or they can get money from awards for all. This is lottery funded and gives money to small businesses if they are community projects aiming developing skills, improving health and environment and enabling people to become more active. And lastly, Local network fun. This is a cross government set up to co-ordinate the government policy and services for young people; they help disadvantage children.
Moreover, the entrepreneur can get money from EU aid. This is funding in forms of loans and grants if they cover areas such as education, health, consumer protection, environmental protection and humanitarian aid. They are managed according to strict rules which help to ensure that there is tight control over how funds are used.
A business needs enough cash flow to run your business, they can do this by:
First they can have factoring invoices. This is when a third party agrees to buy your unpaid invoices for a fee. Invoice financiers can be independent, or part of a bank or financial institution. A bad thing about factoring invoices is they will change you a fee and interest but they will give you at least 85% of the money upfront; this can help with cash flow problems.
They can also use overdraft facilities. This helps with cash flow as they have access to money when required. Overdrafts can be risky because they may spend more money than they have and have to pay interest.
The business could also make leasing arrangements. They can can rent fixed assets (for instance machinery, property and vehicles). It is good because you don’t have to pay to repair or replace it – it’s the leasing company and frees up cash to do other things with it as you are not paying cash to buy the assets.
They could also use trade finance. This will frees up the cash as the bank will pay for the goods but later on you will pay the bank.
Lastly, they could export financing. This is when you can gain finance from exporting goods. This adds to the GDP and allows cheap loans. It is good because it frees up cash and has low rate interest. There are many factors of criteria for investment. Firstly, you will need business plan. A business plan outlines how you will operate the business. If you don’t have one the bank won’t grant a loan, as they don’t know how organised you are or if you have you thought about everything. Next they need project viability. This is when they look at your product and they will see if it will be successful, worth investing in, if it will it be profitable in the long run and it is worth investing in. Moreover, they will need entrepreneur’s personal capital. This is how much of your own money are you prepared to put in your own business. Additionally, there are review procedures; you need to be able to review situations from time to time e.g. Budgets (why you overspent), do you have these procedures in place, for instance a contingency plan in case of an emergency. Lastly, there is financial banking. This who else is prepared to invest into your company.
In conclusion, all sources of finance have risks to them. However, many have little risks and could be very beneficial when the entrepreneur is starting up their new business; making pre business start-up, a success.