FUNDING YOUR BUSINESS.
Starting up a business and running a business involves a whole lot of things which includes funding. Funding a business is a very important aspect of any business, the smooth running of any business depends on the financial state of the business the success or failure of any business depends partially on the financial status of the business. A common saying say that “you have to spend money to make money” the primary aim of most businesses is to make money this statement therefore implies that before money can be made money has to be invested. The type of business you want to venture into will determine the how much capital will be needed for the smooth running of the business, it is not enough to have sufficient capital to start up the business adequate money should be available for the day to day running of the business because money is needed for the daily running of the business. Without money it is almost impossible to build a successful business, it is important to have sufficient funds to carry out the affairs of the business, because shortage of funds can lead to the liquidation of the business. The problem that entrepreneurs face when starting a business or when they want to finance their already existing business is finding the most suitable source for funding their business. This study will be analyzing the various sources of funds that are available to a business owner and thee most suitable source to each type of business. As a business owner trying to find a suitable source of fund for your business might seem difficult and you not wanting to make a mistake in the process requires a careful analysis of the type of funds as any mistake made can cost the business a great deal, therefore understanding your business is a very important factor is selecting our type of business all these factors will be elaborately discussed as this study progresses.
The need to start up your business on a strong financial footing cannot overemphasized it is of utmost importance that the business financial status is really strong especially at the take-off level i.e when the business is about to start as this serves as a very good starting point for the business. A business without funds is said to be as good as non-existent because sooner or later if the business continues to run with little or no finance it is going to experience lots of difficulties which may eventually lead to the death of the business, in the case of an already existing business, the business might be facing some financial difficulties which may require the business to looks for other means to source for its funds. You might be wondering why money for any business to run smoothly or why so much importance is attached to money this is because money is the only general acceptable means of exchange so even if the company has assets credited to it and without funds the business might need to sell some of that asset to meet up with its financial demands, the asset can only be sold to get money it might be unable to get the business the necessary things needed for the smooth running of the business an instance is a production company their asset is not an acceptable means of exchange for the raw materials they need, money is needed. This are reasons why money is a vital instrument in running any business.
SOURCES OF FINANCE AVAILABLE TO BUSINESSES.
There are various sources of finance available to a business owner, selecting the most suitable one for the business is left to the business owner and that is a critical decision to make. The following are the sources of finance available to a business owner and they are categorized in different forms.
- On the basis of period this is classified into;
- Long term source; this means capital requirements for a period of more than 5 years to 10, 15, 20 years or maybe more depending on other factors. Capital expenditures in fixed assets like plant and machinery, land and building, etc of business are funded using long-term sources of finance.
- Short term source; means financing for a period of less than 1 year. The need for short-term finance arises to finance the current assets of a business like an inventory of raw material and finished goods, debtors, minimum cash and bank balance etc.
- On the basis of source of generation; this is also classified into two
- Internal sources; the internal source of capital is the one which is generated internally by the business.
- External sources; an external source of finance is the capital generated from outside the business.
|S/N||Long term||Short term||Internal source||External source|
|1||Share capital||Bank overdraft||Retained earnings||Share issue|
|2||Debentures/bonds||Trade credit||Owners investment||Trade credit|
|3||Preference shares||Commercial paper||Sale of fixed asset||Bank loan/overdraft|
|4||Equity capital||Factoring||Debt collection||Government grants|
|5||Loan from banks or other financial institutions||Bank
The illustration shown above are the examples of the sources of finance available to a business owner and they have been classified accordingly. The decision to select any one of these as a means to finance the business depends on the business owner/finance manager, before decision can be made there are some basic factors that would affect the decision of the business owner this would be extensively discussed below.
FACTORS AFFECTING THE SELECTION OF THE MOST SUITABLE SOURCE OF
Choosing a suitable way of financing business might be difficult and time consuming this is due to the consequences of these means on the business. In choosing the most appropriate source of finance for a business certain criteria’s and implications should be evaluated before proceeding to selecting any it is important to weigh the cost and benefits of each sources. Below are factors that should be considered before selecting a source of finance;
- Risk involved; evaluating the risk involved in choosing a source of finance is very important as a business owner you must know the risks that are involved with that particular type of finance, the impacts it will have on your business and the consequences of not been able to meet up with the financial obligations that come with it. An instance is if you borrow from a bank, the inability of the business to pay the bank its loans interest inclusive can lead to the business losing some of its asset but in the case they finance the business using preference shares or equity the consequence attached in case of any default is that they still have to pay the agreed amount but they might not lose their asset. So as a business owner you need to critically analyze the risks involved, which can be handled by the business. The need to analyze the risk is to avoid negative effects of the means of financing on the business, this isn’t the only thing to be considered but it is a very important element to be considered.
- Flexibility and ease; another element to be considered when trying to select a suitable source of finance, the ease in obtaining funds from their sources can also be a determining factor in choosing the most suitable source of funds. In the case a source of funds includes rigorous investigations, documentations, too much time and procedure before having access to the funds as a business owner you can decide to choose another one that does not involve the rigorous processes to save time.
- Cost; there are two types of costs that are attached when trying to source for funds for the business and they are cost of acquiring the funds and the cost of utilizing it. As the finance manager/business owner this costs should be taken into consideration before choosing the best source and it is advisable to choose the one with the least cost attached to it. The cost the source of finance will have on the income of the business should also be evaluated.
- Financial strength; the financial strength and capability of the business is another important factor when choosing the best way to finance the business. While making a choice of a suitable source of funds the financial strength of the business must be considered, if sourcing from a particular source of funds will increase the financial burden placed on the business it is better that another source is considered, or in the case the business will be unable to pay back its financial obligations if it uses selects a specific source of funds it is better another source is considered. An instance is if the business financial position is unstable and it decides to make use of preference shares (with an agreed percentage) as a source it might be impossible for the business to meet up with the stipulated rate hence it increases the financial burden of the business as its debts will continue to increase.
- Purpose and time frame; business owner should determine the most suitable source of finance by considering the purpose for which it’s to be used for and for how long it is going to be needed. A short term need of finance should be met with a short term source such as trade credit, commercial paper e.t.c as this comes with a low interest rate if otherwise is done i.e if the business meets a short term loan with a long term source this will leave too much cash lying around, also long term loans attract high interest rates which is a disadvantage to the business. This implies that a long term need should be met with a long term source of finance and vice versa.
- Interest rate; the interest rate that each source of finance attracts should be examined and weighed against each other. If the interest rate from borrowing from the bank is greater than that of the preference shares, making use of preference shares as a source of financing the business is of great advantage to the business than borrowing form the bank.
NOTE: if the interest rate is lower but the risk involved is higher or vice versa, it is better to consider which will create more negative impact on the business.
- Tax benefit; sources may also be examined in the areas of tax i.e sources that are not tax deductible should be chosen over the ones that are tax deductible.
As a business owner before any means of financing the business is decided upon it is important that you understand your business and know what it entails. This will help you identify what the business really needs and the most suitable kind of funds to apply in meeting the need of your business. Determining the most suitable means of financing the business might be a difficult decision to make, but such decisions must be made carefully to avoid harmful mistakes which can affect the business.
In this study we have been able to discuss elaborately on how to fund a business, the sources of funds available to a business owner and how to select the most suitable source. The study explains what funding means, the classification of the sources of finance and the factors to be considered when selecting it means of financing the business. This study is a very useful one to every entrepreneur and everyone engaged in doing business who needs or will in the future need a guide on financing their business.
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ABOUT THE WRITER;
Samson Oluwabukola Grace is of Lead city University Ibadan. She is enjoys writing on small Business.