More and more people are venturing out into entrepreneurship for different reasons. Others are simply not meant to be confined to a 9-5 hustle, while others are fervently about following their passion. But regardless of the reason on why you wish to pursue a business, it is important to understand how the finance is run around it, as well as how money flows through it.
Business Finance Defined
In the simplest terms, business finance encompasses all the funds that go through a business. It is not limited to the liquid assets of the company, but rather, it includes the acquisitions of capital funds that are used to run the business. Hence, the initial capital utilized to jump start a business venture is insufficient to sustain the business.
Fixed Capital. In starting up a business, there are several requirements necessary. Depending on the industry, a start-up may need to acquire land, building, or machinery. Digital businesses entail the need for software and applications needed to start the operation. The funds needed to secure these necessities are referred to as the fixed capital requirement.
Working Capital. It is essential for a business to have sufficient resources to fund its daily operations. This may include payment for the wages of the employees, the money to purchase raw materials and supplies, and cash to pay for taxes or rent, among others. The funds for the day-to-day operations of a business is referred to as the working capital.
Apart from a fixed and working capital, it is necessary for a company to continuously innovate and ride the tide of the times. This may entail the need to upgrade and acquire state-of-the-art machines with advanced technology feature. Hence, constant diversification and innovation through research and development is compulsory. A substantial amount of resources must go into this process to ensure business growth.
The Role of Business Experts
Several business experts can help shed light on how to handle the financial aspect of a business. Those from Money Task Force discuss money management tips in detail, especially for start-up companies and budding entrepreneurs. This is because it is necessary for an entrepreneur to seek various means to generate funds necessary to run the business, which is apart from the profit gained from the consumers of its products and services. The means to gain funds can be in the form of a business loan or a cash advance from financial institutions. Nevertheless, an effective business plan, especially in terms of financial management, is necessary to keep a business in operation.
A thorough financial planning must be performed even during the conceptualization stage. Financial planning is necessary for the entrepreneur to have a general overview of the estimated capital requirement, as well as general business expenditures.
First and foremost, financial planning makes the availability or deficiency of funds transparent. The areas where funds can be generated, as well as the areas that need more funding, can be more apparent and clear for the business owner with proper financial planning. Thus, it is ensured that funds are available whenever needed. Secondly, financial planning helps an entrepreneur deliver the indispensable funds at the perfect timing on where it is needed. The delivery is as important as the generation of funds needed to run a business. Proper financial planning also sees to it that the capital structure of the business is robust, with a debt to equity ratio that is relatively small, whether for short-term or long-term. Lastly, financial planning avoids unnecessary expenditures and immense wastage of the company’s resources.
The first step in financial planning is preparing an estimation of the amount of the fixed and working capital required. The second step is preparing an approximation of the target sales. With this in mind, an entrepreneur will be able to have a precise idea of the expected return based on a rough calculation of the expenditure and sales. This is vital in considering funding from external sources, as well as the spending patterns of the business.
With proper financial planning, the financial activities of a company is performed in accordance with its values and policies. Hence, a company can be guaranteed to have substantial funds, thereby leading to financial stability. Additionally, an effective financial planning inhibits the company’s vulnerability in terms of the constant changing pattern of the industry.
Business Finance for Starting a Business
If you are considering of putting up your own business venture, take note of all the requirements that you need to start operations. This should already be included in your financial plan, together with an estimate of the operational costs. With startups, there are additional business costs due to permits and licensing fees, as well as insurance or utility connections to name a few. Even digital businesses pay for web hosting fees and marketing costs. Also bear in mind that there is a great possibility wherein the initial revenue you will generate from your business will be insufficient to cover these expenses. Hence, you need to prepare for a business emergency fund, as well as a buffer in anticipation of unforeseen circumstances.
Business Finance for Running and Growing a Business
A finance option to cover for the daily operational needs of your business is a working capital loan. This loan can keep your business running smoothly even in the event of unfortunate events such as late payments from your customers or unplanned bills. Identify a certain pattern on when you are most inclined to apply for a loan because there is a great chance that the need for additional finance doesn’t happen randomly. Once you identify the pattern, incorporate this into your finance strategy. Because the tenure of working capital loans is usually short-term, the interest rates coupled with it are also comparably higher. Hence, a number of working capital loans may become expensive. This is the reason why seeking the advice of a professional business finance expert may prove to be beneficial.
In the same manner, if you are growing your business, you still need a financial plan that includes your business budget and cost estimates in terms of expansion. It will help to list down all the expenses needed to make the improvements because expanding may entail the need for you to operate with a skeletal force. Consider the changes that the growth may bring forth to your business such as the need for additional staff and inventory. Have a target rate of return and perform a cost-benefit analysis so that you will be able to consider all the viable options. Lastly, think about your business cash flow to guarantee the perfect time to expand or grow your business.
There are two major business financing options, particularly for start-up businesses. One is to borrow a specific amount of capital, but with a certain interest. The other is to sell a portion of your business to investors. This is commonly referred to as equity finance. Depending on your business needs, you may acquire both options to generate a sufficient amount of funds.
With a loan, you are a hundred percent in control of your business and its finances. However, you might need to use up some of the business revenue to pay back the loan in time and make diligent payments depending on the loan package. It can be more challenging to acquire for a business loan if you are starting up your business or if you have a poor credit history, although the loan application process is straightforward. There are instances wherein the entire loan application process takes only a couple of days, but this is not always the case.
The upside is that debt financing may come with other banking and credit services, including insurance. The interest rates of the loan may vary depending on the financial institution or the lender and it can be unpredictable depending on the overall market status. In cases of a relatively huge loan, the lender may require a certain collateral and even if you are not successful with your business venture, you still need to settle the amount of money you borrowed, including all the interest charges incurred. However, once the loan is fully repaid, all ties are cut with the lender. Debt financing can come in many forms such as term loan, or line of credit, which is usually through credit cards. You can also explore peer-to-peer lending or invoice financing.
If you are considering financing your business through equity, assess yourself if you are willing to give up a portion of your ownership, including a part of your business profits, to potential investors. Nevertheless, you can use the revenue you garner from the business to make it grow, without having to think about any loan amount to be settled. There are instances wherein an equity finance is more favorable for start-up companies because more and more investors are willing to support new concepts and innovative ideas, which are often evaded by known financial and lending institutions.
The drawback of equity finance, however, is a tedious process that you need to go through in terms of legalities. It is in the contract agreements wherein the investors state their expectations in terms of repayment, which may be in terms of dividends. Nevertheless, you are sure to gain from the expertise of the investors willing to finance your business. At the same time, if your business falls short of being successful, you do not have the obligation of returning the capital put in by the investors in your business. However, investors will require transparency in terms of business plans because they want to be guaranteed that somehow, you are aiming to grow money not only for you and your business, but for them as well.
Equity finance investors can come in the form of angel investors, venture capital, or incubators and accelerators. Angel investors are individuals who invest their own money while venture capital are professional investment groups. On the other hand, incubators and accelerators are development plans that boost small-scale enterprises.
Business Finance Considerations
Your business finance needs are greatly influenced by the type of business you are entering. Is your business a start-up or are you planning to acquire an already established business? Ultimately, you may be seeking to expand your business or solve a certain cash flow problem. Different business types require different business funding.
Amount Needed and Cost Incurred
With a financial plan in hand, you already have a rough idea on how much your business needs and what you need it for. This will narrow down whether you need to apply for a loan or collaborate with investors. It goes without saying, however, that business financing comes with a cost. Debts come with interests while equity requires the need for you to give up a part of your business to another entity.
Tenure and Risk
Consider whether the specific business fund you need is only for a short-term purpose or needed for a long-term duration. You may need a short-term business finance resource to start up your business and get everything on track, or a long-term resource to fund your company’s continuous innovation. In parallel with innovation, risk is involved. An upgrade that is proven to be profitable can effortlessly attract investors, while a new concept might entail the need for other funding sources.
History and Return of Investment
A good credit standing will definitely make it easier for you to gather the necessary finances for your business. It is even easier if you already have a working history with the financial institution that may grant you a loan. But apart from your credit history, you also need to consider the return of your investment because this will determine whether you will be able to pay back a loan or generate greater revenues.
Pursuing a business entails the need to understand the finances that enable it to run and sustain it. This is the key to the business’s longevity because a business without funds is not a business but rather a hobby or charity. Hence, a business without any accessible funds will cease to function.
Video – What is Business Finance?
This Market Business News video explains using simple terms what business finance includes.