Start Smart: Basic Financial Planning
for Small Business Owners
Who hasn't thought of owning their own business at some point in their lives? Being your own boss, not adhering to someone else's time clock, and pursuing your passion can sound very appealing. Yet the reality often falls short of the fantasy. In fact, over 80 percent of all small businesses fold within the first year. There are numerous reasons for the daunting failure rate, but high among them is lack of initial financial preparation.
Start smart. Complete the following basic, yet vital, tasks. Doing so can improve the odds that your dream business will remain open for years rather than months.
Know your business's start-up requirements
There is a lot you will need to do before opening day, but first among them will be to know precisely what and how much you will need to get your company up and running. Because each venture is different, there is no exact item and cost template.
On a sheet of paper or computer spreadsheet, list what you think your company will require just to open your doors. Research the price of each line item. If you are unable to obtain the exact price, use a conservative estimate. These expenditures may include:
- Fixtures
- Equipment
- Decorating
- Remodeling
- Inventory
- Deposits with public utilities
- Legal fees
- Professional fees
- Licenses and permits
- Advertising and promotion
- Consulting
- Computer expenses
- Stationery, logos, letterhead
- Rent before start-up
- Insurance before start-up
After totaling your expenses, you may come up with a figure that seems frighteningly large. If so, revisit the list and decide which are absolutely necessary and which are more discretionary. Eliminate those you can do without and obtain at a later date.
Even after trimming expenses, the amount of money you may need may be beyond the scope of mere savings. That's where loans come in. But the key is to borrow just the right amount – you do not want to be deep in debt before you are able to recoup enough to repay what you owe, or budget yourself so tightly that you are operating on a restrictive shoestring. Which is why getting the most accurate picture of what your business's start-up requirements are is so important.
Know your overhead costs
Many small business owners greatly underestimate how much it will cost just to pay for overhead. Think about how much the company's day-to-day operations will likely be. As you did with the first step, list all the expenses you feel will be necessary to keep your doors open. These often include:
- Your salary
- All other salaries and wages
- Rent
- Advertising
- Delivery expense
- Supplies
- Telephone
- Utilities
- Insurance
- Taxes (inc. social security)
- Interest
- Maintenance
- Legal fees
- Professional fees
Once you have a good idea of how much money it will take to keep your business running, you will be able to gauge how much revenue you will need to cover these costs – and still make a profit.
Obtain your credit reports and make necessary improvements
Long before you fill out the loan applications, obtain copies of your credit report from the three major credit-reporting agencies (TransUnion, Experian, and Equifax). Lenders will look to your credit history (as well as the projected profitability of your venture) to determine whether or not you are a good credit risk. Since many reports contain errors or have damage that needs fixing, the sooner you get them, the sooner you can make the necessary corrections.
If there is evidence that you have not paid your bills on time, or that you are already overextended, allow yourself plenty of time to make changes. Work to decrease your debt and make sure all of your subsequent payments are made in a timely fashion. A significant, positive difference can be made in as little as a year.
If there is erroneous information on your reports, such as accounts that are not yours or negative information that should have "aged off," you will need to start the dispute process as soon as possible. It can take months to correct errors.
Get the best and most appropriate financing
There is not one way to finance your business. It is important to explore all of your options before making a decision.
Personal savings, assets, and gifts: Many people use what they have saved to finance their business. Assets such as property and investments may be sold to fund it. You may even be gifted cash that can go towards the venture. Of course this is money you don't have to repay, so interest and payments won't be a consideration (though losing it all if the business fails to thrive may be.)
Personal loans: Family members or friends may be willing to lend you money, often with low (or even no) interest expected in return. Be forewarned though – many a personal relationship has suffered irreparable damage because of such arrangements.
You may consider borrowing against your home or your employer sponsored retirement plan. However by doing so you would be putting your home and retirement savings in danger, making these very risky decisions. Some people have even financed their business using credit cards, though interest rates are usually too high for this to be a wise choice.
Financial Institutions: The most common way people finance their small business is by obtaining loans from their bank or credit union. These financial institutions offer loans with comparatively low interest rates and generous repayment terms. And if your credit meets their criteria and your business proposal is sound, you could be eligible for substantial capital.
Angel Investors and Venture Capital Firms: Angel investors and venture capital firms specialize in helping new and existing companies financially. In exchange for lending you money, they usually ask for equity or partial ownership in the business. However, if your greatest desire is to be your company's sole decision maker, this will probably not be the most desirable option.
The Small Business Administration: The Small Business Administration has special loan arrangements with private investment firms. These loans are licensed and regulated by the SBA. Not only are the terms for such loans very good, the SBA is an excellent source of support for most small business owners.
As you can see, starting your dream business takes a tremendous amount of work and effort. But with careful planning, you will gain a clear vision of how much money it will take to start your venture. Doing so can save you not just dollars, but anxiety and time in the future.