Your investment in your business is your risk capital. If you won’t take a risk why should anyone else?In this chapter, three things that really matter:Without a financial contribution from you, your request for finance will fail. At the same time, even if you do have a substantial contribution your request may still fail. The size of the contribution is not always relevant.
The underlying business proposition is the primary factor. Without a coherent proposal that stands a good chance of success you will not gain finance.The potential funder will also be looking for total commitment from you. This means that you must have an adequate investment in your business. This has, in part, been explored in the previous chapter.
The question of what amount is adequate cannot be satisfactorily defined. It will depend on the proposition.This shows that for every £1 of capital there are debts of £1.50. Gearing of more than 100% or 1:1 is considered high. Gearing of less than 100% or 1:1 is considered low. This means that with low gearing the owner is shouldering the majority of the risk.
Conversely, with high gearing, the lender is assuming more risk than the owner.For a small business looking to raise finance for the first time any lender will probably be looking for gearing as close to 100% as possible.
Having said that, there is no ‘perfect’ gearing ratio and each proposition is considered on its merits.Consider the example given in Chapter 1. In this case, there was capital of £26,750 and debts of £39,500 which, under those specific circumstances, was not unreasonable. This would give gearing of close to 148% if you ignore the grant funding. If you include the grant of £3,750 which is, in effect, also being invested in the business as capital, gearing reduces to 130%.*
Is This You?
I’ve got a really great business idea but I can’t get anyone to finance me, even though it stands to make a lot of money. • My investment in my business is the skills and experience I have, surely that’s enough? • My family life is not going to be affected by starting my business because I’ll still work the same hours.
Making Your Own Investment
Before you can even consider raising funds from external sources you must make your own investment. This investment can take two main forms:
Financial investment, as the name suggests, is a direct injection of cash into your business. If you are operating as a limited liability company, this could take the form of share capital or director’s loan. If you operate either as a sole trader or partnership, it will be classified as owner’s or partner’s capital.
The decision as to which type of business to operate can be complex. There are advantages and disadvantages to operating as a sole trader, or partnership, or as a limited liability company. From the outset you need to seek professional advice on this aspect.
Non-financial investment is the introduction of assets that you may already own. For example, motor vehicles and tools and equipment. These need to be carefully valued for inclusion in your financial records. If you are introducing assets into your business in this way you are advised to seek the help of an accountant. This will ensure that your assets are correctly valued and that
they comply with any Inland Revenue guidelines.
As I have outlined previously, there can be no hard and fast rules on how much capital is required.*
In this book, however, we are looking at raising finance for your new business. It is important that you understand the basic criteria used by funders — that of ‘gearing’.