Business finance explained

business finance capital and business finance importance
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PatrickWood,United Kingdom,Researcher
Published Date:16-07-2017
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The business n fi ance guide A journey from start-up to growth Page footer Cstep out from your business bUsINEss PLAN Entrepreneurs want to focus on doing business. Preparing a solid business plan is the key to For many, finance falls under the category of securing funding. A robust business plan helps administration, which may not be their forte. potential lenders or investors understand the But to make sure the business can move forward vision and goals of the business. It also brings they must step out from the business and ask the focus to management’s understanding of the questions that need answering. business strategy. It helps them understand the risks inherent in the strategy and the impact of any deviations from their plan – particularly when Take a fresh look at prospects and challenges it comes to funding. Plans may have been made when the business was little more than an idea. Things change and Information will depend on the target audience, circumstances move on. You need to make a but it should incorporate: fresh assessment of where the business is, what • an executive summary, highlighting the main the opportunities are, how achievable they points, designed to grab the attention of are and what new challenges there are to the potential lenders or investors; business. • de tails of key personnel, their responsibilities, Analyse your opportunities skills and experience; You need to make a detailed analysis of the • market analysis of the company, its products or prospects for the business in light of any changed services and its competitors; circumstances. A review of the new upsides and the new downsides needs to be carried out and • details of current and intended client base; the impact of them assessed, together with the • a marketing plan targeting new or existing probability of different scenarios. customers; • historic financial information covering the last Reach for the future three years of trading (if available) – accounts On the basis of the above analysis, prepare a (audited if available), and key accounting ratios; detailed forecast, looking at the forecast profit and loss (P+L) account and balance sheet and • cash-flow data, including information about then, crucially, at the cash flow, which will standard payment terms and typical debt turn; highlight how much capital needs to be put into • financial forecasts for the next three to five the business to finance your latest plans. years, presented as the historical information, and highlighting the key underlying Think about finance assumptions; You then need to think about the financing • a dditional ‘flexed’ forecasts showing the impact options for the business, how appropriate of key downside scenarios, such as sales targets and how attainable they may be. To secure not being met or cost savings taking longer to debt financing and/or investment, you need come on stream; to make your business proposition clear and understandable to your target audience – with a • c ash-flow forecasts covering the next two business plan. At this stage a business is likely to to three years (or in the case of a start-up or require outside advice and experienced resource turnaround, until the business moves into to ensure that it is ‘investment ready’ for potential profit), clearly highlighting the amount of investors, giving it the best possible chance to funding required; and secure funding. Be open-minded. The funding • how creditors, capital expenditure, debtors and landscape has evolved considerably over recent stock will be managed over the forecast period. years and there are a lot of options available – some are new and some have been around for some time. 04 The business finance guideALL IN ThE PREP ThE jOURNEY kNOW kNOW kNOW INvEsT FIND YOUR OPTIONs YOUR OPTIONs YOUR OPTIONs IN ADvICE sUPPORT EQUITY FINANCE DEbT FINANCE It must be clear how much of the existing CAsh Is kING owner’s money is committed to the business. If a Before looking for external capital, businesses lender or investor thinks the existing owner does should make sure they are managing cash not have enough ‘skin in the game’, securing a effectively. Some fairly simple steps can loan or investment is likely to be more difficult, help maximise available cash. Being able to if not impossible. The business should consider demonstrate good cash management also sends whether investors would be eligible for tax reliefs out the right signals to potential investors or (as described on page 12) and ensure that it lenders. communicates this in the business plan. The The only way cash flow can be under control amount of any backing already received from is by understanding the ins and outs. A weekly other banks or investors must be clearly stated. cash-flow forecast is often essential, particularly This can demonstrate the attractiveness of the in a growing business. business as an investment. Management must have an understanding of the If a business is looking for debt finance the plan amount of cash and working capital required to needs to demonstrate how the business will be operate the business. Then working capital needs able to both meet interest payments and repay to be carefully managed. For example: the capital element over the period of the loan. • stock and work-in-progress (WIP) levels must A repayment schedule linked to the forecasts will make this clear. And when looking for equity, be reviewed, and excess stockholdings actively reduced; the plan will need to show how the potential shareholder would receive dividends and how • sales invoices must be issued in a timely manner the value of the business and therefore their stake and through best-practice credit management would grow. procedures, with payments collected within The plan should always be ‘fully funded’ – with those terms; sufficient headroom so that the whole process • c ontractual agreements with suppliers should will not have to be revisited too soon. Whether it be reviewed to generate cash and suppliers is short-term debt finance or long-term growth paid to credit terms; capital, different equity investors and different • capital expenditure should be carefully assessed debt providers will all have specific requirements and consideration given to the cash-flow when it comes to the content of business plans. implications of outright purchase; and There is more detail on how to prepare a business • a utomated payment methods should be used plan on the websites of many of the contributors wherever possible – getting customers to pay to this guide. Website details are on pages 22–24. by electronic transfer or through direct debit helps increase the speed and certainty of payment. This approach to cash management is not ‘t hebest o j urneys in just part of the preparation for taking on new investment or debt; it is a procedure that must lie f are those that be ongoing. With new stakeholders the scrutiny ans Wer u q estions you of cash flow will likely be even greater as the business’s journey proceeds. never thought to ask’  r ickr idgeway The business finance guide 05 WHAT STAGE IS THE BUSINESS AT AND WHAT ARE THE PLANS FOR GROWTH? The journey There are many instances where a What is the (new) business will be looking to take on debt capital structure and equity finance. Financing a business of the business? will often involve an injection of debt and equity. This table shows the financing cycle, which is not necessarily a journey TAKE ON DEBT OR that will end, and so involves continuous EQUITY OR BLEND review and reappraisal. DRAW UP BUSINESS PLAN ‘itisbettertotravel  Wellthantoarrive ’ buddha SEEK ADVICE ADVISERS/ NETWORKS BLEND ADVISERS/ NETWORKS SEEK ADVICE 06 The business finance guideALL IN ThE PREP ThE jOURNEY kNOW kNOW kNOW INvEsT FIND YOUR OPTIONs YOUR OPTIONs YOUR OPTIONs IN ADvICE sUPPORT EQUITY FINANCE DEbT FINANCE EARLY STAGE AND GROWING POST-REVENUE AND GROWING NO ESTABLISHED AND ExPANDING INTO NEW MARKETS Does the business need additional finance to achieve these plans? ESTABLISHED AND CHALLENGED WITH NO GROWTH PLANS YES DRAW UP PREPARE DETAILED FORECAST P+L, BUSINESS PLAN BALANCE SHEET, CASH FLOW • Overdraft? • Loan? • Bond? SEEK ADVICE • Asset-based finance? • Sale and leaseback? • Peer-to-peer lending? • Supply chain finance? • Mezzanine? CONSIDERATONS • How much? • Over what time period? • What exactly is capital for? DEBT • Is security available? • What are the taxation implications? • Can interest payments be met? • Are existing shareholders happy to give up some control? • Is the additional input of an equity partner needed? EQUITY • Equity crowdfunding? • Business angel? • Venture capital? • Private equity? • Corporate venturing? • Public listing? The business finance guide 07Know your options For any entrepreneur, wherever they are on their business journey, knowing what options there are along the way is key to making successful progress. And, crucially, this applies to the financing options. The idea that an exact route can be mapped out for a business is one road analogy too far. Running a business will throw up many new challenges: closed roads or roads that lead to dead ends, so being aware of the alternative routes is critical. You may need to take advice on directions but if you are forearmed with the knowledge that there are alternatives, the journey is far less daunting. This table shows the various options commonly available at different business stages. Availability will, of course, depend on the circumstances of a business. ‘ihave noticed  that even people Who claim everything is predestined,  look beo f re they cross the road’ stephenhawking 08 The business finance guideA AL LL L I IN N T Th hE E P PR RE EP P T Th hE E jjO OU UR RN NE EY Y k kN NO OW W k kN NO OW W k kN NO OW W I IN Nv vE Es sT T F FI IN ND D Y YO OU UR R O OP PT TI IO ON Ns s Y YO OU UR R O OP PT TI IO ON Ns s Y YO OU UR R O OP PT TI IO ON Ns s I IN N A AD Dv vI IC CE E s sU UP PP PO OR RT T E EQ QU UI IT TY Y F FI IN NA AN NC CE E D DE Eb bT T F FI IN NA AN NC CE E Pre-trading Pre-profit Profitable growing business Established and steadily growing Established stable business Launching new product/service/ brand Making acquisitions Expanding into new territories Investing in new facilities Looking to refinance In need of capital restructuring eu q ity if nance     debt f inance The business finance guide 09 sEED FINANCE ANGEL FINANCE EQUITY CROWDFUNDING vENTURE CAPITAL CORPORATE v ENTURE FINANCE PRIvATE EQUITY IPO/PUbLIC OFFERING s TART-UP LOAN Ov ERDRAFT LOAN/PEER-TO-PEER LENDING bOND Ass ET-bAsED FINANCE (INvOICE FINANCE AND Ass ET-bAsED LENDING) LEAsING AND hIRE PURChAsE Ex PORT FINANCE TRADE FINANCE MEzz ANINEALL IN ThE PREP ThE jOURNEY kNOW kNOW kNOW INvEsT FIND YOUR OPTIONs YOUR OPTIONs YOUR OPTIONs IN ADvICE sUPPORT EQUITY FINANCE DEbT FINANCE At an early stage, businesses will need a long- Founding shareholders will have put the initial term backer who can fund the business through equity into the business. Friends or family may to revenue and profit – this could be through have ‘invested’ in the early stage of a business’s business angels and/or venture capital. In the journey, then business angels may take an shorter term, equity growth investment can equity stake. Venture capital (VC) investors (also support an aggressive growth strategy. known as venture capitalists), corporate venture capitalists or private equity (PE) investors tend In simple terms, equity financing is the raising of to be the option for the growth phase. Financial capital through the sale of shares in a business. institutions or the wider public may invest in Equity can be sold to third-party investors with equity through a listing of the company’s shares. no existing stake in the business. Alternatively, The public may also acquire equity stakes through equity financing can be raised solely from existing equity crowdfunding platforms. It is not as simple shareholders, through a rights issue. as this in reality – business angels, for instance, invest at many stages of the business’s growth. As it progresses, a company’s shareholder register will be a mix of investors who have taken stakes at different stages of its journey. Unlike debt providers or lenders (see the debt Think about finance section), equity investors do not have rights to interest or to have their capital repaid the future by a certain date. Shareholders’ return is usually paid in dividends or realised in capital growth. Both are dependent on the business’s growth You need to consider several issues before selling in profitability and its ability to generate cash. a stake in your business in exchange for capital. Because of the risk to their returns, equity here are the main advantages to a business of investors will expect a higher return than debt different forms of equity finance. providers. Where a project requires a longer-term investment than conventional debt will offer, • Equity funding is committed to the business and equity will be the most suitable form of finance. its intended projects, even if plans change. There is also a hybrid of debt and equity • E quity investors take a risk acquiring shares. In finance – mezzanine – that is covered in the exchange they can see uplift in the value of their debt finance section. stake if the business performs well, as a result of the deployment of that additional capital. • I nvestors have aligned interest with the business Other considerations for businesses towards the pursuit of its growth and success. Its looking for equity investment. growth and profitability will increase the value of the business and therefore their shareholding. • Raising equity finance can be costly. It demands management time, which may be diverted from • A s well as taking a stake in the business, the right the day-to-day running of the business. angels, VC investors or any other equity investor can bring valuable resource to the business. Their • Potential investors will scrutinise past results skills, experience and contacts can help with the and forecasts of future performance, and will development of the business strategy. investigate background information, including that of the management team. • I f it is a private company, the business owner can sell their stake privately to a willing private buyer, • The owner’s share in the business will be or if the business is to be listed they can sell their diluted. And once the new shareholders invest, shares through the flotation. management will face varying degrees of influence when making major strategic decisions, of course • I nvestors are often prepared to provide follow-up depending on the nature of the shareholding and funding as the business grows. the stake acquired. • P ublic equity raising provides a liquid market, • Management time will need to be invested in which can be accessed if further fundraising is producing regular information for the investor to required for future growth plans. monitor. • Equity crowdfunding provides a company • T here can be legal and regulatory requirements to with wider access to capital providers among comply with when raising equity finance. customers and the public. • There are more disclosure and governance • T he crowdfunding process can be relatively quick. requirements if a company raises capital from public markets. • C rowdfunds are normally ‘fill or kill’ – if a proposition does not hit its target it receives no investment at all. • D ividend payments are not deductible for tax purposes. The business finance guide 11bUsINEss ANGELs for an agreed return, such as providing access to Business angels are individuals who make equity established marketing or distribution channels, investments in businesses with growth potential. or knowledge transfer. It is important that the They invest in businesses in the early stages of corporation’s aims are aligned with those of the development, or post-revenue established businesses business. looking for expansion capital. Angels back high-risk Find out more through the BVCA (British opportunities, with the potential for high returns. Venture Capital Association), bvca.co.uk, as well Some invest on their own, others through an angel as its dedicated website on venture capital – syndicate or club. However, the most significant venturecentral.co.uk. trend is for angels to invest in syndicates or groups, generally with a lead angel. At seed stage, lower amounts of funding may be available. Businesses in the growth stage may be able to attract higher hELPING hAND FOR INvEsTORs amounts from angel syndicates. Angels can offer FROM hMRC multiple rounds of finance and frequently co-invest When your business is planning for growth and with other sources of equity and co-investment you may be looking to take on equity, you may funds as further growth finance is required. wish to make potential investors aware of three When taking on angel investment, a business schemes from HM Revenue and Customs (HMRC). should look beyond the capital they put in. Most These are designed to encourage investment in can bring valuable first-hand experience of growing unlisted growth companies through a range of tax businesses, often early-stage businesses. Their skills reliefs against investment in new shares in those and experience will be shared with the business, companies. as well as their network of contacts. Most focus Enterprise Investment scheme (EIs) investments within a small geographic area, and so Businesses eligible to receive investment through have local knowledge and local networks. Angels the EIS must have: often make investment decisions quickly, without • fewer than 250 full-time equivalent employees; complex assessments. However, tracking down the and right angel can take time. • less than £15m of assets. Find out more through the UK Business Angels There are further requirements, which the Association, ukbusinessangelsassociation.org.uk. company must meet for a continuous period from the issue of the share. vENTURE CAPITALIsTs seed Enterprise Investment scheme (sEIs) Venture capitalists invest in businesses with the At the time of the new shares being issued, potential for high returns – those with products or companies eligible to receive investment through services with a unique selling point, or competitive the SEIS must: advantage. They invest in a portfolio where a • have fewer than 25 full-time equivalent significant number of businesses may fail, so those employees; that succeed have to compensate for those losses. • have less than £200,000 of assets; and They also want proven track records, and so rarely • n ot have had any EIS investment or investment invest at the start-up stage. Like angel investors, from a venture capital trust. venture capitalists bring a wealth of experience Companies can receive a maximum of £150,000 to the business. They are unlikely to get involved under an SEIS. in the day-to-day running of the business but will often help focus the business strategy. venture Capital Trust (vCT) scheme At the time the VCT invests in shares, an eligible Securing VC investment can be a complex, costly company must have: and time-consuming process. A detailed business • l ess than 250 full-time equivalent employees; plan is a must. And legal fees will be incurred and through the deal negotiation, regardless of whether • less than £15m of assets. investment is ultimately secured. There are further requirements, which the Corporate venture capital (CVC) is another growing company must meet for a continuous period from source of funding for small businesses. It describes the issue of the shares. a wide variety of equity investment undertaken by a corporation, or its investment entity, into a Companies can raise a maximum of £5m in any high-growth and high-potential, privately-held 12-month period from these three schemes. While business. CVC performs the same economic role they may be admitted to some growth markets that private venture capital plays – the identification such as AIM, they must not be listed on the Main and nurturing of the innovative businesses of Market of the London Stock Exchange or the ISDx the future. This formal and direct relationship is Main Board and must be engaged in a ‘qualifying usually three-fold: by making a financial investment trade’ as defined by HMRC. in return for an equity stake in the business; by For further information visit hmrc.gov.uk. offering debt finance to fund growth activities for an agreed return; by offering non-financial support 12 The business finance guideALL IN ThE PREP ThE jOURNEY kNOW kNOW kNOW INvEsT FIND YOUR OPTIONs YOUR OPTIONs YOUR OPTIONs IN ADvICE sUPPORT EQUITY FINANCE DEbT FINANCE PRIvATE EQUITY EQUITY CROWDFUNDING PE makes medium- to long-term investments The use of equity crowdfunding by companies in, or offers growth capital to, companies with looking to raise equity finance is becoming high-growth potential. PE investors would usually increasingly common. In effect it is a means to improve the profitability of the business through connect companies with potentially hundreds of operational improvements and aim to grow thousands of potential investors, some of whom revenue through investment in product lines or may also be current or future customers. It does new services, or expansion into new territories. this by matching companies with would-be They will also typically introduce corporate angels via an internet-based platform. disciplines and a management structure to Raising equity finance through crowdfunding the business, to give it a platform on which it platforms can be an alternative to seeking angel can grow further. The PE model of governance or VC finance through more traditional routes – consists of the combination of strategic, financial for start-up, early-stage and growth companies. and operational expertise. The provision of non- Before putting a pitch for equity investment on a financial support includes facilitating access to established marketing or distribution channels. crowdfunding platform, you would need to show that your business is investment-ready. As with PE investors would actively manage their investment through a period of five to seven attracting traditional angel or VC investment, you would need to produce a business plan and years on average. After this they would exit their investment, selling their shares, having seen the financial forecasts. A business might also include a video summarising the opportunity. value of the invested portfolio company grow. A PE firm may sell their stake to another PE firm The fees payable for raising equity finance on or a corporate trade buyer. Alternatively, it may the crowdfunding platform will typically be a publicly list the company. success fee and legal fees related to the issue. You may incur additional legal and advisory fees in the preparation of the pitch. Limited due Equitable questions for an equitable diligence is usually carried out by the platform outcome and the investor may have the option to ask for more information. Although the investment will Before seeking equity finance, consider these five be listed on the platform, investors will not be questions. advised to invest in a particular equity offering. 1. H ow much is required? Find out more on the UK Crowdfunding 2. W hat is it for? Association website, ukcfa.org.uk. 3. H ow long will the funds be needed for? 4. What other skills does the business need? 5. What level of control do existing shareholders want to retain? The answers can be incorporated in a comprehensive business plan, which should incorporate realistic financial projections, a detailed marketing plan and, crucially, what the investor can expect in return. Networking and making use of any suitable contacts is critical to finding appropriate potential investors. Many corporate finance advisers will have networks of contacts in the business angel, VC and PE communities. Engaging an adviser can help the process. Many private investors focus on specific industry sectors or geographical areas. The following associations may help you to track down investors, networks or networking opportunities: • the UK Business Angels Association; • the BVCA; and • t he European Private Equity and Venture Capital Association (EVCA). The business finance guide 13The british business bank is encouraging The London stock Exchange’s Main Market diversity and competition in equity investment provides companies with access to Europe’s markets for smaller UK businesses by committing deepest pool of capital as well as the key benefits capital to investment funds. It does this through of higher profile and liquidity. the following funds. There are three types of listing on the Main Enterprise Capital Funds are commercially- Market. First there is Premium or Standard Listing. focused funds that bring together private and The former has stricter requirements, such as a public money to make equity investments in high- 25% free float but both need a three-year trading growth businesses. The investment encourages record. Those ineligible for Premium or Standard venture capital funds to operate in a part of the Listing on the Main Market can access capital market where smaller businesses are not able to via the High Growth Segment, which requires a access the growth capital they need. 10% free float and gives eligible companies the opportunity to fund their growth while preparing The venture Capital Catalyst Fund invests in for an official listing in time. commercially viable venture capital funds that might otherwise fail to reach a satisfactory ‘first A listing on the Main Market offers companies: close’. • access to a robust, real-time share price; • access to deep pools of capital; The Uk Innovation Investment Fund (UKIIF) • b enchmarking through the FTSE UK Index supports the creation of viable investment funds Series; and targeting UK high growth technology-based businesses. • h igh profile through media coverage, investment research and announcements. The British Business Bank is also investing alongside business angels via the business Angel Find out more at londonstockexchange.com. Co-Investment Fund (Angel CoFund), which supports businesses with strong growth potential, and the Aspire Fund, which supports equity In addition, a public listing will often increase the profile finance investments in women-led businesses of the company with a wide range of stakeholders as across the UK. well as allow it to use its shares as an acquisition currency and to incentivise key employees through share option Further information on these and other British plans. Business Bank solutions can be found at british-business-bank.co.uk. If your business has a trading track record and further growth plans, it would be in a position to raise equity capital through an IPO (flotation). A proportion of PUbLIC LIsTING its shares would then be listed on a stock exchange The next stage of growth for a business may involve and traded in the secondary market. An IPO is the applying for a public listing of its shares. sale of shares to institutional and larger investors and, The UK markets are the London Stock Exchange Main sometimes, the general public. Market, the Alternative Investment Market (AIM) and The run-up to a company seeking a listing can be the ICAP Securities and Derivatives Exchange (ISDx). broadly divided into two phases – pre-IPO preparation The listing of shares would be a major milestone in a and the IPO process itself. Pre-IPO preparation includes company’s journey. The process is time-consuming, the critical review of a company’s business plan and but it is an opportunity for a company to critically growth prospects, assessing the management team, examine itself. The decision to launch an IPO (initial appointing an appropriate board, tightening internal public offering) or flotation must be based on a realistic controls, improving operational efficiency and resolving assessment of the business, its management, where it issues that may adversely affect the listing early on. is in the stage of its development and its prospects. An application for listing requires the involvement of a range of advisers. A listing may be used to raise money to: • f inance growth opportunities; • finance acquisitions; • rebalance the balance sheet; • broaden the company’s shareholder base; or • p rovide liquidity at listing or when it comes to trading shares in the company. 14 The business finance guideALL IN ThE PREP ThE jOURNEY kNOW kNOW kNOW INvEsT FIND YOUR OPTIONs YOUR OPTIONs YOUR OPTIONs IN ADvICE sUPPORT EQUITY FINANCE DEbT FINANCE When considering a public listing, a company should bear the following in mind. AIM is London Stock Exchange’s market for smaller growing companies. AIM has less • The management team will need to be able to prescriptive eligibility and ongoing requirements explain the business, its strategy and prospects clearly than the Main Market and enables early stage to investors, and demonstrate knowledge of the businesses, including those with angel and market as well as its challenges. venture capital backing, to benefit from a flotation • A comprehensive business plan will be needed, on a public market. which will set out the products, markets, competitive environment, strategy, capabilities and growth objectives. • T he company’s financial performance should IsDx is a London-based stock exchange providing preferably be one of consistent top- and bottom-line UK and international companies with access to growth, with a sound balance sheet post-IPO. European capital through a range of fully-listed and growth markets. • A financial model should demonstrate clearly the company’s growth prospects and associated risks The IsDx Growth Market is a source of equity to give investors confidence. finance for small- and mid-cap companies coming to a public market for the first time, as well as for • I f the company is raising new capital, the use of existing issuers to raise further funds. Its admission proceeds should be clearly articulated and in line process and ongoing regulation are designed to with strategy. meet the needs of smaller companies. • P roper financial controls need to be in place. The IsDx Main board is an EU Regulated Market • A publicly-listed company will need to clearly serving the needs of companies and other issuers articulate its corporate governance arrangements seeking cost-effective admission to trading to demonstrate it has a board capable of running a through the UKLA’s Official List or other European public company. Competent Authority. Listing shares will make certain ongoing demands on a company. Financial statements must be produced and corporate governance codes adopted. Quoted companies are subject to shareholder monitoring and there is always the possibility of a change of control. Generally, the actions of the company will come under far greater scrutiny, as one would expect when its shareholder base is spread wider and the public can potentially own shares in it. Investor relations (IR) activity is the term used to describe the ongoing communication a company would have to undertake with the investment community. It is a mix of regulatory and voluntary activities and is essentially part of the public life that sees listed companies interact and raise their profile with existing and potential shareholders, analysts and journalists, customers and suppliers, and disclose information on new developments. IR activity requires a planned and strategic approach. Once listed, there is then a ready market for the company to tap for further equity capital, through a further issue or placing, should it need further finance on its journey. The business finance guide 15Debt can be used for longer-term investment and/or to fund working capital. For the former, a loan, leasing arrangement or bond can be more appropriate and for the latter, some form of overdraft or asset-based finance (ABF) is likely to be more appropriate. At any stage of its development a business is likely to need a mix of the different available forms of debt. All have their advantages for different aspects of a business’s growth plans. Debt, in its simplest terms, is an arrangement between borrower and lender. A capital sum is borrowed from the lender on the condition that the amount borrowed is paid back in full either at a later date (a bullet repayment), multiple dates, or over a period of time. Interest is accrued on the debt and paid independently of the capital repayment schedule. Unlike equity, debt does not involve relinquishing any share in ownership or control of a business. However, a lender is far less likely to help a business hone its strategy than a business angel or VC investor. There are three broad categories of debt: • l oans and overdrafts; ‘onao j urney  • finance secured on assets; and • fixed-income debt securities. of ahundred Loans from banks or other lending institutions miles ,ninety  primarily take the form of overdrafts or fixed-term isbuthalf Way ’ loans. There are also peer-to-peer (P2P) business loans and start-up loans. c hineseproverb Finance secured on assets includes debt instruments such as asset finance (leasing or hire purchase) and ABF (invoice discounting (ID), factoring, asset-based Know your options: lending (ABL) and supply chain finance). These are provided by most banks and specialist asset finance and ABF companies including some online platforms. Fixed-income debt securities take the form of bonds Debt or mini-bonds. There are also community development finance institutions which provide micro-finance loans to start-ups and individuals as well as established n fi ance enterprises. For further information visit findingfinance.org.uk. Just as short-term capital should not be What is most appropriate depends on the purpose of the capital being borrowed, the credit record used to fund long-term plans, so the of the borrower, the amount, the repayment term reverse is true. On the financing journey and the interest that is being repaid. You can see it is highly likely that you will need both, what is available from the different providers at and the task is to get the mix right. Debt betterbusinessfinance.co.uk. will undoubtedly be involved in growing a business. Debt comes in many different OvERDRAFTs AND bANk LOANs Overdrafts are often what a business uses to help forms, each of which can be more or less day-to-day short-term requirements and as it grows appropriate to the type of business, the incrementally. Loans, leasing or hire purchase stage it is at in its development or the plans agreements are in most cases better suited to larger it has to grow. And often an established longer-term purchases, such as investment in plant and machinery, computers or transport. company will use a blend of different debt products from a range of providers. 16 The business finance guideALL IN ThE PREP ThE jOURNEY kNOW kNOW kNOW INvEsT FIND YOUR OPTIONs YOUR OPTIONs YOUR OPTIONs IN ADvICE sUPPORT EQUITY FINANCE DEbT FINANCE While it is almost always the case that an Ass ET FINANCE entrepreneur will benefit from the knowledge, This form of finance is used to obtain a wide insight and network of advisers who deal day- range of items for your business – everything from to-day with banks and other finance providers, telephones to vehicles – and could be the perfect businesses themselves should cultivate relationships solution if you need new equipment which would with banks and other finance providers, who may otherwise be unaffordable. help meet future financing requirements rather Because the loans are secured wholly or largely on than just the immediate needs. the asset being financed, the need for additional To obtain a loan or overdraft, management must collateral is much reduced and there is more security prove to the lender that the business will generate for the user because the loan cannot be recalled the income and cash to both repay the facility during the life of the agreement. Asset finance also according to the terms of the loan, and service offers ultimate flexibility because businesses have the loan by meeting interest payments. Market the option to replace or update equipment at the conditions and regulatory requirements, such as end of the lease period. those that mandate responsible lending to viable There are two main types of lease. businesses, may also impact the ease with which a business can access a loan or overdraft. • A finance lease transfers all the rights and obligations of ownership to the lessee and can be It is likely that the business will need to provide for any length of time, but at the end of the lease security for any money borrowed against other the lessee will have paid at least 90% of the fair personal or business assets. value, or market value, of the asset through an agreed schedule of repayments. The business will PEER-TO-PEER LENDING be responsible for maintaining and insuring the One major innovation going on in the supply of leased asset and it must be shown on the balance debt to businesses is P2P business lending. This is sheet as a capital item. Capital allowances can be where internet-based platforms are used to match claimed for leases over seven years long, and in lenders with borrowers. The UK is at the forefront some cases five. of innovation in this growing form of alternative • A n operating lease, or contract hire, is online finance. appropriate if the business will not need the P2P business lending is a direct alternative to a bank equipment for its entire working life. The leasing loan. It can often be more quickly arranged and it company will take it back at the end of the lease will also allow partners, customers and friends and and is responsible for maintenance. family who invest through the platform to share in Asset finance is available directly from specialist the returns of the business. The minimum loan size providers or indirectly through equipment suppliers is very small, which encourages a wide range of or finance brokers. lenders to participate, and the maximum loan size of P2P business lending is growing. Most of the firms providing direct asset finance in the UK are members of the Finance & Leasing Platforms have criteria on which businesses can Association (FLA) and all their agreements would borrow. They normally require financial accounts be subject to the stringent standards set out in the and a trading track record. Credit checks are carried FLA’s Business Code of Conduct. Find out more at out and lenders often bid for loans by offering an fla.org.uk/asset. interest rate at which they would lend. Borrowers then accept loan offers at the lowest interest rate. Ass ET-bAsED FINANCE The Financial Conduct Authority (FCA) regulates ABF is a collective term used to describe invoice P2P lending. P2P loans are to be eligible to be held finance (IF) and ABL. IF includes factoring and ID, in Individual Savings Accounts (ISAs) following which will both involve funding provided against consultation on the implementation details. outstanding debts. Further information can be found on the Peer-to- IF can be used to support cash flow and release Peer Finance Association website, p2pfa.info. funding for investment by generating money against unpaid invoices. IF is available to businesses that sell products or services on credit to other businesses. The funding provided tracks the growth in the business – increasing turnover unlocks more The business finance guide 17• F actoring involves provision of finance via the purchase of invoices owed to a client by WEIGhING IT UP a financier, which can be either a bank or a Advantages of different forms of debt specialist provider. The factor will advance the majority of the value of the invoices on • The terms can be tailored to suit the precise notification with the balance remitted when needs of the business. the invoices are paid by the client. The factor • Repayments are straightforward, so can be simply works on behalf of the business – managing planned for and the cash-flow impact budgeted. the sales ledger and collecting money owed by • Generally, a loan costs less in interest than an customers. overdraft over the same term. • O verdrafts are often quicker to arrange than • I n effect, factoring combines the provision a loan. of finance with a service element, helping • Interest is only paid on the amount of money the client with credit control, which can be used in an overdraft and the facility is only used particularly valuable for smaller businesses. if required – so they provide flexibility. Export factoring is also available which can • There is tax relief on interest payments. support businesses selling internationally. • Leasing gives a business access to the • F actoring can be provided on a recourse or equipment they need without incurring the cash non-recourse basis. The latter incorporates disadvantage of an outright purchase. protection for the client business against bad • L easing is a flexible form of finance for all types debts. of assets because the loans are secured wholly or largely on the asset being financed. • I D is similar to factoring, however, the client • P 2P business lending can be more quickly business retains control over the administration arranged than a bank loan. of the sales ledger. An invoice discounter would • T he minimum P2P business loan size is very small, want to satisfy themselves as to the quality which encourages a wide range of lenders to of a client business’s sales ledger systems and participate. procedures. ID can also be used to support exports. Other considerations • s upply chain finance (also, reverse factoring) • Lenders will always take into account a potential is where smaller suppliers can take advantage borrower’s personal or business credit record of the credit strength of their larger customers. when deciding whether or how much to lend. Supply chain finance requires the involvement • L oans are less flexible than overdrafts – charges of the supplier and their customer and up to could be payable on funds not used and there 100% of the value of invoices can be funded may be penalties for early repayment. once they have been approved by the customer, • B eing locked into a rigid repayment schedule often at more competitive rates than would can prove problematic if cash flow is seasonal otherwise be available. Supply chain finance or erratic. can be accessed directly through some larger • O verdrafts are repayable on demand and so can organisations and also through a growing be reduced or called in if the finance provider number of alternative providers. thinks that the business may be in difficulty. • There are likely to be penalty charges for • A s with any type of finance, it is important exceeding an overdraft limit. to get advice on the legal, financial and • Security against the loan will almost always tax implications before entering into any be required, as will personal guarantees from agreement. directors or owners. ABL is a more sophisticated product and involves • If a business is growing, the amount of asset- finance being provided against a pool of wider based finance will track the growth. assets. These typically include debt, stock, • Care should be taken when setting the property, plant, machinery and also potentially repayment terms for a lease to ensure it is at least intangibles such as intellectual property or as long as the agreement. forward income streams. • I nterest rates in P2P business lending are often set by the market on the platform and reflect the Whereas IF would normally be provided on the level of supply of business loans. basis of a purchase of the debts outstanding to a client, ABL would normally involve taking a charge over assets. 18 The business finance guideALL IN ThE PREP ThE jOURNEY kNOW kNOW kNOW INvEsT FIND YOUR OPTIONs YOUR OPTIONs YOUR OPTIONs IN ADvICE sUPPORT EQUITY FINANCE DEbT FINANCE bONDs AND MINI-bONDs Mezzanine finance is used in product Bonds – retail bonds or corporate bonds – are developments, penetration of new markets, a way for companies to borrow money from infrastructure investments or strategic merger and investors in return for regular interest payments. acquisition plans. As it can be structured with low They have a predetermined ‘maturity’ date when cash coupons it can reduce the cash burden, so the bond is redeemed and investors are repaid is particularly suited for high-growth companies their original investment. Traditionally, corporate where senior debt may be less appropriate. bonds and retail bonds would be traded on the stock market and really would only be available to ExPORT FINANCE larger companies. When businesses export, they need to be sure they can afford to produce the goods and that Mini-bonds are similar but, crucially, they are they will be paid. Export finance helps mitigate not traded on a stock market and can only be risks such as default or delayed payment. promoted to certain types of investor. A lender is tied in until they mature. Manufacturers who import raw materials face other challenges. Overseas suppliers want to be paid for materials before shipping, so the need arises for finance to fill the gap between The british business bank is enabling more importing the raw materials and the point at effective and efficient debt finance markets for which the finished product is sold. That’s where smaller UK businesses by providing guarantees on export finance comes in. loans and loan portfolios, and by direct investment to support lending. Export finance covers a wide range of tools, all used by banks to manage the capital required to The Enterprise Finance Guarantee programme allow international trade to take place as easily provides loan guarantees, encouraging lending and securely as possible. Traditional tools are institutions, including banks, to lend to viable as follows. smaller businesses that would otherwise be declined for lacking adequate security • bonds and guarantees – if the seller fails to deliver the goods or services as described in Wholesale interventions (pilot) will provide the contract, the buyer can ‘call’ the bond guarantees on loan portfolios, helping lenders or guarantee and thereby receive financial to unlock more lending to smaller businesses by compensation from the seller’s bank. The enabling them to use their capital more efficiently, types of bonds and guarantees include tender freeing up capacity. guarantee, advance payment guarantee, Investment Programmes make commercial retention money guarantee, performance investments which stimulate at least the same guarantee and customs bond. amount of investment from the private sector, • Letters of credit – these are issued by a bank, encouraging new lenders into the market and guaranteeing that the buyer’s payment will be the growth of smaller alternative lenders, such received on time and for the correct amount, as P2P lenders. assuming the goods (or services) have been The British Business Bank also has oversight of the supplied as agreed. If the buyer is unable to pay funding provided to the start-Up Loans Company any or the entire agreed amount, the bank will to administer the programme. Start-up loans help cover the shortfall. The bank also acts on behalf people start their own business, filling the gap of the buyer – the holder of the letter of credit where lenders are less willing to finance new start- – by ensuring that the supplier will not be paid ups. They combine a low-cost loan with free first until the goods have been shipped. class mentoring and support, both pre-start-up and See also gov.uk/government/organisations/ once the business is up and running. uk-export-finance. Further information can be found at british-business-bank.co.uk. TRADE FINANCE Funding that assists businesses in purchasing goods, whether from international or domestic sellers, is termed trade finance. It is often MEzz ANINE FINANCE transactional, with finance only being provided This is a form of debt which shares the for specific shipments of goods and for specific characteristics of equity but ranks below senior periods of time. Here the asset being funded debt. Mezzanine is a flexible product that can against is the goods themselves (as opposed be tailored to the risk and repayment profile of to invoices in IF) and until repaid by the client, the business or transaction. It is typically used to the goods belong to the finance provider. The finance the expansion of existing companies by process is supported by letters of credit, bills of VC investors. Basically debt capital, it gives the exchange and bank guarantees. lender the rights to convert to an ownership or equity interest in the company if the loan is not paid back in time and in full. The business finance guide 19Invest in advice Corporate finance advice along the mentorsme.co.uk is an internet-based mentoring business journey is critical. Remember gateway linking UK businesses who are looking for that it is advice and that good a mentor with over 27,000 mentors. The British independent advice is invaluable. Bankers Association manages the portal, working Advisers have experience of many with its mentoring partners and more than 1,000 businesses, whereas entrepreneurs volunteer bank mentors offering expertise in financial may just have experience of the one support. All mentors can be accessed through the website. they are in. GOvERNMENT sOURCEs OF INFORMATION bUsINEss COAChING greatbusiness.gov.uk links to key sources of Coaching can help a business produce its business advice for businesses looking to grow, export and strategy and financial plan. Presentation training is recruit. extremely useful in helping management present gov.uk/business provides advice on starting, the company and their plans in the best possible running, growing and financing a business, light. It prepares them for the rigorous scrutiny with an accompanying helpline available on: of those plans by potential lenders or investors. At this stage an adviser would be comfortable telephone: 0300 456 3565 introducing the company to a network of textphone: +44 (0)20 8742 8620. investors or lenders. Many independent advisory gov.uk/business-finance-support-finder firms offer mentoring services. provides details on publicly supported finance, advice schemes, grants and loans. ICAEW’s business Advice service offers help ukti.gov.uk offers export advice to businesses to businesses in England, Scotland and Wales to looking to expand overseas. overcome the challenges they face, including: • how to grow a business; bUsINEss MENTORING • securing loans, capital and finance; Investment readiness may be the goal, but • keeping staff and creating new jobs; before a robust business plan can be prepared, • meeting tax and regulatory requirements; the business may need access to knowledge • export planning; and information so it can make the right finance • planning for long-term sustainable growth; choices. • debt management; and Business mentors have both practical experience • legal issues. and a network of contacts to help businesses Businesses are offered a free advice session make the right choices. A mentor acts as with an ICAEW Chartered Accountant. Visit an independent sounding board for ideas, businessadviceservice.com to find the nearest office provides guidance and support from a different participating in the scheme. perspective, and directs the business to the right areas for appropriate help. 20 The business finance guideALL IN ThE PREP ThE jOURNEY kNOW kNOW kNOW INvEsT FIND YOUR OPTIONs YOUR OPTIONs YOUR OPTIONs IN ADvICE sUPPORT EQUITY FINANCE DEbT FINANCE GROWTh vOUChERs PROGRAMME GrowthAccelerator is a unique service led by some This government programme helps small of the country’s most successful growth specialists to businesses get strategic business advice on: provide business coaching. Coaching is provided by a private-sector consortium led by Grant Thornton • raising finance and cash flow; • recruiting and developing staff; and comprising Winning Pitch, Oxford Innovation and Pera and is backed by government. • improving leadership and management skills; • marketing, attracting and keeping customers; Coaching is not prescriptive – it is tailored to meet and the specific needs of individual businesses. Business • making the most of digital technology. experts help management teams identify barriers Businesses are randomly allocated with a Growth to growth, devise and agree a strategy to overcome those barriers and then work with them to execute Voucher offering a subsidy for up to £2,000 to help cover 50% of the cost of purchasing the plan. strategic business advice. The service has four main areas where it provides help to SMEs: There is more information on this scheme at gov.uk/apply-growth-vouchers. • commercialising innovation; • business development; • access to finance; and • leadership and management. In addition to business coaching, GrowthAccelerator fast-tracks clients to trusted providers of business advice. It introduces businesses to networks of investors and connects them with similar businesses on the service. English SMEs with no more than 250 employees and turnover of up to £40m can apply for the programme. For further information visit growthaccelerator.com. ‘Wedon’t receive Wisdom; Wemust discover it o f r ourselves after a o j urney that no one can take o f r us or spare us’ marcelproust The business finance guide 21Find support Asset based Finance Association (AbFA) ‘goodcompanyin  The ABFA represents the factoring, ID and ABL ao j urneymakes  industry in the UK and the Republic of Ireland. the Wayseemshorter ’ abfa.org.uk izaakWalton british bankers Association (bbA) The BBA is the UK’s leading association for the banking sector, representing the interests of more than 240 member organisations of all shapes and sizes, including retail banks, wholesale institutions, challenger banks and private banks, with a worldwide presence in 180 countries. better business Finance is managed by the BBA in collaboration with its business and finance partners. It provides impartial information and support to business and entrepreneurs looking to develop and grow, whether the business is seeking finance, starting out or exporting abroad. bba.org.uk betterbusinessfinance.co.uk british Chambers of Commerce (bCC) The BCC is an independent business network, with 53 accredited chambers across the UK, representing thousands of businesses of all sizes and sectors, which employ more than five million staff. britishchambers.org.uk bvCA The BVCA is the industry body and public policy advocate for the private equity and venture capital industry in the UK. bvca.co.uk CbI The CBI is the UK’s leading business lobbying organisation, providing a voice for employers at a national and international level. cbi.org.uk EEF EEF is the manufacturers’ organisation, helping thousands of companies to evolve and compete in a fast-changing world. eef.org.uk 22 The business finance guideALL IN ThE PREP ThE jOURNEY kNOW kNOW kNOW INvEsT FIND YOUR OPTIONs YOUR OPTIONs YOUR OPTIONs IN ADvICE sUPPORT EQUITY FINANCE DEbT FINANCE Federation of small businesses (Fsb) Institute of Directors (IoD) The FSB is the UK’s largest campaigning pressure The IoD has been supporting businesses and the group, promoting and protecting the interests of people who run them since 1903. As the UK’s the self-employed and owners of small firms. longest-running organisation for professional leaders, it is dedicated to supporting its members, fsb.org.uk encouraging entrepreneurial activity and promoting responsible business practice for the Finance & Leasing Association (FLA) benefit of the business community and society as The FLA is the leading trade association for the a whole. asset, consumer and motor finance sectors in the iod.com UK, and the largest organisation of its kind in Europe. Its members include banks, subsidiaries of banks and building societies, finance arms of London stock Exchange leading retail manufacturing companies and a The London Stock Exchange Group is the largest range of independent firms. stock exchange in Europe and the fourth largest in the world. It operates a range of equity and fla.org.uk bond markets including AIM, the Main Market and Order Book for Retail Bonds (ORB). It also Forum of Private business operates ELITE, a business support and education The forum is a not-for-profit membership programme for high-growth private companies. organisation, which offers a one-stop-shop londonstockexchange.com business support service, focused on the growth and profitability of small businesses. Peer-to-Peer Finance Association (P2PFA) fpb.org The P2PFA is the industry association representing debt-based alternative finance providers operating GrowthAccelerator through electronic platforms. GrowthAccelerator is a unique service led by p2pfa.info some of the country’s most successful growth specialists and backed by government, where you’ll find new connections, new routes to Quoted Companies Alliance (QCA) investment and the new ideas and strategy you’ll The QCA is the independent membership need for your business to achieve its full potential. organisation representing the interests of small- to medium-sized quoted companies. growthaccelerator.com theqca.com Institute of Credit Management (ICM) The ICM is Europe’s largest credit management Uk business Angels Association organisation, and the second largest globally. The UK Business Angels Association is the national The trusted leader in expertise for all credit trade association representing angel and early- matters, it represents the profession across trade, stage investment in the UK. consumer and export credit, and all credit-related ukbusinessangelsassociation.org.uk services. Formed over 70 years ago, it is the only such organisation accredited by Ofqual and it Uk Crowdfunding Association (UkCFA) offers a comprehensive range of services and The UKCFA is the largest organisation bespoke solutions for the credit professional as representing 14 equity crowdfunding businesses well as services and advice for the wider business in the UK to the public and policymakers, and community, including the acclaimed ICM/BIS which has published its own code of practice. Managing Cashflow Guides. ukcfa.org.uk icm.org.uk The business finance guide 23

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