Entrepreneurial finance: getting businesses off the groundPosted on: July 19, 2022
After competition, the second-greatest challenge that entrepreneurs face when launching start-ups is cash flow – making it a significant contributing factor to why two in every three new businesses fail.
While difficulties in raising capital are common, for those who get it right, business success is there for the taking. Advances in technology, together with evolving attitudes and a dynamic investment landscape, have resulted in an environment that is ripe for new ventures. No longer are start-ups – of which fintech remains the fastest-growing type – solely the purview of entrepreneurs based in Silicon Valley. While the United States still leads the way in terms of greatest number of start-ups, India and the UK come in second and third.
Wherever they’re based in the world, today’s most-successful entrepreneurs require a solid understanding of the mechanics of entrepreneurial finance – including investment option types, valuation, negotiation and scaling – in order for their business opportunities to be in with a chance of getting off the ground.
What is entrepreneurial finance?
No new business can succeed without initial capital to cover its start-up and operating costs.
Entrepreneurial finance involves the application of financial tools and techniques to the planning, funding, operations and valuations that are complicit in entrepreneurial ventures. It focuses on the financial management of entrepreneurial firms and ventures as they move through the lifecycle: from the early stages of development through to eventual exit strategy.
As stated, new businesses, ventures and start-ups are likely to encounter challenges in their initial years – both operational and financial – so knowing how to anticipate and avoid financial pitfalls is critical. As well as funding shortages in the short term, entrepreneurs must forecast ahead to identify whether larger amounts of cash will be required in future. Small firms in their early iterations often require several rounds of financing in order to meet operational overheads. This financial planning and acquisition is how founders and entrepreneurs spend a large proportion of their time as their company becomes established, bidding for investment, seeking loans, and raising capital by varied means to increase financial resources at their disposal.
What are the seven principles of entrepreneurial finance?
Developing products, launching to market, exploring opportunities, creating value and covering operational overheads: all require financial backing and none happen overnight. Investors and venture capitalists inject much-needed funding into businesses with the expectation that they will eventually reap the benefits of their investment. Therefore, understanding how to make a venture a success – while not damaging business relationships or personal reputation in the process – is a fundamental entrepreneurial skill.
Drawing on both entrepreneurship and finance, entrepreneurial finance involves seven basic principles:
- Real, human and financial capital must be rented from owners.
- Risk and expected reward go hand in hand.
- While accounting is the language of business, cash is the currency.
- New venture’s financing involves search, negotiation and privacy.
- A venture’s financial objective is to increase value.
- It is dangerous to assume that people act against their own self-interests.
- Venture character and reputation can be assets or liabilities.
What are the main financing strategies?
Global financial services organisation, EY, advises that there are a number of financing routes available to entrepreneurs. While some are more suitable for start-ups in their early developmental stages, others present better options for more established, mature businesses.
Some common sources of finance available to entrepreneurs:
- Personal savings and family and friend funding – Founders who use personal savings engage in ‘financial bootstrapping’, which refers to launching or building a company from personal finances or through use of company operating revenue. It involves little capital, and relies on funding that is separate from outside investment. Entrepreneurs often also see if funding can be sourced from within networks of family and friends. This type of financing is often used to cover initial new business start-up costs early on in the life cycle.
- Angel investors and informal investors – Angel investment is usually derived from other experienced entrepreneurs who have available funding and are looking to invest in, and support, the businesses of other entrepreneurs. Investment from business angels can be done individually or collectively, the latter meaning financing amounts can surpass millions of pounds.
- Crowdfunding – Increasingly commonplace in recent years, this type of funding relies on a group of people – a ‘crowd’ – collaborating in order to meet funding needs. Typically, it takes place online: investment opportunities are presented via a crowdfunding platform, such as GoFundMe, and then a large number of people contribute various, usually small, amounts in order to help a business reach its desired total. Incentives are usually offered to crowdfunding investors.
- Subsidies – A large number of financial schemes, subsidies and tax schemes are available to companies seeking funding, varying by country and region depending on what the area requires. For example, regions may want to boost the growth of certain economies, invest in research and development, or encourage entrepreneurship. It’s worthwhile for budding entrepreneurs to check what subsidy and grant options are available in their given geographical area.
- Venture capital/private equity – Private equity refers to investment firms who invest in businesses that are not publicly listed, while venture capital refers to those who specifically make higher-risk investments in early-stage businesses. These firms spread the risk across their portfolios – in numerous companies with varying risk levels – and generally sell shares further down the line in order to generate a return.
- Debt financing – Banks are more likely to invest in small-medium enterprises (SMEs) which generally carry less risk and can offer collateral against an investment. Debt financing does not require a company to sacrifice equity, and so can be an attractive option for more-established businesses. Debt financing can be beneficial for stock financing, investing in equipment and workspaces, and working capital financing.
Other sources of funding include factoring, leasing, revenue-based financing, initial public offering (IPO), initial coin offering (ICO), and set-ups which release finance through supplier networks. With the number of start-up business finance options available it, quite literally, pays to research and identify which route – or combination of routes – best suits the company, business model, and the current growth stage. In this way, it’s more likely that attempts to secure funding will be successful.
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