Just like different types of cars consume different amounts of fuel, businesses have different financial needs which determine their cash requirements in terms of volumes and frequency. Big corporates will always need more money than smaller businesses due to their mere huge size and hundreds of operations to be run every day. However, in most cases the huge corporations usually have high cash deposits in their bank accounts and they can always borrow and get loans much faster compared to smaller businesses. The small businesses are disadvantaged by their low revenue amounts which restrict their borrowing power from the traditional commercial lenders.
Access to the right form of business financing is therefore a critical issue that small business owners grapple with each day. Different business needs will call for different finance requirement as your small business grows through the different growth stages of a business.
Early stage funding
Initially, you will need to invest in the business yourself as the founder of the business. Funds to kick off your startup will in most cases come from your own personal savings and from borrowed money from family and close friends. At this stage you are still tweaking the business model for your new startup and trying to understand customer needs and customizing your goods or services to what they want. The risk of your business failing is very high and therefore traditional commercial banks will most likely not lend you money to kick-start your venture. Only your close circle of friends and family are able to trust you and support your dream at this stage.
In a few cases, there could be government funding or donor grants that are focused and channeled to pre-revenue startups which you can apply for and access the funding. However, these grants are usually limited and have conditions attached to them; some of which may force you to change your business model if indeed you would like to get the funding. When this is the case, it is advisable to stick with your business model as long as it is solving a client problem satisfactorily; then money will follow later on as you gain traction.
Growth stage funding
As your startup grows and gains regular customers, your financial needs change too. You’ll need more raw materials to make more products to meet the increasing demand. You might also need to hire more staff or buy more machinery and technology to increase your production capacity. All of this requires money and can put a strain on your cash flow. You might need equipment financing to buy new furniture and machinery, and short-term loans to cover any gaps in your working capital. For instance, if you’re starting a road construction company, you’ll need funds to pay your workers and buy heavy machinery like asphalt distributors, crack sealers, Chip Spreaders, and slurry machines. The sources of financing can vary depending on how much money you need and how long you need to repay it. While this is a simple example, most businesses face similar challenges in their early stages.
With a growing number of regular customers and bulging revenues, traditional commercial banks can be willing to look into your cash flow statements and consider lending to you at this growth stage. However, still, due to the small nature of your business and uncertainty about a sustained growth trajectory, the banks will require collateral and their lending rates will be higher for you than for the larger businesses.
Alternatively, you can get funding from angel investors and venture capitalists interested in early stage businesses. Funding from these two sources should channeled to long-term capital projects that will generate huge return in the long-run; enough to cover the cost of the funds and repay the investors when their investment period ends.
Expansion stage funding
Organically, your small business will at some point outgrow its local market and thereby create a need for expansion to other regions and markets. When expansion comes knocking, you need to have very strong financial muscle to roll it out. Opening a new branch for your business in a different region or market comes with extra costs such as new business premises, furniture, equipment and machines. You will also need additional employees and the local government might require you to have additional licenses too. To cover all these costs, you will need to think strategically about how you will raise the financing for the expansion project without hemorrhaging your small business.
At this level you will have proved your business model and your cash flow statement will have expanded hence commercial banks will be willing to lend to you. If you decide to get a loan from the banks, you will need to get a long term loan since the expansion plan is a capital intensive undertaking that will take a long time before it fully recoups the initial investment put into it.
With a growing and promising business, additional financing sources from venture capitalists and private equity firms can help you accelerate your expansion. On the other hand, you could opt for an acquisition or merger with an existing similar business in your new target market in order to cut down on your expansion costs.
Before approaching any source of funding for your business, it is therefore prudent to first analyze your financial needs and assess whether they are long term or short term; then go ahead and match the source of your business financing with your specific business needs.
