Resource 4.5. A Summary of Sources of Finance for Starting a Business

Transcription

1 A Summary of Sources of Finance for Starting a Business Resource 4.5 Many new businesses fail because the owner does not have enough cash to last them through the first few months of trading, while their sales revenues start to come in. Before you begin trading, you need to make sure you have enough money to set the business up and to cover your initial running costs. If you or your business partners don't have enough money yourselves, you will need to approach other sources of finance. This factsheet outlines some of the options available for sourcing external cash to help you get started in business. There are various sources of finance available, but for new businesses the most likely options will be: Personal savings and informal loans from family or friends. Banks. Private equity investors. Government sources of funding. Local authorities. Business support organisations. Commercial services. Personal savings and informal loans from family or friends Personal savings and money raised from friends and family are the most common forms of finance for start ups. Friends and family may be prepared to help you start your business by offering you a loan, particularly if you cannot get one from a bank. This may be on preferential or 'soft' terms including possibly an interest-free basis. If you opt to pay interest there will be tax implications for both parties. However, personal relationships may be affected if your business does not do as well as planned and you are unable to repay the loan on time or in full. Relatives or friends may also consider investing money in your business in return for a share of its ownership even if they act as a 'sleeping partner'. However, they need to understand that they will be risking their capital and that returns are not guaranteed, so they should only invest what they can afford to lose. There are also implications relating to the legal status of your business with this type of investment Banks Banks offer a variety of products, services and introductory offers to business start ups. Overdrafts Banks can provide finance in the form of an overdraft, whereby they agree to let you withdraw more money than you actually have in your business account. Your bank will set a maximum level of overdraft. You only have to pay interest on the amount you are overdrawn, so overdrafts can be a good option if you only need small amounts of extra cash at certain times in a month or during the year. However, the interest you pay is often higher than the rate for a loan. Page 1 of 6

2 Loans Business loans are available through the major high-street banks and it is important to shop around for the best deal for your own personal and business circumstances. You should consider the amount you need to borrow, the rate of interest charged and the repayment period that you can afford. If you are starting a business, it is likely that your loan will need to be secured against a personal asset, such as your house. Credit cards Some businesses fund their short-term spending through the use of credit cards. This has been encouraged by the availability of competitive deals, such as introductory interest-free offers. While many credit card businesses discourage the use of personal credit cards for business purposes, there are now a number of credit card offers specifically targeted at new business owners. Credit cards can help a business to finance its short-term needs, but they don't make sense for long-term borrowing. Although initial interest rates may be attractive, the interest costs of credit cards are usually higher than overdrafts and loans, unless you can repay the outstanding balance each month. Private equity investors Private equity is money that is invested into your business by a third party in return for a share of the ownership. This may be provided by a commercial organisation such as a venture capital firm or private investors who are known as business angels. This type of finance is only available to limited companies and is not available to businesses that operate under a sole trader or partnership legal status. Private equity is not usually secured on a company's assets, so the investor faces the same risks as the other shareholders and if the business fails they will lose their money. Investors achieve a return on their investment through the payment of dividends by the company and by the value they achieve for their shares when they are sold. Venture capital Venture capital is a means of financing a business where a portion of your business's share capital - or equity - is sold in return for a cash investment in the enterprise. It means that some measure of control over your business has to be conceded to the new shareholder. Most, but not all, venture capital businesses are looking to make quite large investments, often over 1 million, which excludes them from providing finance to many start up businesses. The British Private Equity and Venture Capital Association (BVCA, publishes a list of member firms, their contact details and the types of funding that they provide. Regional Venture Capital Funds (RVCFs) are privately managed investment funds that are supported by the Department for Business, Innovation and Skills (BIS) and Regional Development Agencies (RDAs) and provide investment across England. The funds vary in scope but are targeted at smaller businesses and are often limited to an initial investment of up to 250,000. Business angels Business angels are private investors who look for opportunities to invest money into new or growing businesses. Most regions of the UK now have business angel matching Page 2 of 6

3 services, which encourage local investment and mentoring on a smaller scale. The British Business Angels Association ( matches business angels with small businesses requiring equity finance. Business angels are typically looking to invest funds of between 10,000 and 100,000, although they can also form syndicates of investors who will contribute larger amounts. Government sources of funding There are a variety of initiatives operated by the Government offering help to businesses in such areas as start up, technology, research and development (R&D), and exporting. These include: Early Growth Fund This is a Government initiative available in England that has been developed to encourage risk funding for start ups and early growth businesses, particularly those involved with innovative and knowledge-based activities. Small amounts of risk capital - typically 50,000, but up to a maximum of 100,000 - may be available. Most funds will require matched private sector investment to at least the same amount as Early Growth Fund investment and the funding is provided on a commercial basis. Grants Grants provide finance to allow your business to undertake a specific project that, without financial assistance, would not be able to proceed. Such projects might involve the initial start up of the business, developing a new product or buying equipment. A grant is usually a one-off payment and provides funding that covers a percentage of the costs of the project - normally, you or your business will have to meet some of the costs too. Unlike a loan, a grant does not usually have to be repaid unless you fail to adhere to the specific Terms and Conditions (Ts and Cs) of the scheme. You will need to check that you meet the eligibility criteria for a particular grant and then you should consider what will be required to satisfy the grant requirements. The most widely available Government-funded grants are for R&D, but there is a range of grant schemes available in the different regions: In England go to In Wales go to 429&r.s=tl&site=230&topicId= In Scotland go to In Northern Ireland go to Other Government departments such as the Department for Environment, Food and Rural Affairs (Defra, and other organisations such as the UK's Arts Councils ( and may also offer funding schemes for businesses in specific sectors. Local authorities Page 3 of 6

4 The Economic Development Department (or equivalent) at your local authority may offer financial support to new and existing businesses, including grants and loans. Many local authorities also provide managed workspace units which offer low-cost office space for start up businesses. You can find contact details for your local authority at Business support organisations There are a number of locally based business support organisations that administer a variety of schemes to help support new and expanding small businesses. Many of the schemes include business planning advice, training and some form of financial support. Enterprise agencies Enterprise agencies can provide advice and financial support to pre-start, start up and micro businesses. The main types of finance provided by enterprise agencies are: Soft loans, which often require no security and are used to support viable businesses that cannot raise all of the finance that they need from other sources. Grants, which may have quite narrow eligibility criteria. For example they may only be available in certain areas or for certain business sectors, or for specific types of people (for example, unemployed or young people) or projects (for example, marketing or buying IT equipment). The National Enterprise Network is a network of independent local enterprise agencies in England. Go to to locate your nearest enterprise agency. In Northern Ireland, the work of enterprise agencies is co-ordinated by Enterprise Northern Ireland ( In Scotland, enterprise agencies are referred to as 'enterprise trusts'. Enterprise trusts are members of Business Enterprise Scotland, which is the national association of enterprise trusts in Scotland. Go to to locate your nearest enterprise trust. The Prince's Trust and the Prince's Scottish Youth Business Trust The Prince's Trust ( - for England, Wales and Northern Ireland) and the Prince's Scottish Youth Business Trust (PSYBT - help young people aged between 18 and 30 who are unemployed or under-employed to start up in business. The Trusts are aimed at disadvantaged young people who find it difficult to obtain finance from conventional sources. They operate from regional offices, arranging advice and training as well as grants and loans. Charitable organisations There are a number of charitable organisations that also provide support and funding to people setting up and running small businesses. Examples include: PRIME ( operates in England and Northern Ireland and provides advice, support and loan finance to help entrepreneurs aged over 50 to start up businesses. Loans may be available for individuals and partnerships that have been refused funds by other sources of finance. PRIME Cymru ( operates in Wales. Page 4 of 6

5 The Royal British Legion ( offers small business loans of up to 5,000 to help service leavers and unemployed ex-service individuals to start a business. The Blind Business Association Charitable Trust (BBACT, provides grant funding to assist blind and partially sighted people set up and run a business. Commercial services Asset financing Asset financing is where the lender provides you with finance to buy capital equipment, such as machinery or motor vehicles, and the loan is secured on the asset acquired. There are two main types of finance available: Leasing (or contract hire) allows you to hire the equipment over a predetermined period of time for fixed regular payments. Under a lease you never own the asset and must return it at the end of the lease. Hire Purchase (HP) allows you to make regular monthly payments, but ownership of the asset transfers to your business when the last payment has been made. There are different accounting and tax treatments for the costs of leasing and hire purchase, so it is important to take professional advice before deciding which option is most appropriate for your circumstances. Factoring and invoice discounting Factoring and invoice discounting are financial services that allow your business to be paid an advance against your sales when you invoice your customers for goods or services under credit terms. The advantage of this service is that you receive the majority of the money once the invoice is issued without having to wait for your customers to pay you. This is particularly useful when your business is growing and you need to maintain a positive cash flow to fund the purchase of stock and the costs of employing new staff. Hints and tips Contact a business adviser for information about sources of finance available to you and for help on putting together an application for finance. All providers of finance will need to be convinced about the viability of your business and you will therefore need to produce a carefully thought-through business plan, explaining how your business will operate and why the finance is required. Outline your objectives and how you plan to achieve them in your business plan. You should include precise details and justification for the finance you need and when you will need it. Be sure that you can afford repayments on any loans, either personally or through business profit. Financial assistance, especially for business start ups, is often dependent upon you taking business skills courses. Undertaking business training not only Page 5 of 6

6 improves your personal skills but will also increase the confidence of potential investors in your business. Carefully check your eligibility for a particular grant before applying as there can be strict qualifying criteria and the application process can be time-consuming. Page 6 of 6