Getting the right business finance is essential. Investment, bank finance and other forms of funding can help successful businesses grow, while viable businesses can be destroyed by cashflow shortages.
You need to decide which kinds of financing best suit your business and understand the implications of any financing agreement. The right choice puts your business on a firm financial footing, reducing risks and increasing financial returns.
Your business plan
Your business plan and financial forecasts are the first step to successfully funding your business. Together, they help you assess your financial requirements and identify the most suitable mix of different kinds of finance. Preparing a range of forecasts based on different assumptions allows you to assess the risks and identify the need for contingency funding in case the business does not perform as well as you hope.
High-risk businesses generally require a relatively high level of equity finance: for example, your own investment in the company's shares. Businesses that produce predictable amounts of surplus cashflow can afford to have a higher proportion of loans and other forms of bank finance.
A convincing business plan is also a key tool in persuading investors and lenders to support you. Lenders want to be sure that your business is a good risk and will be able to meet interest payments and capital repayments. Investors want to know how and when they can expect to realise their investment gains.
Equity investment
Equity investment provides the core funding for most businesses. Banks and other lenders will be reluctant to provide financing unless there is a cushion of equity finance.
Business owners, family and friends are often the first source of equity funding, particularly for small businesses without a track record. External sources of investment include so-called business angels, wealthy individuals who typically invest amounts from £50,000 upwards for a share of the business. Professional venture capital investors operate in a similar way but on a larger scale.
For the business owner, selling part of the company to raise equity finance can be a difficult decision. External investors look for the prospect of substantial returns, and will rarely value your business as highly as you do. Bringing in investors may also involve some loss of control, though the terms of the investment can be tailored to address this issue.
Bank loans and other debt finance
A bank overdraft is a simple and flexible way of providing day-to-day working capital. Alternatives such as factoring and invoice discounting offer funding that automatically increases as your sales grow, together with extra credit control and debt collection services.
A bank loan is generally a more appropriate form of medium-term financing. Loans may charge a fixed or floating interest rate, and can be tailored to match the life of an asset - such as the equipment you are acquiring - and your cashflow forecasts. Commercial mortgages can be used for premises, while lease finance can be a cost-effective way of funding purchases of equipment and vehicles.
A bank will generally require some form of security before providing financing. A typical small business loan, for example, will require a charge over the company's assets. The bank might also want the company's owners or directors to provide personal guarantees - putting personal assets at risk if the business fails.
You may want to check whether you qualify for a business grant. Business grants typically come in the form of subsidised loans towards the cost of a project that offers wider benefits, such as increasing employment in a deprived area.
