Balderson and Mombourquette,

Canadian Entrepreneurship & Small Business Management,

10th Edition

Presentation prepared by:

Peter Mombourquette of
Mount Saint Vincent
University
 CHAPTER 6
FINANCING THE SMALL BUSINESS

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Learning Objectives
LO1 Discuss financing problems experienced by small
businesses.
LO2 Identify the types of start-up capital the entrepreneur
may require.
LO3 Explain the stages of venture funding.
LO4 Illustrate a method for determining the amount of
capital required.

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Learning Objectives
LO5 Identify the sources of equity and debt funds available
to start and operate a small business.
LO6 Explain the considerations in obtaining equity or debt
financing.
LO7 Discuss what elements to include when preparing a
proposal to obtain financing for the small business.

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Small Business Financing
The entrepreneur often requires financing not only
to start the business but also to provide capital to
fund ongoing operations.

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Small Business Financing
The Importance of Capital and Planning
◦ How much do you need ?
◦ When will the funds be used ?
◦ How long will the money last ?
◦ Where can the money be raised and what type of
financing (debit versus equity) will be used ?
◦ Do you need funds immediately ?
◦ Will I get anything else besides money ?

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Small Business Financing
Reasons For Financing of Ongoing Operations
◦ New Products and Services
◦ Acquisition / Joint Venture
◦ Expansion
◦ Capital expenditures
◦ Working capital needs

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Small Business Financing
Other management problems affecting financing
◦ Underestimating financial requirements
◦ Lack of knowledge of sources of equity and debt capital
◦ Lack of skills in presenting a proposal for financing
◦ Failure to plan in advance for needs
◦ Poor financial control of operations

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Determining the Amount of Funds
Needed
Start-up Costs
Ongoing Operating Costs
The Owner’s Net Worth

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Determining Types of Financing
Equity – ownership financing
Debt – borrowing money

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Determining Types of Financing
Business Stages and Financing
◦ The type of financing entrepreneurs can access is usually
dictated by the stage the business is in and the type of
opportunities the company is pursuing

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Equity Financing
Equity financing involves giving up ownership of the
business in return for capital.

Sources of equity financing are private investors, including

using personal funds, friends and family, informal investors
better known as angel investors, corporate investors
commonly called venture capitalists, and government.

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Advantages of Equity
Financing
1. There is no obligation to pay dividends or interest. This
flexibility allows the firm to invest earnings back into the
business in its early years, when these funds are usually
needed most.
2. Often the original owner benefits from the expertise the
investor brings to the business in addition to the financial
assistance.

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Advantages of Equity
Financing (cont.)
3. Equity capital expands the borrowing power of the
business. Most lenders require a certain percentage of
equity investment by the owners before they will provide
debt financing. Thus, the more equity a business has, the
greater is its ability to obtain debt financing.
4. Equity financing spreads the risk of failure of the
business to others.

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Disadvantages of Equity
Financing
1. Equity financing dilutes the ownership interest of the
original owner and leads to decreased independence.
Because of this drawback, many owner-managers are
hesitant to follow this route in obtaining capital.
2. With others sharing the ownership interest, the
possibility of disagreement and lack of coordination in the
operations of the business increases.
3. A legal cost may be associated with issuance of the
ownership interest.

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Sources of Equity Financing
Equity Financing
◦ Personal Funds
◦ Family and Friends
◦ Crowd-Funding
◦ Informal Risk
◦ (Angels)
◦ Corporate Investors
◦ Government

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Determining Types of Financing
Equity Financing
◦ Personal Funds and Retained Earnings
◦ Few, if any, new ventures are started without the
personal funds of the entrepreneur.
◦ 73 percent of start-ups use personal savings, and three
out of the four most common financing strategies
involve personal guarantees.

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Determining Types of Financing
Equity Financing (cont.)
◦ Family and Friends
◦ Family and friends are a common source of capital for a
new venture.
◦ Most likely to invest due to their relationship with the
entrepreneur.

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Determining Types of Financing
Equity Financing (cont.)
◦ Crowd-Funding
◦ A emerging trend in equity investment for business is
crowd-funding.
◦ Crowd-funding occurs when an entrepreneur solicits
small donations or investments from the public to fund
the start-up or growth of their company or social
enterprise.

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Determining Types of Financing
Equity Financing (cont.)
◦ Crowd-Funding
◦ Crowd-funding websites such as Kickstarter
(www.kickstarter.com) and Indiegogo
(www.indiegogo.com) have grown in popularity.
◦ Rules on crowd-funding are evolving and investments
are now possible.

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Determining Types of Financing
Equity Financing (cont.)
◦ Informal Risk-Capital Market (Angels)
◦ Virtually invisible group of wealthy investors, often
called business angels, who are looking for equity-type
investment opportunities in a wide variety of
entrepreneurial ventures.
◦ Typically investing anywhere from $10,000 to $500,000
◦ Provide the funds needed in all stages of financing, but
particularly in start-up.

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Determining Types of Financing
Equity Financing (cont.)
◦ Finding and Soliciting Angels
◦ Estimated that there are approximately 200,000
Canadian angels who are willing to invest thousands of
dollars in entrepreneurial start-ups.

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Determining Types of Financing
Equity Financing (cont.)
Preparing to Meet an Angel
◦ 1. Prepare in advance
◦ 2. Ask for referrals
◦ 3. Screen potential angel investors
◦ 4. Prepare for the first contact
◦ 5. Pitch the idea
◦ 6. Prepare for a response

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Determining Types of Financing
Equity Financing (cont.)
◦ Angel Organizations
◦ A new trend that has emerged in angel investing over
the last decade is the formation of angel clubs or
associations.
◦ Angels use these clubs to network with other angels,
share investment opportunities, and pool money to
invest in start-up ventures.

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Determining Types of Financing
Equity Financing (cont.)
◦ Corporate Investors
◦ Many companies are interested in investing in a small
business in the hope that the value of their investment
will increase over time.
◦ Often they then sell their ownership interest back to the
original owners.

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Determining Types of Financing
Equity Financing (cont.)
◦ Government
◦ Programs have been developed in recent years that
permit government funding and incentives for venture-
capital firms or allow for direct equity investment by
government in the business.
◦ Example: BDC
◦ Bootstrap Financing
◦ Using any possible method for conserving cash.

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Determining Types of Financing
Debt Financing
◦ Advantages
◦ Obtain higher ROI by using leverage debt.
◦ Interest costs are tax deductible; dividends from equity
are not.
◦ No loss of ownership control and greater flexibility with
debt financing.
◦ Easier to obtain than equity capital.

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Determining Types of Financing
Debt Financing
◦ Disadvantages
◦ Interest must be paid on borrowed money.
◦ Increased paperwork requirements and lender
monitoring.
◦ Total risk on part of the owner.

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Determining Types of Financing
Debt Financing
◦ Sources of Debt Financing
◦ Private lenders
◦ Shareholder loans
◦ Corporate lenders
◦ Regular Private Lending Institutions
◦ Chartered banks, Trust companies, Credit unions,
Finance companies
◦ Government Lenders
◦ Canadian Small Business Finance Program
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Determining Terms of Financing
Types
◦ Short term (demand), Medium term, Long term

Sources
◦ Banks, Private Sources, Factors, Confirming Houses, Term
Lenders, Leasing Companies, Foreign Banks, Trust
Companies

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Preparing A Proposal to Obtain
Financing
Criteria Used in the Loan Decision
1. The Applicant’s Management Ability
◦ How much the applicant knows about the business
◦ How much care was taken in preparing the proposal

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Preparing A Proposal to Obtain
Financing
Criteria Used in the Loan Decision
(cont.)
2. The Proposal
◦ Level of working capital
◦ Current ratio
◦ Quick ratio
◦ Debt-to-equity ratio
◦ Collateral

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Preparing A Proposal to Obtain
Financing
Criteria Used in the Loan Decision (cont.)
3. Applicant’s background and
creditworthiness
◦ Personal information
◦ Present debt and past lending history
◦ Amount of equity the applicant has invested
◦ Will the applicant bank with the lender?
oLender Relations

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Concept Checks
1. What problems are often the result of lack of
management competence and experience ?

2. What are some of the operating costs involved in

determining the start up capital needed ?

3. Why is it important to determine the owner’s net worth?

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 Concept Checks
4. What are the sources of equity financing for the small
business ?
5. What are the advantages and disadvantages of equity
financing ?
6. What are the advantages and disadvantages of debt
financing ?

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Concept Checks
7. What are the major sources of debt financing ?
8. What are the potential advantages and disadvantages of
borrowing through government lenders ?
9. What criteria do lenders use in making the loan
decision ?

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Concept Checks
10. What can the entrepreneur do if he/she is unsuccessful
in obtaining financing ?

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