1. Financing Your Business Copyright © 2011 Nelson Education Ltd.11-1 Investigate the Lending Arena chapter 1111 Prepared by Ron Knowles Algonquin College & Jennifer Rouse Barbeau Canadore College

2. Chapter Overview Chapter 11 will:   Help you get your own personal finances in order, before you start your business.   Investigate the sources of informal and formal funds available and the conditions for repayment.   Show you how to plan for all financial contingencies. Copyright © 2011 Nelson Education Ltd.11-2 chapter 1111

3. Learning Opportunities  Understand that you, the owner, will be the major source of start-up capital.  Determine your credit situation.  Find out how much unsecured credit you can draw on.  Create a personal balance sheet (or statement of net worth).  Chart your personal money future—prepare a monthly budget.  Discover your risk tolerance. Copyright © 2011 Nelson Education Ltd.11-3 chapter 1111

4. Learning Opportunities  Understand the inherent risks in borrowing from friends and family.  Partner with, and gain the most support possible from your banker.  Investigate the lending arena.  Identify the pros and cons of debt versus equity financing.  Determine the types of financing options best suited for your business. Copyright © 2011 Nelson Education Ltd.11-4 chapter 1111

5. Financing for Start-ups rely heavily Most start-up businesses rely heavily on informal or owner-based financing like:  Personal savings and loans  Personal lines of credit  “Love money” from family and friends less likely Start-ups are less likely to use formal types of financing such as:  Commercial loans  Commercial credit cards  Leasing Copyright © 2011 Nelson Education Ltd.11-5

6. Types of Start-up Financing Usage Rates by Start-Up SMEs (%) Micro credit1% Government loans & grants4% Leasing12% Credit owing to suppliers12% Commercial or personal loans from financial institutions 51% Personal savings of owner(s)73% Loans from relative & friends of owner(s)7% Loans from other unrelated individuals (angels)2% Other sources of financing3% Types of Financing used by Start-Up SMEs Copyright © 2011 Nelson Education Ltd.11-6 Box 11.1

7. Credit Credit refers to the money loaned or the ability to borrow money. A lender will need to review your credit history and will probably request a credit report. Your Credit History Copyright © 2011 Nelson Education Ltd.11-7

8. Key factors for making a decision about your credit are (in order of importance):  How you pay your bills.  Amount of money you owe and the amount of available credit.  Length of credit history.  Mix of credit.  New credit applications. What is your credit history?  Get a copy of your credit report—it’s free from 3 credit reporting agencies.  See Action Step 50. Your Credit History Copyright © 2011 Nelson Education Ltd.11-8

9. What is Unsecured Credit? Unsecured credit Unsecured credit is credit extended to a borrower on the promise to repay the debt with no collateral or guarantee. Copyright © 2011 Nelson Education Ltd.11-9

10. Unsecured Credit Before you start your business, determine how much unsecured credit you have and:  Check out your health and medical insurance needs.  Apply for additional credit cards or increased limits.  Apply for a personal line of credit—which will depend on the four Cs (capital, character, capacity and collateral).  Explore the possibility of a home-equity loan or home-equity line of credit. Copyright © 2011 Nelson Education Ltd.11-10

11. Develop a Personal Balance Sheet A personal balance sheet is a list of the market value of assets market value of assets (what you own) and liabilities liabilities (what you owe) that will show your net worth. A personal balance sheet: will tell you where you are with money now will indicate your borrowing capability Copyright © 2011 Nelson Education Ltd.11-11

12. Develop a Personal Balance Sheet Creating your personal balance sheet: get a total of your personal assets (what you own)subtract your personal liabilities (what you owe)equals your net worth or personal equity Copyright © 2011 Nelson Education Ltd.11-12

13. Your Money Future & Risk Tolerance Copyright © 2011 Nelson Education Ltd.11-13 Look ahead into the next year List your expenses (Box 11.3 will help) Will your new business be able to support your lifestyle? Assess your risk tolerance: How much money are you willing to lose? Do a reality check: Revisit your personal balance sheet. Have you considered the risk tolerance of your family members?

14. Informal Sources of Financing Self-Financing  This will likely be your most important and only source Family and Friends  Having a banking relationship with your parents & friends is fraught with potential problems  Consider asking them to co-sign loans  Do not accept more money than your lender can afford to lose  Tread lightly and carefully Copyright © 2011 Nelson Education Ltd.11-14

15. Financing From Family & Friends Consider using your own capital. If you decide to borrow from family & friends:  Do not accept more money than your lender can afford to lose  Put everything in writing  Make it a business loan  Include in the loan a provision for repayment  Discuss you company’s goals and any potential problems  Get independent advice Copyright © 2011 Nelson Education Ltd.11-15

16. Formal Financing: Meet Your Banker Some strategies:   Make your banker part of your team   Try not to surprise your banker   Invite your banker to your business   Respect the banker’s rules   Have an up-to-date plan   Get ready for collateral, personal and spousal guarantees   Understand the banker's discretionary limits Copyright © 2011 Nelson Education Ltd.11-16

17.   Angels   Suppliers   Customers   Leasing   Employees & employers Copyright © 2011 Nelson Education Ltd.11-17   Micro lending programs   Government programs   Venture capitalists   Cooperative partnerships Formal Financing: Other Start-Up Capita

18. Will that be Debt or Equity? Equity financing   If you invest money in a business and expect a portion of ownership in return, this is called equity financing or ownership investment. Debt financing   If you lend money to a business and expect to be repaid the full amount plus interest, this is called debt financing. Copyright © 2011 Nelson Education Ltd.11-18

19. How should you finance the business: debt or equity or some combination? The trick is to find the right balance between debt and equity—one that will satisfy the needs of:  You the owner  The business  The market Copyright © 2011 Nelson Education Ltd.11-19 Will that be Debt or Equity?

20. Types of Debt & Equity Major types of Debt financing:   Shareholders loans   Canada Small Business Financing (CSBF) loans   Operating loans (Line of Credit)   Term loans Copyright © 2011 Nelson Education Ltd.11-20 Major types of Equity financing:   Sole proprietorship or partnership  Owner’s personal investment   Incorporated business  Common shares  Preferred shares  Convertible debentures

21. Chapter 11 helps you prepare Parts H, I & J of your business plan:  Financial Section Copyright © 2011 Nelson Education Ltd.11-21 Business Plan Business Plan Building Block

22.   What is the total amount of equity you need to establish and operate your business for the first year? Identify all the sources of funds.   Identify your funding shortfall each month from the cash flow, and the funding sources and expected rate of interest.   Are there any government, agency, or foundation funding sources for your venture?   How much, if anything, do you expect from a venture capitalist or angel investor, and what ownership are you prepared to forego?   Who are your prime vendors? What type of purchase agreement do you have with them?   What is your debt-to-equity ratio, and how does that compare to industry ratios? Copyright © 2011 Nelson Education Ltd.11-22 Your Business Plan Checklist for Your Business Plan

23. This case study is about you. Answer Chapter 11 case study questions to get ready to finance your business:  What is your credit rating?  How much unsecured credit do you have?  List your current financial resources.  Chart your personal money future.  Complete a personal balance sheet or financial statement. Copyright © 2011 Nelson Education Ltd.11-23 Financing A Business, 2 Case Study