A company must start with equity and gradually move on to seeking external financing. It’s a smarter choice. If the idea is good and the entrepreneur is promising, there are angel investors who will find it interesting to finance a company. It’s a win-win as it ensures a good return on their money while supporting a new business.
But it’s not easy to raise funds. We’re not talking about small businesses with a great idea that will be worth tapping into the formal financing market. We are talking about a small business in a small town, a sole proprietorship. So we don’t need a shark tank approach of selling stakes and getting the investor interested in the idea.
This does not mean that the business does not generate value or profit. We have millions of businesses that operate at a micro level, run mostly by equity. These companies regularly lack working capital. They are also struggling to find the scale at which they can operate, and any expansion needs money. In this case, the entrepreneur is looking for personal assets to finance the expansion of his business. I had to make my list available to him.
First, estimate your working capital needs. It is a distribution business where one buys goods and sells them to another market. Buy orders are placed after the sale is closed with the client. How quickly the seller needs the money and how quickly the customer will pay determine working capital requirements. Estimate this for annual business volume. Know this number as the money needed to maintain sales.
Second, negotiate with the seller and the buyer to get a close match. If the buyer pays in 90 days and the seller cannot wait beyond 60 days, the business needs 30-day financing. The credit that both parties offer and demand depends on market conditions and competition. Explore the possibility of negotiating a better deal. Would the seller offer a better credit period for a higher price? Would the buyer pay earlier with a discount? Would the buyer be prepared to pay an advance? Can a stage-based payment structure be implemented?
Third, examine the buyer profile to see if there is enough diversity. Large buyers will mostly have a bill paying process that takes some time. Some buyers may take too long to pay. Other than following them and persuading them, there aren’t many options for expediting payouts. Too much reliance on a few big buyers could make it even more acute.
Fourth, look for working capital. Banks, NBFCs and other smaller financial companies may be willing to lower the bill and provide a loan. This is one of the most common loan categories offered to suppliers of goods. The interest rate is also a benchmark for the extent of the margins your business should achieve. If cash is available at 14% and your margin is above 20%, you can fund your business working capital and expand it if you get financing on your invoices.
Fifth, make sure the business documents are in place. Even if it is a small sole proprietorship, have a bank account for the business. Make sure all receipts and payments are recorded. Have a billing and tracking system. Pay applicable taxes. Disclose all information and produce returns. Without knowing your company’s history numbers with history, financing of any kind will be difficult. You cannot raise angel funds or any other long-term capital without audited verifiable company numbers.
Sixth, don’t borrow from friends and family. It is always tempting to seek funds from sources that are easy to tap into. But with such funding comes no responsibility. If you are serious about your business and want it to be a stable source of profit for you, you need to keep an eye on price, margin and be prepared to pay the cost of funds. This keeps the accountability for trading choices higher. Easy money is a trap for taking undue risks and ignoring due diligence and process.
Seventh, don’t mix up your personal and professional life. Staking your home, possessions and jewelry for a business is too risky for your family. Separate professional assets from family assets. Do not spoil the family with expensive gifts and expenses from company profits. This creates a steady flow of money through your mind that makes you feel entitled to be part of the family assets in times of need.
Eighth, build assets for the company. Even though it is a business venture that does not require any capital investment. Reinvest profits to create assets in investments in treasury products like deposits, bonds, cash. It would be easier to borrow against these assets when needed. In times of extreme urgency, these assets can be liquidated and rebuilt.
Ninth, grow the business keeping in mind the funding needs that will arise. It can be nice to get a big order from a big customer. Getting that account might seem prestigious and the regular backlog might be the jump you needed. Make sure you’re willing to wait out late payments and have the financing to keep it going.
Tenth, create and monitor performance indicators for your business. Know the exact aging days of your creditors and debtors. Know the revenue growth rates and its seasonality. Know the margin and costs, and account for them diligently. Set standards that you will measure and execute. Many companies have failed to celebrate their earnings without considering the impact late payments and rising costs can have on their survival.
Entrepreneurship is such a common and widespread feature in India. We celebrate our ability to spot an opportunity and turn it into a business, no matter how small. Be careful not to abuse native wisdom and common sense in running a business. Not everyone intuitively knows how to keep a business afloat. It can be painful to learn the hard lessons.
(The author is president of the Center for Investment Education and Learning.)
Comments are closed.