10/07/2014
THE OTHER “DIALOGUE”-Financing your Start-Up
Courtesy of The Capitall Magazine (August 2011), Circle Lending™ and SCORE®
You have just finished school, just lost that job or somehow; despite your insecurities, have chosen to quit that job. There is no new job in the offing, and there is little or no money at all in your bank account. You are considering starting your own; a club, pub, saloon, retail shop a dealership…name it. My friend; you need a dialogue. A serious one or a series of dialogues that might see you secure the financing you need. Whether you are just starting out or looking to expand, financing is an essential part of any small business. Proper financing can mean the difference between success and failure.
Businesses in that are yet to start or those that have been in existence for less than two years typically find it difficult to get loans from commercial lenders. This is because the businesses are viewed as a high credit risk. This is where alternative sources of credit come in handy. Family and friends can be a good source of financing, especially in the early stage of your business when small amounts of money are involved. These are the people you need to ‘dialogue’ with
According to the Global Entrepreneurship Monitor, many start-ups and growing businesses receive most of their funding from informal sources. This includes money that comes from family, friends, and other private parties. Investments by family and friends account for more than 50 percent of all investment for start-ups.
This article will in its purest intent should help you overcome barriers, and bring you closer to getting the money you need. To successfully borrow money from people you know, it is important that you overcome a number of risks outlined below:
Financial Risk: You must demonstrate to people who might be potential lenders that your business has a reasonable chance of success, and that their investment in it is a smart one. Lenders will want to see that you have the necessary skills, have thought about the risks involved and have a plan in place to minimize these risks while growing your business.
Emotional Risk: You must convince people who might be potential lenders that investing in your business will not jeopardize their relationship with you.
Debt versus Equity Financing
Still, it may be necessary to discern whether the money you need for start-up or expansion can only be acquired through borrowing. If not, then another option exists_ equity financing. Debt Financing is money that you will pay back, usually with interest, over a set time period and in accordance with specific terms.
Some traditional sources for debt financing are banks and microfinance companies. Sourcing from Shylocks is neither encouraged nor included in these categories.
Another source for debt financing is borrowing from people you know, such as family, friends, and business associates. Many of today’s successful companies, including Motown Records and Crate & Barrel (in US), started out this way.
Equity Financing involves giving up a portion of the ownership of your business in exchange for money received from equity investors. Because equity investors are buying a piece of your business and essentially becoming joint owners, if the business fails you generally are not obligated to pay the money back. On the other hand, if the business succeeds, equity investors share in the financial success well beyond recouping the money they originally invested into the business. Common sources of equity funding:
• Venture Capitalists: professional investors who are looking for a higher rate of return by investing in high-growth business ventures
• Angel Investors: high net worth individuals who invest in businesses on a private basis.
Common Concerns of Small Business Borrowers
While family and friends can be an excellent potential source of financing for your business, as a borrower you may still have some concerns about mixing money with people you know.
• Borrower concern: “I am worried lenders will meddle in how I run my business.” How to minimize this concern: By formalizing the loan through proper documentation you will make it clear that this is indeed a loan, and not a favor, which means your lender’s role does not extend beyond that–a lender.
• Borrower concern: “I’m concerned that my lender will scrutinize everything I do financially that isn’t related to the business. For example, if I go out at night, will they wonder if I’m doing it with their money?” How to minimize this concern: By setting up a mutually agreed upon repayment plan, your lender will know that you are serious about paying back the loan. Because they will be receiving steady payments, concerns they might have about how you are spending money should be alleviated.
• Borrower concern: “Won’t my lender worry about my business failing?” How to minimize this concern: Yes, that is a risk they’re made aware of. However, if you secure your loan with collateral, your lender’s risk is significantly reduced. In the event that you default on the loan, your lender will be entitled to receive something (e.g., stock, office equipment, etc.) in place of being repaid.
• Borrower concern: “Even after I pay my lender back, are they going to feel as though they did me a favor, and that I still owe them something?” How to minimize this concern: By talking to your lender up front and formalizing the loan process, you make it clear that this is a business opportunity, not a favour. By making sure they know that all you owe them is the amount of money borrowed plus interest, you will prevent them from holding the loan over your head in the future.
Borrower concern: “What if I have trouble paying back the loan? How to minimize this concern: Generally, when you borrow from friends and family, you have more flexibility (compared with a commercial lender) in how you pay back the loan. If you are having difficulty making payments, be upfront with your lender about your situation, then suggest an alternative repayment plan that works for both of you. In most cases, your lender will appreciate your proactive response and accommodate your request. (End of Part I)
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