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Dr Emad Rahim – Entrepreneurial Financing

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Dr Emad Rahim – Entrepreneurial Financing

Strategic Plan

 While entrepreneurs are usually filled with ideas and passion, they are often starving for capital to jump-start and grow their business.”

Really That Important For

Entrepreneurial Financing? Dr Emad Rahim

Entrepreneurial financing might be one of the most difficult and intimidating aspects of business ownership. While entrepreneurs are usually filled with ideas and passion, they are often starving for capital to jump-start and grow their business. There are a number of ways to categorize financing for startups, but for simplicity we will break it up into early stage financing and growth stage financing. Within these stages there are two types of financing – debt financing and equity financing. Early Stage Financing arly stage financing refers to funds that are used to cover the costs associated with getting your business on its feet. These costs include the development of your business idea, writing a business plan, developing and testing a prototype, capital investments, product development, prototype testing and establishing operations. Then there are significant marketing costs associated with introducing the product to the market, such as building channels of distribution to make the product available to the consumer, and advertising and promotion to inform consumers about the product and to get them to try it. At this stage, profits are typically negative due to the high startup costs, low sales volume, and the inability to take advantage of economies of scale. Finally, it is critical to have sufficient working capital to keep your business running. The size of the startup, asset structure, organization type, growth orientation, and owner’s characteristics are all relevant to how the company should get financed. Based on standard thought, the size of the startup company directly relates to the amount of financing needed. However, regardless of size, startup companies share common struggles. This is the stage where they are not generating significant revenue, yet are faced with the challenge of establishing themselves within a market. At this point, startup companies must depend on their innovation to catch the interest of consumers. Higher

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risks exist during the early stages, and income rarely equals/exceeds the company’s debt. As a result, lower profits are expected. During the early stage of the business it is common for entrepreneurs to rely on personal income, funds from friends and family, funds from commercial banks and funds from finance companies. Government grants are also an option, however applications take a long time to process and they are difficult to obtain. Although these financing options exist, they may have a negative effect on the business. Unlike traditional financing, non-traditional financing does not require business plans, detailed presentations, or collateral. Traditional financing options with venture capital firms and angel investors are not common. Venture capitalists (VCs) rarely participate in early stage financing for two reasons. VCs target large deals and consider early staged investments as too risky. The presence of agency costs and conflicts of interest between lenders and business owners repel VCs investments. Based on existing literature, it is virtually impossible for startup firms to secure financing from VCs. Despite the overwhelming obstacles, one scenario may lead to VCs backed investments. Hypothetically, startup firms could attract VCs with large quantities of tangible assets. Most startup businesses begin with nothing, therefore this occurrence is highly unlikely. The second opportunity for entrepreneurs is to seek out angel investors. They invest in companies both in the startup and growth stages, and

have an opportunity to capitalize on the change in focus of the VCs toward later stage investments. Although some entrepreneurs view equity financing as a last resort, this might be their best option. With business angel investments, entrepreneurs should expect to pay up to an 80% return rate. More clearly stated, that rate of return is not an interest payment. Instead, it is on projected revenues.

Here is a comprehensive summary of financing options for the Early Stage and their pros and cons to the entrepreneur and the company. `` Debt Financing: The business owner raises money by taking out loans and paying them back using an installment plan with set interest rates. This type of financing is not dependent on whether or not the business succeeds. If successful, the owner is responsible for paying back the loans, but he/she keeps all of the profits and control of the company (Field, 2007).

`` Customers and Suppliers: Customer financing is when customers fund the product development in exchange for customization. Supplier financing is when suppliers extend payment terms, which effectively increases your working capital. Another form of supplier financing is when a supplier holds inventory, in exchange for a guaranteed payment by a certain date (Field, 2007).

`` Equity Financing: The business owner raises money by selling shares or ownership in the company in exchange for cash (Field, 2007).

`` Venture Capitalists: Investment organizations provide money and advice in return for partial ownership of the company. This means that the owner must be willing to give up control over major decisions and be willing to sell the business, or have an IPO within seven years of receiving an investment (Field, 2007).

`` Personal Loans: The business owner borrows money from family and friends. At the very early stages of any startup, entrepreneurs tend to raise money from relatives, colleagues and other people they know well. This type of loan will give quicker access to funds with fewer stipulations (Field, 2007), but could threaten the relationship if the business fails and you cannot repay the loan. `` Banks: The business owner uses traditional commercial banks to borrow money. They can be a good source for loans ranging from microloans of hundreds of dollars to major loans of six figures. Banks provide an option to open a line of credit where you don’t need to pay back interest until you reach your maximum. Banks require much more proof of financial responsibility, with the owner often having to demonstrate that they already have established credit in order to be eligible for a loan. Banks can also take longer to process loans (Field, 2007). Unless the owner has a good credit rating and a sizeable bank account, banks will hesitate to lend money to start a business. `` Grants: An award of financial assistance given out by the federal government or an organization that does not have to be paid back. Grants are highly competitive and have strict guidelines on how the funds are spent (Field, 2007). `` Bootstrapping: An Entrepreneur uses whatever resources available to get the business off the ground. While a large part comes from personal savings and homeequity loans, credit cards are also used. (Field, 2007).

Regardless of financing option, emerging entrepreneurs should undergo strategic planning to determine: (1) the mission and goals of the company; (2) the direction that the business will take; and (3) how the business will achieve its mission and goals. At the basic level, the entrepreneur needs to make choices based on the available options for these issues. As a starting point, it is important to structure the thought processes so the entrepreneur does not get lost in the forest and to ensure that all the relevant issues are covered. Having a clear strategic plan will increase the likelihood of having a successful venture. 

 The size of the startup, asset structure, organization type, growth orientation, and owner’s characteristics are all relevant to how the company should get financed.”

Biography and Reference ★★ Emad Rahim, DM, PMP is Dean of Business and Management at Colorado Technical University. Follow him on Twitter @CTUBusiness ★★ Field, A. (2007, October, 18). Great ways to finance a startup: From credit cards – hey, it worked for Google – to your own customers and suppliers, there’s money out there if you get creative. Fortune Small Business. Retrieved from the Business Source Premier database.

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Entrepreneural Financing by Emad Rahim  

Entrepreneurial financing might be one of the most difficult and intimidating aspects of business ownership. While entrepreneurs are usually...

Entrepreneural Financing by Emad Rahim  

Entrepreneurial financing might be one of the most difficult and intimidating aspects of business ownership. While entrepreneurs are usually...

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