CHAPTER SEVEN

FINANCING THE NEW VENTURE

 What is business financing?

 What are alternative sources of finance?
 Which financing strategy you think might
optimize benefits of entrepreneur?
 What if you had a big plan but not capital to
invest & implement ?
 What is Finance?
• Finance is a term describing the study and system of
money, investments, and other financial instruments.
• Finance can also be defined as the science of money
management.
• Finance considers the relationship of money to time a
nd risk.
• The finance function allocates resources,including the 
acquiring, investing, and managing of resources.
Financing
• The process or means of acquiring capital necessary to conduct a 
business activity. 
• Two of the most common forms of financing are,
– debt financing and equity financing. 
• In debt financing, one borrows money, usually from an
institution, with the promise to return the money with interest at
some point in the future. 
– This provides capital to the borrower and a profit to the lender. 
• In equity financing, a company sells portions of ownership to those
 who are interested. 
– Unlike debt financing, equity financing usually raises capital 
without incurring liabilities, but the risk exists
that the company will not raise enough. 
What is a fund?
• A fund pools together the money from many individuals
and then the fund manager uses it to invest in a broad
range of assets. 
• Their aim is to help you grow your money and if
required, provide you with a regular income. 
• The fund manager will invest in different asset types
such as cash, bonds, equities and property.
• A mutual fund is an investment vehicle made up of a
pool of money collected from many investors for the
purpose of investing in securities such as;
– stocks, bonds, money market instruments and other assets.
• Budgeting: is the process of creating a plan to spend your
money. This spending plan is called a budget.
– Creating this spending plan allows you to determine in advance
whether you will have enough money to do the things you need to
do or would like to do.
– Budgeting is simply balancing your expenses with your income.
• Budget: is a sum of money allocated for a particular purpose.
– a summary of intended expenditures along with proposals for how
to meet them.
• A budget is essentially a guideline to follow with regards to
spending.
– It breaks down expenses into categories (i.e. rent, electric bills,
etc..) for a certain time period (usually weekly, monthly, or yearly). 
• Financial budget preparation includes a detailed
budget balance sheet, cash flow budget, the sources of
incomes and expenses of the business, etc. 
Financial Management
• Financial Management means planning, organizing, directing and
controlling the financial activities such as procurement and utilization of
funds of the enterprise.
– It means applying general management principles to financial resources of the
enterprise.
• Scope/Elements;
– Investment decisions includes investment in fixed assets (called as capital
budgeting).
– Investment in current assets are also a part of investment decisions called as
working capital decisions.
• Financial decisions - They relate to the raising of finance from various
resources which will depend upon decision on type of source, period of
financing, cost of financing and the returns thereby.
• Dividend decision - The finance manager has to take decision with regards
to the net profit distribution. Net profits are generally divided into two:
– Dividend for shareholders- Dividend and the rate of it has to be decided.
– Retained profits- Amount of retained profits has to be finalized which will depend
upon expansion and diversification plans of the enterprise.
Functions in Finance:
• How you finance your business can affect your ability to
employ staff, purchase goods, acquire licenses, expand and
develop.
• Finance is the process of creating, moving and using money,
enabling the flow of money through a company.
• The role of finance in business is also to make sure there are
enough funds to operate and that you're spending and
investing wisely.
• Money is created by the sales force when they sell the goods
or services the company produces; it then flows into
production where it is spent to manufacture more products to
sell.
• What remains is used to pay salaries and fund the
administrative expenses of the company.
 Sources Of Finance: Debt Vs. Equity
Finance
• Two of the main types of finance available include:
o Debt finance - money provided by an external lender.

• Debt financing: takes the form of loans that must be repaid over

time, usually with interest. refers to funds borrowed by a business.
• With a promise to repay principal and interest on the debt.
o Equity finance - money sourced from within the business; own
source; investors.
• It is the process of raising capital through the sale of shares in an
enterprise. Equity financing essentially refers to the sale of an
ownership interest to raise funds for business purposes.
Investment decisions:

♠ Working capital:

– for operational costs/expenses

♠ Over-head investment:

– on fixed asset
Financial Requirements
• Funding methods:
 Permanent Capital:- Equity Capital
– Comes from the form of equity investment in
shares, or personal loans.
– Investment in equity is rewarded by dividends from
profits.
 Working Capital:- Short-Term Finance
Sources of Finance
» Personal Investment by Owner
» Equity
» Debt
Types and Sources of Financing for Start-up Businesses

• Financing is needed to start a business and ramp it up to

profitability.
• The financial needs of a business will vary according to
the type and size of the business.
– For example, processing businesses are usually capital
intensive, requiring large amounts of capital.
– Retail businesses usually require less capital.
• Debt and equity are the two major sources of financing.
• Government grants to finance certain aspects of a
business may be an option.
 Equity Capital
• Represents the personal investment of the owner(s) in the
business.
• Is called risk capital because investors assume the risk of losing
their money if the business fails.
• Does not have to be repaid with interest like a loan does.
• The ownership stake resulting from an equity investment allows
the investor to share in the company’s profits.
• Companies may establish different classes of stock to control
voting rights among shareholders.
• Preferred stockholders receive a predetermined dividend before
common stockholders receive a dividend.
 Sources of Equity Financing

» Personal savings
» Friends and family members
» Angels
» Partners
» Corporations
» Venture capital companies
» Public stock sale
 Personal Savings
• The first place an entrepreneur should look for money.
• The most common source of equity capital for starting a
business.

Friends and Family Members

• After emptying her own pockets, an entrepreneur should
turn to those most likely to invest in the business –
friends and family members.
 Angels

• Angels - private investors who back emerging

entrepreneurial companies with their own money.
• Angel investors are individuals and businesses that are
interested in helping small businesses survive and grow.
• An excellent source of “patient money” for investors
needing relatively small amounts of capital.
• Angels almost always invest their money locally
 Corporate Venture Capital

• Private investors who provide venture capital to promising

business ventures.
– to startup ventures or supports small companies that wish to
expand but do not have access to public funding.
• Venture capitalists are willing to invest in such companies because
they can earn a massive return on their investments if these
companies are a success.
• Often they also provide management and industry expertise and
business connections with other firms and venture capitalists.

Going Public
• Initial public offering (IPO) - when a company raises capital by
selling shares of its stock to the public for the first time.
 » Advantages of “Going Public”
• Ability to raise large amounts of capital
• Improved corporate image
• Improved access to future financing
• Attracting and retaining key employees
• Using stock for acquisitions
• Listing on a stock exchange
» Disadvantages of “Going Public”
• Dilution of founder’s ownership
• Loss of control
• Loss of privacy
• Reporting to the SEC
• Filing expenses
• Accountability to shareholders
• Pressure for short-term performance
• Timing
 Debt Financing
• Involves borrowing funds from creditors with the
stipulation of repaying the borrowed funds plus interest
at a specified future time.
– For the creditors the reward for providing the debt
financing is the interest on the amount lent to the
borrower.
• Debt financing may be secured or unsecured.
• Debt financing may be short term or long term in their
repayment schedules.
• Can be just as difficult to secure as equity financing
 Sources of Debt Capital
– Commercial banks
– Asset-based lenders
– Trade credit
– Equipment suppliers
– Commercial finance companies
– Saving and loan associations
– Insurance companies
– Credit unions
– Bonds
 CHAPTER EIGHT
MANAGING GROWTRH AND
TRANSITION

• What is business growth and its indicators?

• How to grow the business?

• What and why growth management?

• Growth is incremental; continuous process

• An enterprise may be considered growing when

there is a permanent increase in its
– sales turnover,

– assets, and

– volume of output, etc.

Preparing For the Launch of the Venture

• The process of launching a new venture can be

divided into three key stages as:
Discovery;
Evaluation; and

Implementation

• These can be further sub-divided into seven steps as

shown below:
DISCOVERY
Step 1. Discovering your entrepreneurial potential
• to know more about your personal resources and
attributes through some self-evaluation.
Step 2. Identifying a problem and potential solution
• a new venture has to solve a problem and meet a genuine
need.
EVALUATION
• Evaluate if the idea in the first stage is worthy
Step 3. Evaluating the idea as a business opportunity
• find out information about the market need.
Step 4. Investigating and gathering the resources
• How will the product/service get to market?
• How will it make money?
• What resources are required?
EXPLOITATION (making it more useful) -IMPLEMENTATION
Step 5. Forming the enterprise to create value
• set up a business entity and protect any intellectual
property.
• Get ready to launch the venture in a way that minimizes
risk and maximizes returns
Step 6. Implementing the entrepreneurial strategy
• activate the marketing, operating, and financial
plans.
Step 7. Planning the future – look ahead and
visualize where you want to go
 Rapid Growth and Management Controls
• Usually, rapid growth is seen as a positive sign of success.
• Problems of rapid growth include
– It can cover up weak management, poor planning, or waste
resources.
– It dilutes effective leadership
– It causes the venture to stray from its goals and objectives
– It leads to communication barriers between departments and
individuals.
– Training and employee development are given little attention
– It can lead to stress and burnout.
– Delegation is avoided and control is maintained by only the
founders, creating bottlenecks in management decision
making.
– Quality control is not maintained.
 Managing Early Growth of the New Venture

• Some of the important guidelines to cultural change during growth

involve the following:
– Communicate all matters to key employees.
– Be a good listener.
– Be willing to delegate responsibility.
– Provide continuous training of key employees.
– Emphasize results to key managers with incentives built in to encourage
them to train and delegate within their roles.
– Maintain a focus by establishing a mission with goals and using consensus in
management decision making.
– Establish a “we” sprit-not a “me” sprit-in meetings and memoranda to
employees.
– Record Keeping
– Recruiting and Hiring New Employees
– Motivating and Leading the Team
– Financial Control
– Marketing and Sales Controls
 Need for Growth
• Survival

• Economies of Scale
• Expansion of Market

• Technology

• Prestige and Power

• Self-Sufficiency
 Types of Growth Strategies

• Strategy means a deliberate and well-planned course of

action designed to achieve specific objectives.
• The main strategies for growth are as follows:

1. Expansion
2. Diversification
3. Mergers
4. Sub-contracting
1) Expansion
• Expansion and diversification are forms of internal
growth.
 Expansion may take place in the following forms:

a) Market Penetration
b) Product Development
c) Market Development
Diversification

 Entering new business in terms of either the market

or the technology or both.

 It is a strategy for growth by adding new products or

services to the existing ones.

 Requires a company to acquire new skills, new

techniques and new facilities
 Types of diversification

a) Horizontal integration

b) Vertical integration

c) Concentric and

d) Conglomerate diversification
a) Horizontal Integration

• When a company expands its business into different products that

are similar to current lines.

• E.g. macaroni and pasta

b) Vertical Integration
 
• new products or services are added which are
complementary to the existing product or service
line.

• New products serve the firm's own needs by either

– supplying inputs, or
– serve as a customer for its output.

 Backward Integration: It implies moving towards

the production of source of raw materials.
C. Concentric Diversification

• When a firm enters into some business, which is related

with its present business in terms of technology,
marketing or both

• In technology-related concentric diversification, new

product or service is provided with the help of
existing or similar technology.

• In marketing related concentric diversification, the new

product or service is sold through the existing
distribution system.
D. Conglomerate Diversification
• a firm enters into business, which is unrelated to its
existing business both in terms of technology and
marketing.

• Reasons to adopt:

i) To achieve a growth rate higher than what can be

realized through expansion.

ii) To make better use of financial resources with retained

profits exceeding immediate investment needs.
iii) To use potential opportunities for profitable
investment

iv) To achieve distinctive competitive advantage and

greater stability

v) To spread the risk, and

vi) To improve the price earnings ratio and market price of

the company's shares.

• P/E ratio = Market Value per Share

Earnings per Share (EPS)
 External Growth Strategy
I) Strategic alliance: Joint Ventures /equity-base

• Created when two or more independent firms together establish

a new enterprise, in which profits and risks are shared

• Contribute to the total equity capital and participate in its

business operations.

• It is a temporary partnership or consortium between two or

more companies for a specified purpose.

• Foreign and local firms can participate in a joint venture.

 Strategic Issues in Joint Ventures:
(i) Objectives of joint venture:
• Should be identical and compatible objectives and
interests of two partners.
(ii) Choice of partner:
• Based on financial capacity, technical capacity and
management competency
iii) Pattern of shareholding:
• Provision about disinvestment (withdrawal from
investment) after certain period of time
(iv) Management pattern:
• the joint venture should be autonomous.
– The composition of the board of directors may be decided in
the light of choice of partners, shareholding pattern, etc.
II) Merger

• A merger means a combination of two or more firms

into one.

• It may occur in two ways:

(a) takeover or acquisition (absorption) of one company by

another, and

(b) amalgamation -creation of new company by complete

consolidation of two or more units
• Types of Mergers

1) Horizontal mergers
• These take place when there is a combination of two or
more firms engaged in the same production or marketing
process.
2) Vertical Mergers:
• It takes place when the combining firms are
complementary to each other either in terms of supply
of inputs or marketing of output.

– For example, a footwear company may take over a leather

tannery.
3) Concentric mergers: When the combining firms are
similar either in terms of technology or marketing
system

4) Conglomerate mergers: It occurs when two

unrelated firms combine together

– E.g. a footwear company combining with a cement

firm.
 Why Mergers?
From the buying firm’s view point

• To gain quick entry into new markets and industries

• To achieve faster rate of growth

• To diversify quickly

• To reduce competition and avoid dependence

• To achieve synergistic advantages

 From the selling firm’s view point

1) To turn around a sick unit

2) To increase the value of the owner’s stock

3) To increase the growth rate

4) To acquire resources for stability of operations

5) To deal with problem of top management succession

6) To reduce tax burden

 Sub – Contracting

• Subcontracting is a type of work contract that seeks to

outsource certain types of work to other companies.

• Subcontracting is done when the general contractor does

not have the time or skills to perform certain tasks.

• When a building is being constructed, subcontracting

becomes a major deal.
• To focus on major areas of operation

• It may be in terms of manufacturing or office work

• E.g :
– commercial nominees selling shares of different
companies
• Sub-contracting has several advantages

• First, it is the fastest method of increasing output.

– It enables the contractor to use technical and managerial

skills already existing with the sub-contractor.

– It avoids the need of setting up new plants and

equipment, which involves time and expense.
• Second, sub­contracting saves the main contractor from
– incurring investment in specialized machinery and
equipment, which may not be required for regular
production.

• Third, sub-contracting may enable the contractor

– to buy the components at a cost less than that of
manufacturing.
• Lastly, sub-contracting;

– checks over-expansion of productive facilities in case

of temporary demand.

• However, may be unsuitable in case

– the contractor requires the inputs on a large scale and on

regular basis.

• It is the case when the contractor can manufacture

– the components at a cost less than the price charged by the sub-­

contractor.
The