Maintaining your cash flow will be one of the biggest challenges you will face when starting a business, so it is important that you have funds available when you need them.
By the end of this topic, you will understand to:
- identify business establishment costs
- identify various sources of finance and the costs involved
- develop a strategy to obtain finance.
It is a good idea to know as much as you can about the kind of business you want to establish
You have now clarified your goal in establishing your business and have worked out the running costs.
But how much will it cost to establish the business? And how do you find this information?
It is a good idea to know as much as you can about the kind of business you want to establish before rushing in. There are lots of ways to do this, including:
- Work within the sort of business you want to establish
- Join the professional or industry association for your business area and take advantage of the services they offer
- Talk to other business owners within your industry
- Use the help of government departments and websites such as www.business.gov.au. (You will also find a list of other useful websites at the end of this Learner Guide).
As you start your planning, establish a spreadsheet, listing all the expenses and what it will cost to get started.
Resource
Business.gov.au has an Excel spreadsheet template suitable for this purpose that itemises the expenses common to most businesses you can access.
These costs include:
- Legal expenses such as licenses and permits, and registration of your business name
- Accountancy and legal fees
- Rentals and leases
- Computer hardware and software
- Equipment
- Insurances
- Wages
- Utilities and other items.
Key Points
At this stage, it is important to include everything you need including costing in your legal obligations in terms of registrations and licences, and the costs in terms of protecting yourself and your business through insurance. These are too often overlooked though operating without the appropriate licenses and permits can be costly.
ACTIVITY
Determine your set-up costs by downloading the above template and filling in as much of it as is relevant to your business idea. Start with the fee for the registration of your business name. You can find the current fee on the Australian Securities and Investment Commission's (ASIC).
The fees for registering a business name are:
- $37 for one year
- $88 for three years
Other expenses can be researched by contacting various service providers. Your industry association may also be helpful in accessing the correct information. At the end of the exercise, you should have a very good idea of the associated costs of starting your business.
There are many sources of finance you can access to fund a new business. It is important to understand what is involved in applying for or seeking the type of funding you choose and how much it costs.
There are three (3) basic sources of funding7:
- equity finance—investing your own or other stakeholders' funds into your business in exchange for partial ownership (e.g. venture capital)
- debt finance—borrowing funds that you pay back with interest within agreed time frames (e.g. bank loans)
- other—raising funds through other sources that may not need repayment or to provide an ownership stake in your business (e.g. crowdfunding).
A number of these different methods for obtaining finance are explained further:
Government grants, loans and financial assistance
State, federal and local governments often provide grants, loans or support for small businesses and social enterprises (not-for-profit businesses). To access these grants requires you to fill in a grant application and abide by the terms and conditions of the grant, usually by submitting reports to demonstrate your compliance. The type of programs available, and the conditions for accessing these grants vary. Grants do not come with a cost.
You can access current information on grants by contacting advisers from the small business enterprise support program available in each state, or you can do your own research. Start by investigating the websites below:
Websites
- 'Grants and Programs'by business.gov.au.
- 'Grants, Loans and Financial Assistance'by NSW government.
- 'Grants and Programs'by vic.gov.au.
- 'Grants'by Business Queensland.
Self-funding
Self-funding requires you to use your savings or funds from the sale of personal assets. A personal loan from your bank and loans from family or friends is also a form of self-funding. This is one of the least expensive ways of accessing funding for a new business, but should not be undertaken lightly when you are putting your future and that of your family at risk.
Angel investment (equity finance)
Angel investors are individuals or companies that provide funding for start-ups usually in exchange for a share of the business. To access this funding, you will need a strong business plan and an innovative business with opportunities for growth. Since the lender is taking a substantial risk, you will also need to be willing to relinquish some ownership or equity. This can range from 20 per cent to 50 per cent depending on the size of the investment you require.
Equity financing is more costly than debt financing because it is necessary to earn sufficient profits to pay non-tax-deductible dividends while retaining sufficient profit to fund future growth.8
Website
Check out Angel Investors in Australia that provides the names of some angel investors and also provides lists of the companies they have invested in previously or are currently investing in.
Venture capitalist investment (equity finance)
Venture capitalists are similar to angel investors though they are usually only interested in a business that has already moved through the start-up stage and has shown its potential. A venture capitalist expects some control over the business and often brings in their own people with expertise to work with the founder[s] to take the business to the stage where they can recoup their investment and make a profit by selling their share at a profit, or floating the company on the stock exchange.
Bank and institutional lending (debt finance)
Banks provide a number of avenues of funding for businesses including:
- Overdrafts
- Secured business loans using your home, vehicle or other personal assets as security
- Unsecured business loans
- Business credit card
Interest rates can vary from five per cent up to 20 per cent or more depending on the bank and whether the loan is secured or unsecured. You also need to calculate the fees involved as well as the term of the loan and if there is a fee for discharging the loan early.
Because these avenues are usually available only to existing customers and terms change regularly, check directly with your bank or the bank’s website for details.
Non-bank business lenders (debt finance)
A variety of companies provide loans to small businesses. However, they usually require the business to have a history of trading and charge much higher rates than banks. It is wise to shop around and carefully check the terms and conditions. Some loans may be interest only, requiring you to pay the full capital back when you discharge the loan. With others, you may be paying off both the interest and the capital in your monthly payments.
Website
For additional information, check out the lend.com.
Read
Check out this resource created by Business.gov.au where options for seeking finance are further explained.
ACTIVITY
Financing the Business: Tony’s Tidy Homes
Tony has $45,000 from his redundancy pay-out. This amount will cover costs for advertising, licenses, home office set-up, work tools and equipment. In addition, he has calculated his operating costs as $1,200 a month. And he needs to pay himself a wage that will cover his living costs of about $4,000 a month, otherwise, he will run out of personal savings within three months. Tony knows this leaves him in a tight spot if it takes more than two months to get the business up and running. However, he has a good credit history and a home loan with one of the big banks. Consequently, he is considering increasing the credit limit on his credit card and using this as a contingency.
Is this the best way for him to finance his business? What advice would you give him?
As Tony has a good credit history with his existing home loan and credit card it would be worth him preparing his financial plan to use to request information about how much a secured business loan would cost from his current bank. He needs $5 200 per month to cover the worst case scenario that he doesn’t make any sales. He should also apply for any small business grants that he would be eligible to apply for.
Crowdfunding
Crowdfunding is a fairly new concept. It is a way to finance your business through many small loans made by individuals, donations or exchanging money for rewards or shares in the business.
You generally do this through a crowdfunding website. Two of the most well-known sites are Kickstarter (mainly used for creative projects) and GoFundMe (mainly for individuals wanting assistance rather than businesses). However, many other platforms are springing up as the idea becomes more popular.
Crowdfunding's popularity stems from the advantage of starting your business with a source of customers who believe in your product – and there is also lower commitment and risk than taking out a traditional loan.
However, crowdfunding requires an idea that is immediately attractive to a lot of people. It also requires some marketing and promotion ability because you need to post your business idea as a campaign on the website. This entails the development of images, video etc. as well as a clear goal and timing for the campaign. If the idea is appealing enough, people will support your campaign by contributing money to help you achieve that goal. However, if you do not reach your funding target by the due date, the loans and donations lapse, and you may be left out of pocket for any investment you made in marketing.
A crowdfunding campaign can also be time-consuming to manage and is not without obligation. It takes time to develop the campaign and interact with your backers and give them updates. And if you pledge rewards, such as one of your products, you need to deliver. If you fail to deliver the product you promised, the reviews can be brutal and destroy your reputation, and hence your business, before it even gets off the ground.
Crowdfunding is exciting, but it is not for everyone. For example, it is not usually suitable for services or for more traditional products.
Website
For additional information on steps to acquire crowdfunding, visit the business.gov.au link and read the article 'How to crowdfund your business'.
Watch
If you think crowdfunding is for you, watch this YouTube video by Salvador Briggman “Crowdfunding for a Business Start-up”.
New businesses often find acquiring finance difficult. The most common reason is that it is a too high risk to invest in a business that has not yet proved it can be successful. Other reasons may include:
- You have not been able to demonstrate you have the necessary skill or experience to be able to run such a business
- You have a poor credit history
In that case, your planning may need to consider:
- upskilling
- building personal assets and a strong credit history
- being creative about obtaining finance.
Read
Read about the success of small business start-ups in accessing funding in the article “Success Stories” by Noah Williams.
Case study
Ben’s Burn Machines
Ben was a personal trainer who had the idea of starting an e-business selling fitness equipment. In particular, he had designed a portable machine that burned fat off the abdomen. He had self-funded a prototype and had it approved for sale, meeting the necessary safety standards.
The problem was no factory would make a small run of the device and if they did, the cost was prohibitive. He just did not have the funds to manufacture it.
Ben took out a personal loan with his bank. It was not a lot, and he started small. However, he had a business plan for growth over a period of 5 years.
When he had built up a history of regular sales income, he talked to the bank again and obtained a business overdraft to ensure he could secure his working capital and invest in growth.
Case study
The Cosmetic Counter
Jan had been an educator but had always wanted to run her own business in retail. She had discovered a great opportunity to license a business from the UK, but they were unwilling to offer her the opportunity because she had no business experience or knowledge of how to run such a business.
However, the company founder was willing to provide her with a plan for what she needed to do to get them to reconsider. This meant spending over 12 months learning the business from scratch starting with a job as a retail assistant and working her way up to being a store manager.
Her background in finance was also sketchy and funding was an additional problem. She had savings that would fund the licensing fee but inventory, hiring staff and leasing retail space in an up-market mall were additional start-up costs that had to be funded.
She consulted a reputable firm of accountants. Through them, she identified a partner who had been an accountant and, after considering her business plan, was willing to contribute half the start-up costs for a 50% share in the business.
They formed a partnership where she undertook the front-end work of running the retail store and purchasing products and he was responsible for the back-end accounting, payroll, taxation etc. The partnership was successful for over 20 years when they decided to sell the business.
Because banks require a Business Plan before approving a loan, you will find that a financial plan template is part of a Business Plan on your bank’s website. Microsoft Excel also provides a template. Additionally, government websites provide free tools for small business. You may like to review a couple of different templates to see which one suits your business best.
Website
One of the most comprehensive and user-friendly free tools can be found through Queensland government's website www.publications.qld.gov.au.
There is a lot to learn about financing a new business. Various government services offer advice free of charge or at a minimal cost which you can access through the state small business websites. It is also a good idea to join a business group or industry association to learn about the funding strategies other new businesses have used. Additionally, ask your accountant to look at your financial plan to ensure nothing is missing.
To determine the source and cost associated with the different types of advice and support available for your business using the following steps:
- Determine the specific type of financial assistance that is required and over what period of time.
- Identify at least three possible sources of financial assistance (for example, government services, business groups, industry associations, accountant, business consultants)
- Determine the financial costs (upfront fees, ongoing fees, charges, terms etc) associated with each source of financial assistance
- Determine other non-financial considerations/costs (for example, travel time, availability, reviews) associated with each source of financial assistance
- Compare each source of financial assistance based on the financial and non-financial considerations and decide which is the most cost-effective.
Use the following questions to check your knowledge:
Q1. What five (5) items would be part of establishment costs?
- legal expenses such as licenses and permits, and registration of your business name
- accountancy and legal fees
- rentals and leases
- computer hardware and software
- equipment
Q2. What are the costs involved in taking out a business loan?
- loan repayments
- fees for paying off the loan early
- loan establishment/application fees
- transaction fees if it comes with a corresponding debit card
- monthly account fees
- annual fees for credit cards
- late payment fees
Q3. What are two (2) alternative sources of funding apart from a bank loan?
- government grants
- self-funding
- crowdfunding,
- angel investing
- venture capitalist investment
- non-bank business lenders
Q4. What are the advantages of crowdfunding?
It involves a lower risk than taking out a traditional loan.
Q5. In your annual tax return, do you need to declare income obtained through crowdfunding?
If you earn or receive any money through crowdfunding, some or all of it may be assessable (taxable) income, depending on the nature of the arrangement, your role in it and your circumstances. All assessable income needs to be declared on your tax return. More information can be found on the Australian Taxation Office's website, here.
Q6. What are the most suitable business types for crowdfunding?
Non-traditional products that are immediately attractive to your target market. Not suitable for service-based businesses or traditional product businesses.
Q7. How can you find information on government grants and other government support for new businesses?
Do your own research by accessing information from the state, federal and local websites or contact advisers from the small business enterprise support program available in each state.
