Entrepreneurs identify business opportunities from experience within their communities and develop ideas to exploit them. Unfortunately, many entrepreneurs lack funding to implement their ideas. Some entrepreneurs run to the bank for loans, but they are turned away for lack of security. What most new businessmen do not know is that there are many different ways of raising capital to start a new business venture.
Although there are many alternative sources of capital, not all of them are suitable for every business. Each enterprise has unique needs and every entrepreneur should choose an appropriate source of funding that meets their capital requirements.
The capital structure of a firm refers to how a business is funded, whether through equity or loans. Big businesses may choose equity as a source of capital while small business could opt for grants and personal savings as alternative methods of raising capital. Each funding option has its own benefits and risks.
1) Personal Savings
As an entrepreneur, you should always be aware that you are the first investor of your business. Personal savings or personal investment is the capital that an entrepreneur raises through their own means. Personal investment as a source of funding for a new venture may include cash and/or personal assets. The entrepreneur can save small amounts of money from their salary or any other source of income for a pre-planned period of time.
The advantage of this method of business funding is that it does not incur interests, and it does not need to be refunded. However, personal savings always raise a small amount of capital, and it may not be enough to run the business or grow.
2) Equity Capital
Equity capital can be a good source of funding for a business startup, but it is often used by large and well-established entrepreneurs who run successful companies. Big companies can raise large a large amount funds from the public to pursue an entrepreneurial venture or investment. In this case, the business offers ownership stake in the company to investors in form of shares. Investors buy the shares and enjoy ownership of some interests in the business, and the business uses the funds raised to run its projects and business activities.
The advantage of equity funding as a source of capital is that it does not require the payment of interests like bank loans. On the downside, the entrepreneur loses some ownership and control of the business to investors.
3) Business Angels
Business angels or angel investors are individuals or groups of individuals who use their personal assets or cash to assist entrepreneurs with starting their own businesses. These individuals invest in startups that have a great potential of generating huge returns. Like other investors, business angels expect the new business owner to offer them a favorable portfolio or stake in the enterprise.
4) Venture capital
Venture capitalists are individuals who organize themselves into groups and form organizations to provide capital to companies. Venture capitalists often look for high-potential companies, especially technology-driven businesses that have high chances of growth. They often look for good returns for their investments, and some of them may want to be involved in the new business in order to protect their interests. Established companies with significant capital requirements and growth ambitions often pursue venture capital as an alternative source of capital.
5) Government Grants
New business ventures can also be funded through government grants and subsidies. New business owners and entrepreneurs can take advantage of government funding by submitting their proposals and ideas to request for official funding from government agencies. The benefit of obtaining a government grant is that it is free – does not carry an interest, so it does not increase the cost of financing. The entrepreneur is also not required to return the principal amount granted by the government.
6) Bank loans
Bank loans are the most common source of funding for new business ventures. Small business ventures and large enterprises can borrow loans of varying amounts depending on their capital requirements. Small business loans are available in various banks to give small business owners the capital they need to start and run their ventures. The disadvantage of bank loans is that it carries interest, which will increase expenses and reduce net profits for the business. Entrepreneurs should evaluate several financial institutions or banks and choose one that offers the best deal depending on their needs,
7) Friends and Relatives
Small business ventures can raise funds through contributions from their relatives and friends. An entrepreneur can enter into an agreement with a friend to borrow a certain amount of money with the promise to return the money once the business picks up. Entrepreneurs can also obtain funding from their parents or siblings. The advantage of this source of capital is that it involves little to zero costs/risks depending on the agreement between the funders and the entrepreneur. However, borrowing funds from relatives and friends leads to low amount of capital raised.
8) Crowdfunding
Another way of raising capital for a new business venture is crowdfunding. This is an internet-based method through which entrepreneurs utilizes small amounts of capital from a large number of people to finance their new business venture. Crowdfunding allows new business owners to raise funds from altruistic and generous people who are willing to donate their money for promising business ideas.
Crowdfunding often happens through the internet, where the entrepreneur explains their business ideas to online users.
A successful business endeavor occurs when the business owner is able to persuade a large “crowd” of well-wishers. Potential sponsors will want to know how the business works and how it creates value for people and communities. Thus, the entrepreneur should clearly explain a reasonable goal and realistic strategies to achieve profitability and sustainable growth
9) Invoice Factoring
Invoice factoring is a source of capital where an entrepreneur raises funds by agreeing with lenders to sell their invoices due. The lenders then collect the future payments from customers and give the business liquid cash to run their day-to-day operations.
Invoice factoring or invoice advances involves the lender purchasing open invoices from the business owner at a reduced amount and then collecting payments from debtors in full. This approach solves short-term capital requirements.
10) Retained Earnings
Retained earnings are the amount of profits that a company reinvests rather than paying owners as dividend. At the end of the year, the company records its profits and retains some of it for more investment. The benefit of retained earnings as a source of capital is that it does not involve payment of cash and avoids cost issues. However, it is not appropriate for new business ventures that have not earned any profit.
