When you're starting a business, the first issue you need to address is whether you can afford it. Every person starting up a new business needs money. You need to raise finance so you can purchase equipment, establish the workplace and pay for marketing – and all of this outlay has to be met before the first sale has been made.
There are many ways you can raise finance when you're starting a business and it's important that you choose the right business finance for you. You can borrow from family, get a bank loan, or even raise finance from outside investors, but most business use a combination of all of these and them tailor them to their specific needs.
In a nutshell, here is a guide to how you can raise finance when you're just starting a business.
1. Use your own money
The best way to raise finance to start your own business is to use your own savings. If you don't have enough, then you could get a mortgage (or a second mortgage), get a secured bank loan or sell your possessions or assets.
The advantage of raising finance through your savings is that you're in control of your own business, rather than having to consider external investors. Lenders may decide to pull their investment at any time and they'll expect a good yield for their input. But, remember, that you may have to sell your home, and other assets, should your business fail.
2. Ask friends and family
Relatives may be a good option for business finance as they're more likely to give you money and they will provide you with better terms than a bank. A bank may also be willing to give you an additional bank loan, if you already have investment from other sources. But the downside to raising finance from family and friends is that it can place tensions on the relationship and they could lose their money if your start-up doesn't work out.
When you're raising finance from friends and family, make sure that you have made a written loan agreement, as this should help avoid any misunderstandings between you. To create such a business agreement, why not purchase our Business Loan Agreement, which sets out terms and conditions, including any interest and repayment terms.
3. Your bank
The most common way of raising finance for a new business is to get an overdraft or bank loan. The advantage of using an overdraft for business finance is that it's flexible and interest is only payable on the amount you're overdrawn. But, in contrast, you can pay higher interest rates than bank loans and the bank can ask for repayment at any time.
Bank loans are a good method of raising finance because you can budget for your repayments more easily, but there is no flexibility - you could be paying interest on funds that you're not using - and you may have to offer some sort of security.
4. Small Firms Loan Guarantee
This scheme allows you to get a bank loan from a normal high-street bank without giving personal guarantees; the government acts as the guarantor.
Business loans are available from £5,000 to £100,000 (repayable between two and ten years). After two years' trading the bank loan guarantee can be extended to £250,000. You only need to finance security to cover 25 per cent of the bank loan - the government guarantees the remaining 75 per cent. In return for the guarantee, the government charges you a premium of two per cent a year on the outstanding amount of the bank loan.
5. Outside investors
This method of raising finance is that you can issue ordinary shares (standard shares with no special rights or restrictions) to investors in return for their capital. To provide shares to your investors, why not purchase our Share Certificate Form, or you can find two copies of share certificates, plus all the guidance you need on how to use them, in our Limited Company Formation Kit.
The advantage of using outside investors to raise finance is that they may bring added expertise to your business and you don't usually have to make payments to them until the business can afford it.
The downsides are that your share of the business, and of its profits, will be lower, and the investors may want control over how you manage the business.
You can raise finance from external sources though business contacts, through business angels, or through venture capitalists for larger investments. Business angels are wealthy individuals who usually invest £10,000 upwards and may also offer business expertise. Venture capitalists usually invest over £2 million in businesses that they consider will provide a high earning potential and a defined exit time.
6. Other sources
If you don't need a lot of money to start a business, then you may be able to get 'micro finance'. If your business is setting up in a disadvantaged area or a sector that is typically underserved by mainstream lenders, you may be able to raise finance from community development finance institutions (CDFIs). A loan from a CDFI can be used to purchase equipment or property, to finance start-up capital or to fund marketing campaigns. You can get a loan for as little as £50 or up to £1 million, depending on the project. For more information, go to www.cdfa.org.uk.
Some people find that they can access business finance from other businesses in their peer group. Organisations include Prowess, the UK association of businesses and individuals that specifically support women in business; the Ethnic Minority Enterprise Network, which helps Asian and minority businesses; and the Black Business Initiative (BBI), which supports the black and minority business community.
For further guidance on the implications of starting a business, why not purchase our Self-Employment Kit or our book Running Your Own Business Made Easy. Both give tips on the day-to-day practicalities of starting a business and the paperwork and tax issues involved.
Published on: September 6, 2010