7 start-up financing sources for your business

Here's an overview of seven typical sources of financing for start-ups:

1. Personal investment

When starting a business, your first investor should be yourself—either with your own cash or with collateral on your assets. This proves to investors and bankers that you have a long-term commitment to your project and that you are ready to take risks.

2. Love money

This is money loaned by a spouse, parents, family or friends. Investors and bankers considers this as "patient capital", which is money that will be repaid later as your business profits increase.

When borrowing love money, you should be aware that:

Family and friends rarely have much capital

They may want to have equity in your business

A business relationship with family or friends should never be taken lightly

3. Venture capital

The first thing to keep in mind is that venture capital is not necessarily for all entrepreneurs. Right from the start, you should be aware that venture capitalists are looking for technology-driven businesses and companies with high-growth potential in sectors such as information technology, communications and biotechnology.

Venture capitalists take an equity position in the company to help it carry out a promising but higher risk project. This involves giving up some ownership or equity in your business to an external party. Venture capitalists also expect a healthy return on their investment, often generated when the business starts selling shares to the public. Be sure to look for investors who bring relevant experience and knowledge to your business.

BDC has a venture capital team that supports leading-edge companies strategically positioned in a promising market. Like most other venture capital companies, it gets involved in start-ups with high-growth potential, preferring to focus on major interventions when a company needs a large amount of financing to get established in its market.

4. Angels

Angels are generally wealthy individuals or retired company executives who invest directly in small firms owned by others. They are often leaders in their own field who not only contribute their experience and network of contacts but also their technical and/or management knowledge. Angels tend to finance the early stages of the business with investments in the order of $25,000 to $100,000. Institutional venture capitalists prefer larger investments, in the order of $1,000,000.

In exchange for risking their money, they reserve the right to supervise the company's management practices. In concrete terms, this often involves a seat on the board of directors and an assurance of transparency.

Angels tend to keep a low profile. To meet them, you have to contact specialized associations or search websites on angels. The National Angel Capital Organization (NACO) is an umbrella organization that helps build capacity for Canadian angel investors. You can check out their member’s directory for ideas about who to contact in your region.

5. Business incubators

Business incubators (or "accelerators") generally focus on the high-tech sector by providing support for new businesses in various stages of development. However, there are also local economic development incubators, which are focused on areas such as job creation, revitalization and hosting and sharing services.

Commonly, incubators will invite future businesses and other fledgling companies to share their premises, as well as their administrative, logistical and technical resources. For example, an incubator might share the use of its laboratories so that a new business can develop and test its products more cheaply before beginning production.

Generally, the incubation phase can last up to two years. Once the product is ready, the business usually leaves the incubator's premises to enter its industrial production phase and is on its own.

Businesses that receive this kind of support often operate within state-of-the-art sectors such as biotechnology, information technology, multimedia, or industrial technology.

MaRS – an innovation hub in Toronto – has a selective list of business incubators in Canada, plus links to other resources on its website.

6. Government grants and subsidies

Government agencies provide financing such as grants and subsidies that may be available to your business. The website of the Government of Canada provides a comprehensive listing of various government programs at the federal and provincial level.

Criteria

Getting grants can be tough. There may be strong competition and the criteria for awards are often stringent. Generally, most grants require you to match the funds you are being given and this amount varies greatly, depending on the granter. For example, a research grant may require you to find only 40% of the total cost.

Generally, you will need to provide:

A detailed project description

An explanation of the benefits of your project

A detailed work plan with full costs

Details of relevant experience and background on key managers

Completed application forms when appropriate

Most reviewers will assess your proposal based on the following criteria:

Significance

Approach

Innovation

Assessment of expertise

Need for the grant

Some of the problem areas where candidates fail to get grants include:

The research/work is not relevant

Ineligible geographic location

Applicants fail to communicate the relevance of their ideas

The proposal does not provide a strong rationale

The research plan is unfocused

There is an unrealistic amount of work

Funds are not matched

7. Bank loans

Bank loans are the most commonly used source of funding for small and medium-sized businesses. Consider the fact that all banks offer different advantages, whether it's personalized service or customized repayment. It's a good idea to shop around and find the bank that meets your specific needs.

In general, you should know bankers are looking for companies with a sound track record and that have excellent credit. A good idea is not enough; it has to be backed up with a solid business plan. Start-up loans will also typically require a personal guarantee from the entrepreneurs.

BDC offers start-up financing to entrepreneurs in the start-up phase or first 12 months of sales. You may also be able to postpone the principal payments for up to 12 months.

2.4. Financing Sources

2.4. Financing Sources

The common financing sources used in developing economies can be classified into four categories: Family and Friends, Equity Providers, Debt Providers and Institutional Investors.

Family and Friends: This source of financing is a popular primary source for many people and small businesses, especially in developing economies. The close familial/friendship relationships between lender and borrower tends to support a level of trust and risk tolerance that most start-ups are unable to secure from outside lenders. This financing is often ‘informal’ without a formal contractual agreement) and the transaction sizes tend to be small. The terms and conditions tend to be flexible but relatively patient, reflecting the fact that this sort of financing usually supports start-up or rapidly growing businesses.

Debt Providers: These include commercial banks, microfinance institutions (MFIs), credit unions, and leasing companies, which bundle short-term funds and then extend them as loans or leases. Financial transactions here tend to be larger (with the exception of MFIs), and low-to-medium risk. Debt is an essential financial instrument because of the lower cost relative to equity. It has greater flexibility and does not require the borrower to cede control.

Equity Providers: These include “public collective investment vehicles” such as mutual (stock) funds and exchange traded funds, and private funds such a private equity funds. Such funds tend to be primarily ‘equity’ focused (taking ownership in business rather than a lending to businesses).

Equity providers are often aligned with commercial investors (or investment banks), which are primarily in the business of structuring and selling (often termed “placing”) equity investments to investors and providing financing advisory services to businesses. While investment funds are not prevalent in USAID presence and other developing countries, equity can benefit start-up and rapidly growing businesses by providing longer-term patient capital, and in some cases advisory services, while having a higher tolerance for risk. See Equity vs. Debt for more information related to the advantages and disadvantages of equity and debt, respectively.

Institutional Investors: These include pension funds and insurance companies with large amounts of cash inflows that typically need to be invested over the long-term. Institutional investors are important because of their size and huge appetite for debt and equity. While institutional capital in developing countries remains relatively small, it is growing rapidly and is generating interest as to how it can be unlocked to support development.

Sources of Finance: Definition, Explanation & Examples

Businesses aim to maximise their financial gains but they also need financial capital to operate. So where does their money come from? Well, there are a variety of sources of finance. Let's take a closer look at some of them. Internal sources of finance Sources of finance are the provision of finance for a business to fulfil its requirement for short-term working capital and fixed assets and other investments in the long term. The internal sources of finance signify the money that comes from inside the organisation. There are various internal ways an organisation can utilise, for instance, owner’s capital, retained profit, and sale of assets. Internal finance can be considered as the cheapest type of finance, this is because an organisation will not have to pay any interest on the money. Internal sources of finance examples 1. Capital brought by the owner This is the investment that the entrepreneur brings into the business. This typically originates from their personal savings. This source of finance is the least expensive as there is no interest. It is generally the most significant source of finance for a startup business because the business will not have the assets or trading record which will help to get a bank loan. 2. Retained profit It is when a business makes a profit, so it can reinvest it into the business if it decides to expand. Retained profit is also a good source of finance for the business as there is no interest charge, therefore, it is a desired type of finance. 3. Discount selling Retail businesses have the choice to sell the unsold inventory in order to generate the much-required finance. A retail store could sell the extra clothes from the last season at a lower price so that quick cash can be raised, this will also save the expense of storage. 4. Selling of fixed assets This money is raised from the sale of fixed assets in the business which may not be required anymore. Several businesses have additional vehicles, equipment, or machinery that they can simply sell. Advantages and disadvantages of internal sources of finance Some of the advantages of internal sources of finance include: Internal sources of finance let the business sustain complete control. When the business is utilizing its internal sources of finance, then it does not have any repayment obligations as it’s the case in external debt. There is no pressure to match the payment roster to the earnings roster.

It enhances the planning process. Businesses are more cautious with the use of internal finance when planning a project than in comparison to external finance. There is no misapprehension that the business has the cash to spare while using internal sources of finance. It is just spending the money that the business has generated or kept on a side for a project. This means that there is less spending on inessential things and therefore, presents positive spending habits over a period of time.

It lowers the overall cost of projects. When the business is using external sources of finance, then it will have to pay interest on it which makes it expensive to borrow. However, if it’s using internal sources of finance to purchase something, then it will pay just the expense of purchase without having to pay any interest charges on it. It will improve the reputation and value of the business. A great deal of external debt borrowed by the business is not liked by the investors. Higher debt ratios show higher risk levels, hence reducing the value of the business as a whole. Some of the disadvantages of internal sources of finance include: There will be an adverse effect on the operating budget. Since the business is utilizing internal sources to finance its needs, that money should come from somewhere. For the majority of businesses, it means using cash from the capital or operating budget. Hence, there is not sufficient money available for managing daily expenses. That is why businesses use internal sources only to finance the short-run project. It needs accurate estimations to be effective. If the business is using internal sources of finance for a project, then the project’s cost estimations should be considered accurate for it to be effective. Precise estimates are needed in order to calculate the forecasted return, which is essential for future needs to plan a budget. It may take longer to finish projects. With external financing, the business will immediately get all the funding needed for the project and allow it to start the work right away. But with internal financing, access to money can at times be slow. The business might need to create funding levels prior to starting a project. External sources of finance External sources of finance can come from individuals or other sources which do not have direct trade with the organisation. External sources of finance signify the money that comes from outside the organisation. Long-term external sources of finance Equity shares

They are a common source of financing for established businesses. All businesses can not utilize this form of financing as it is administered by several regulations. The main element is the division of ownership rights in equity shares; hence, the present shareholder rights are reduced to a certain extent. Debentures

Debentures are a usual source of finance utilized by businesses who choose debt on equity. Debt is regarded as the cheapest form of finance in comparison to equity. There is no sharing of control with investors. This is due to the reason that the interest given to debenture holders is tax-deductible. Term loan The components of a term loan are identical to debentures apart from that it does not have a lot of cost of issuing as it is provided by a bank or other financial institutions. A thorough evaluation of the organisation’s financials and forthcoming plans is done by the bank to assess the debt servicing capability of the business. Such loans are assured by some assets. Short-term external sources of finance Bank overdraft It is a simple form of short-term finance. At times a business may require money for daily expenses which may be because of a time gap amid the collection and payments. So, in order to fill this gap, a bank draft is a perfect short-term source of financing. Trade credit It is the credit that is provided to a company by its creditor or suppliers. This permits a company to postpone its payments for a certain period of time. This time of credit is subject to the credit terms among the company and the suppliers. External sources of finance examples 1. Family and friends A business can borrow money from family and friends and it is fast and cheap to arrange in comparison to a bank loan. There can be negotiations about flexible interest charges and repayment. 2. Share issues Businesses can generate cash with the sale of shares to external investors. This is a long-run and comparatively tension-free way to raise funds because there are no repayments and interest to be paid on capital being raised. Nonetheless, this will give away some of the ownership stakes in the business. Profits will be divided as dividends are paid to shareholders and there will be no complete control of the business. 3. Business angels Business angels are professionals and investors who offer finance to companies with increasing growth potential. They also provide not just the cash but also their skills, experience, and networking that will be vital for a startup. The drawback is that shares in the business are given away and no complete control over how the business will run. Advantages and disadvantages of an external source of finance Some of the advantages of external sources of finance include: Conserving the internal resources - External financing permits the business to utilize the internal financial resources for some other usage. If a business has an investment that has a high-interest rate in comparison to the bank loan, then it's logical that the business preserves its internal resources and places its money in that investment, and uses external sources of finance for business operations Growth - One of the reasons that businesses go for external financing is that it permits them to finance growth projects that the business can not finance on its own.

Guidance and expertise - Institutions that finance a business are usually valuable sources of expert assistance. Also, an investor may be willing to offer his expertise or direct towards suitable sources of advice.

A bank that might have funded several other small businesses can give advice on how to prevent traps that created difficulty for some. Some of the disadvantages of external sources of finance: Loss of ownership - Certain external sources of finance may require the business to share ownership in the company for their funding. The business may get a large amount of money it requires to launch or promote a new product but will also have to give the investor this right to vote on the company's decisions. Interest charges - External sources of finance need a return on their investments . For example, a bank will have an interest charge on the loan and an investor will require a return on his investment. Typically, interest will add up to the cost of investment making it a greater burden than in the initial plan.

What are the factors of business financing? Financial factors are the factors used to assess the different options concerning financial measures. Although each organisation is diverse, the general factors included in business financing are consistent and lasting. 1. Capability to repay The most persistent factor is the ability to pay back is of utmost importance. Any business should be able to show this ability prior to considering other factors. The business should have proof that they have enough cash flow above operating expenses in order for the repayment of the loan. 2. History of repayment The history of a business’s repayment records on time is a crucial factor. If the business has a clear record of paying the loans, then it should be able to obtain the finance it requires. But if the business previously had problems, then it will have to prepare a letter explaining the issues and indicate that the repayment issues have been resolved. 3. History of cash flows Although very profitable businesses are always striking, consistent cash flow is a highly significant factor in commercial loans. Lenders are aware that cash flow shows the ability of the business to repay. Hence, even though the company shows historically decent profits- still close to the break-even point and the company shows consistently increasing cash flows, then lenders are not too sceptical to lend. What are the factors that affect business financing? The factors are as follows: 1. Nature of the business If the nature of the company needs hefty equipment and machinery, then fixed capital will considerably be needed, or else a small amount of fixed capital will be needed. But if the nature of the business is to manufacture consumer goods, then higher levels of finance will be needed. 2. Size of the business If a company is of huge size, then it will need more land and building, equipment and machinery, etc. In order to fulfil these needs, there is a higher volume of fixed and working capital needed. 3. Production method If the production method is more labour-intensive, then low finance is required. But if there is more usage of machinery instead of labour with a complex production process, then high financing is needed. 4. Business cycle If the business cycle is in the boom, then there is low capital needed, however, the need for working capital will increase. What are the factors that influence the choice of business financing? There are different factors that have an impact on the choice of sources of financing. Some of the are as follows:

Cost - Businesses have to assess the cost to mobilize and utilize the funds. For example, where the interest charges could be comparatively low in debentures, term loans, etc.

Sources of Finance - The choice of funding sources is based on the type of the company. The issuing of shares and debentures cannot be done by sole proprietors and partnership businesses. They have to rely on short-term sources, for example, hire purchase, leasing, bank finance, etc. Unlikely, businesses, government organisations, and cooperative organisations can get funds from long-term as well as short-term sources.

Time period - The time period for which the company needs finance ascertains the relevant source. For example, if funds are needed for the short-term then bank overdraft, cash credit, leasing, bill discounting, etc. are more appropriate. If funds are needed for the long term- then issuing shares, term loans, debentures, etc. are more appropriate. The risk aspect - Funds owned by the business do not have any risk but borrowing funds involve a great deal of risk. This is because of the interest charges which may result in the liquidation of the business in addition to the damage to the reputation.