Productivity Software, Business Services & Internet Products for SMEs.

Before opening the doors, some planning in certain areas will help you run a smooth operation. There’ll be many unforeseen events that will make you change your systems and processes as you go along but considering the basics beforehand will help save you from even more work later on. Here we’ll address a few of the areas to consider.

Hiring employees

The most common way of delegating responsibilities is by hiring subcontractors or employees.

Whether you use subcontractors or hire employees, set up a system to screen them. Referrals from people you trust are helpful. Interview everyone you’re considering hiring and be sure to check their references. Using an employment service is a good way of having specialists help you screen the applicant and come up with a remuneration offer.

If you hire employees, you’ll most probably have to go through some red tape. In the US, you’ll have to, among other things, get an Employer Identification Number (EIN), fill out an Employee Eligibility Form and get Workers’ Compensation Insurance.

Bookkeeping & Accounting

When running a business, you’ll need to keep accurate records of your financial transactions. Not only will you use this information for your corporate taxes, employee payroll and sales tax reporting, but this information is vital as a gauge of your organization’s performance.

There are a lot of software packages out there that will allow you to do your own bookkeeping, or you may choose to hire a bookkeeper contractually or as an employee. At the risk of shamelessly pluggin this website, it’s worth taking a look at the accounting system we have available.

Corporate income taxes tend to be trickier to handle than personal income taxes. You’ll almost certainly better off hiring an accountant to take care of your corporate taxes than trying to take care of it yourself. Good accountants often offer advice on how you can reduce your tax burdern.

Payroll

If you have employees you’ll have to deduct taxes and other amounts from their pay and remit them to the appropriate governmental organization. Income taxes often change from year to year, and sometimes they change more than once a year. You can choose to pay someone for this work to save you time, or you can have it do it yourself to save some money. If you choose to do it yourself, there are tools available to help you with this. This website has free payroll calculators designed to calculate the required deductions for Canadian and U.S. payroll.

Customer Service

Your customers are vital to your success and therefore it’s essential that you treat them like gold. Part of doing that, is ensuring you have a customer service system in place that maximizes your customers’ satisfaction. Try to delight your customers rather than just meet their expectations. If a client has a problem with your product or service, make sure it’s handled promptly. You can very often turn an unsatisfied customer into a loyal one by handling their complaint(s) promptly and professionally. 

If we use an example of an online retail store, good customer service would mean:

• Responding to emails quickly (preferably the same day and definitely within 24 hours)
• Sending email feedback when an order is placed, and another when the order is charged and shipped
• Having a phone number where customers can reach a real person if necessary
• A live customer service chatroom is a good idea if possible
• Polite and courteous interaction with all clients, including the angry ones

Inventory Control

Carrying physical inventory is a balancing act. Too little inventory, and you risk running out of stock resulting in lost sales and upset customers. With too much inventory you have your money tied up in stock for a long time rather than putting your money to good use.

In the quest to minimize or eliminate inventory, the science of inventory control has become complex. Strategies have been developed (such as “just-in-time” business) to improve performance and some manufacturers will “drop-ship” products directly to your customers. What’s best for you will depend on your situation. Experience will help you figure out ideal stock levels and if you’re just starting off, expect mistakes to be made. Nevertheless, some planning and market testing, if possible, is far better than nothing at all.

Whether you’re selling a physical good or something downloadable online, you should have controls in place to minimize theft or piracy. For physical goods, a simple check to see if you may have a problem would be to count your inventory levels regularly and compare the results with the quantities you’ve sold. This is the minimum you should do. If your product for sale is downloadable, there is a balance to be made between annoying your customers with numerous verification steps, and having your product easily pirated or illegally shared. Generally, the more niche and inexpensive your product is, the less likely you’ll face rampant piracy. In this case you can probably relax your verification procedures a little.

A Side Note to the “Do-It-Yourselfers” Out There

When starting a business with minimal resources, many owners will try to tackle as many tasks as they can themselves to save money. While this is often unavoidable in the beginning, the tasks that don’t relate to growing the business should be delegated to others to free up time for the owner. For example, as an owner, you’re better off spending your time devising new strategies to broaden your customer base, than filling out bookkeeping entries.

Starting a business doesn’t necessarily mean you have to build a brand from scratch. Franchising can provide a shortcut, but it always comes at a cost, as we’ll see.

Buying a franchise means you’re buying the authorization to sell another company’s products in a certain area. The franchisor (the one that created the original business) owns the business name, any trademarks as well as the business’s practices and procedures. The franchisee (the one who buys the franchise) gets a license to sell the business’s products and services.

Typically, the franchisee pays an up front fee as well as royalties. The royalties are usually based on a percentage of the franchise’s earnings. In exchange for this, the franchisee gets to use another firm’s successful business model.

Pros and Cons of Buying a Franchise

Advantages:

Buying a franchise has it’s benefits. You get to be your own boss while benefiting from different forms of assistance. Advantages include

• Association with an established business concept, brand, reputation and product offering.
• Sophisticated and centralized marketing.
• Management training and operations assistance.
• Economies of scale for supplies purchasing.
• Assistance with choosing a business location, design and equipment purchases.

Disadvantages:

It’s important to be aware of the potential drawbacks to buying a franchise.

• You might not be able to implement ideas you have because you have to operate according to the franchisor’s operations manual. No matter how beneficial or creative your ideas may be.
• Buying a franchise from a successful franchisor can be expensive. There’s no guarantee you’ll recoup your investment.
• Franchise agreements are drafted by the franchisor. As such, they are always written in a way that benefits the franchisor and not the franchisee.
• You’re at the mercy of your lease agreement. Your landlord is not necessarily obligated to renew your lease. This means that your franchise might come to an end when your lease expires, along with the benefits of the work you put into building your franchise.
• The franchisor is under no obligation to renew the franchise. If that happens, the franchisor takes back the business and all of the good will you built up.
• The franchisor has control over how many franchises are opened up in your area. If there are too many franchises, or the franchisor decides to start selling product via mail order, it can severely reduce your franchise’s profitability.

Finding a Franchise

Places to look if you want to buy a franchise include:

• Franchise magazines: There are a number of specialty magazines geared towards people interested in buying a franchise. These magazines provide information and advice about franchising.
• Franchise directories: To find a lists of available franchises, you can try a directory such as the Franchise Canada Directory and the American Franchise Directory.
• Franchise advisors: Some accounting firms provide services to help find and evaluate franchises.
• Internet Searches: There are many websites that provide franchise information. Helpful sites include www.franchisesolutions.com and www.franchiseopportunities.com.
• Franchise shows: Look for franchise shows in your area. Try www.franchiseshowinfo.com for information about franchise shows in the U.S. and Canada.

Perform Due Diligence!

Be sure to perform due diligence before you sign. Get advice from your accountant and lawyer.

Make sure you evaluate the franchises you find. Here’s a handy checklist of questions you need to ask:

• How the franchise makes most of it’s money: is it through franchisee royalties or by selling franchises. If it’s via franchise sales then this could signal that the franchisor’s business model isn’t sustainable.
• What is the franchisor’s business record and reputation?
• How much will you have to pay for the franchise?
• What kind of financing is available?
• Is the income you expect to earn enough to cover your expenses and generate a reasonable profit?
• How long will your franchise rights last? Is it enough time to recoup your investment?
• Where will your franchise be located?
• What kind of training will you receive?
• If you want out, does your contract allow you to sell the franchise?

Buying an existing business can be an excellent alternative to starting a new one from scratch. There are advantages to this approach. Clearly, you’ll first need to have the capital (or access to the capital) required to buy a business. By using your capital, buying a business will let you focus on building or adding value to the business more quickly because the startup steps have already been taken care of.

In this section, we’ll outline some steps necessary for a successful buyout.

1) Self Evaluation

The first step should be to determine your goals, expectations, motives, risk profile and how serious you are about your search. Self assessment is even more crucial if you’re buying a business together with someone else. It’s important for everyone involved to be on the same page when searching for a business. Otherwise, your asking for problems and headaches.

Ask yourself: 

• How committed you are to the search. your expectations should be consistent with your commitment
• How much you are willing to risk personally in terms of wealth and security
• How thorough will you be with your research
• How patient and willing to wait for the right opportunity you are
• Whether you’re willing to move quickly and decisively as needed
• Whether you’re willing to pursue the search full-time

It’s fine to be more casual with your search, but then you should make sure your expectations match your efforts. A causal searcher should also expect a longer time horizon for the search to bear fruit.

An unrealistic search involves waiting for a great deal to somehow fall into place and looking for shortcuts and bargains. That’s not to say that bargains can’t be had by casually looking around, just that it will take longer.

Importantly, when you have a clear sense of what you’re looking for, you’ll have an easier time persuading sellers and their intermediaries to take you seriously and work productively with you.

2) Define Target Company Profile

In order to define the desired target company profile, at a minimum you should consider the:

• Desired size or purchase price of the deal.
• Preferred industry
• Main factors for success (marketing, information technology, inventory management, etc.)
• Customer type (business vs. consumer, local vs. regional vs. international, etc)
• Preferred geographical location of the business
• Profile of the business’s current owners (how many owners, their reputation and willingness to sell)

Besides considering the “standard” dimensions listed above, you’ll have to filter the good deals from the bad. As a rule of thumb, an ideal target company should have:

• Potential for increasing sales and earnings
• Minimal debt
• Predictable cash flow
• Enough assets to allow for more borrowing

During your search, you’re unlikely to find many (if any at all) buyout candidates that fit exactly the criteria you’ve outlined. You’ll have to be flexible and probably reassess your criteria on a case by case basis depending on the target company.

3) Finding Good Places to Search

Finding a buyout company that’s a good fit with your criteria is one of the biggest challenges you’ll face when buying a business. There are a lot of bad deals out there and you might feel as though there’s an endless amount of legwork to get a deal initiated. Knowing where to start looking will help facilitate your research. Here are some sources to get you started.

Personal Contacts: Using your social networks might help you find people who have themselves bought businesses which can be a valuable source of information and support. They can often help you avoid common mistakes.

The Internet: There are many websites acting as intermediaries to put business buyers and sellers together. Using the World Wide Web is a cost-effective and relatively speedy way of looking for leads. You’ll find listings of all kinds in many industries. You’ll find websites specializing in certain regions while others try to tackle a broader geographical area. For example, http://www.bizben.com/ serves the California region while http://www.bizbuysell.com has listings for businesses in various countries.

Magazines, publications and Newspapers: There’s a lot of printed media out there that can be useful for finding buyout leads. Commercial investment magazines can often be found on magazine racks. These are geared for finding retail businesses. Trade publications are great for industry specific searches, and your local newspapers have classified sections that may generate some leads.

Business brokers: Business brokers attempt to find appropriate buyers for business sellers and keep a percentage if the purchase price if a deal is made. Brokers are often listed in various directories such as the Yellow Pages and in the business or classified sections of many newspapers. A good broker can be an excellent source of leads but care should be taken when choosing one. 

There are both professional and independent brokers. Independent brokers may be completely unregulated and because a license is often not required, anyone can claim to be a broker. Use only trustworthy brokers and be sure to check references. Ask people you trust if they can refer you to someone appropriate. In the United Sates, one of the largest network of independent brokers is VR Business Brokers (http://www.vrbusinessbrokers.com) operating in dozens of cities. 

Venture Capital Firms, Investment Banks: These organizations typically only involve themselves with deals in the multimillion dollar range. If you’re thinking of “starting small” and growing, approaching these types of firms is probably not worth your time. On the other hand, if you are looking to put together a multimillion dollar deal then VCs, investment banks and professional brokers are areas to investigate.

4) Cash, Credibility, Contacts

Besides your patience and thoroughness, the deal you end up putting together will primarily depend on your resources. These resources essential to the buyout are cash, credibility and contacts. How much of these resources you need will depend on the size of the deal. The pricier the deal, the more sophisticated the potential buyers. Sellers will also require more in terms of credentials from potential buyers as the value of the deal goes up. Rightfully so, nobody should spend time on obvious mismatches. Importantly, if you’re depending on your contacts to put up cash, ensure that they’re committed to backing the project. Try to find out as early as possible whether or not your backers are committed to any given project so that you can start looking for another buyout deal if necessary. 

5) Evaluate the Business

Evaluating the potential buyout company is vital. Don’t worry about passing up on a potential deal if you’re not comfortable with it because it’s early in your search. You’ll very likely come up with another potential buyout shortly after. You probably won’t have many different buyout prospects at the same time which makes comparing deals side by side rare. You should nevertheless compare the different business deals that you encounter.

Evaluate the business along multiple dimensions including:

Financial performance: Looking at a potential company’s financial statements is a must to get an idea about its performance. You’ll see if the company has been shrinking or growing and at what rate. You can also use these documents when making comparisons with other firms in the same industry and help gauge its potential. Ask for professional help if you’re not comfortable with balance sheets, income and cash flow statements. Signing a nondisclosure agreement (NDA) with the current owners in order to get this type of information is commonplace. 

Riskiness: The more stable the company’s cash flow the better.

Company maturity: Is the company established in its market or is it a new player?

Competition: Is the market for the company’s products full of ferocious competitors?

Industry: Is the industry growing, shrinking or roughly stable?

Management: A competent management team is essential for the success of any business.

Exit strategies: How easy would it be to resell or liquidate the company?

Finally, make sure that you’re confident that you’ll be able to add value to any business you buy out. This is the key to improving the business’s performance. The previous owners will probably already have tried many of the basic things to improve performance so try to find out what has already been attempted. You’ll likely have to get creative or use different techniques or technologies when making operational changes. 

6) Cover Yourself

Be sure you have access to professionals who can help you through the process. Investing in an experienced lawyer is worth your while. A lawyer will help you steer clear from pitfalls and help you put together a deal that minimizes your exposure. A good accountant can give you advice about analyzing the target company’s financials and help you weed out bad deals. Finally, use common sense and try to stay emotionally neutral. Try not to be too cynical, but be skeptical of offerings that seem too good to be true.

When starting a new venture, one of the first things you’ll have to consider is the legal structure of your business. There are many forms of business organization, such as partnerships, corporations, and nonbusiness organizations like charities and clubs. Here, we’ll summarize the three you, as an entrepreneur, will most likely want to consider – sole proprietorships, partnerships and corporations. Each has advantages and disadvantages.

1) Sole proprietorship

If one day you get up and start selling hot dogs on a street corner, unless further legal steps are taken, you’re operating under a sole proprietorship. It’s the most basic form of business structure. The business is owned by one person, the proprietor, and does not legally exist separately from the owner. Since the business is not a separate legal entity, it’s said to be “unincorporated”.

Legally, such a business is not separate from your nonbusiness affairs. You can use the business cash to pay your household bills, buy groceries etc. Your creditors can claim against any nonbusiness assets you might have such as cash in your bank account, your car, your house or anything else of value that you own.

Any earnings you make are reported on your personal tax forms and the government taxes you at the rate normally levied to an individual. You can deduct expenses related to your business from from the earnings of your business to reduce your tax burden.

Depending on the laws of your country, you may be required to register your proprietorship with the government depending on the circumstances. 

Advantages:

• All profits go to you
• You get to make all of the decisions
• Minimal startup costs
• Minimal regulation, bureaucratic procedures and legal planning required

Disadvantages:

• Your personal liability is unlimited – you’re personally responsible for all obligations of the business
• Obtaining financing is generally difficult

2) Partnership

Partnerships are businesses with two or more owners. If you enter into a partnership it will most likely be either a “general partnership” or a “limited partnership”.

General Partnership

A general partnership is like to a sole proprietorship in terms of owner liability and tax purposes.  

When entering into a partnership, make sure you set in writing things like:

• The amount and nature of each parters’ contribution (cash, property, patents etc.)
• How profits and losses are to be allocated between partners
• What happens if a partner retires, withdrawals, becomes disabled or dies
• Each partner’s management responsibilities

Business earnings are distributed according to the partnership agreement and taxes are paid at the personal level. Because each partner is liable, make sure you trust whomever you choose as a partner. Also, try to selecting a partner with complementary skills – this can add a lot of value to the organization.

Limited Partnership

A limited partnership has both limited and general partners. Limited partners contribute capital and have no voice in managing the business. He or she is limited in liability only up to the amount contributed. General partners on the other hand are responsible for managing the business and have unlimited liability.

Advantages:

• Each partner can provide startup cash
• Partners may have complementary skills
• Low startup costs
• Minimal bureaucratic procedures

Disadvantages:

• Unlimited liability for general partners
• Possible partner conflicts
• Obtaining financing is generally difficult

3) Corporation

If you incorporate your business, it becomes a separate entity in the eyes of the law. It pays taxes and can be sued just like a real person. Owners of the business (shareholders) enjoy limited liability and are therefore sheltered from claims against the business.

This limit on shareholder liability comes at a cost. If owners are paid with dividends out of business income, these dividends are then taxed at the personal level. Since business income is also taxed, owners must take the hit on both taxes. Different countries have different dividend tax policies. In Canada for example, at the time of this writing, tax policy attempts to reduce this tax burden through a “Dividend Tax Credit” for personal income from dividends for Canadian corporations. In Norway, shareholders receiving dividends from Norwegian corporations are eligible for a full dividend tax credit. 

It’s worth your while to look into the different corporate forms available in your country. For example, in the United States, there are variations of the above described corporate form – the “S corporation” and the “limited liability company” (LLC). 

In general, an incorporated business provides the following advantages and disadvantages. 

Advantages:

• Limited shareholder liability
• Tax advantages for the corporation
• Easier to obtain financing
• Ownership can be transferred via share sale

Disadvantages:

• More expensive to setup and operate
• Extensive record keeping required
• Dividends may be taxed twice

Red Tape

Depending on the business structure you choose and your country or region of business, you may have to register a business name and get one more tax numbers. Your business may require a permit to legally operate. For example if you open a bar, most jurisdictions require a liquor license.

Which Should you Choose?

The answer to this question depends on your situation. Do you need external financing? Is limiting your liability crucial? Review the business legal structures in your jurisdiction to come up with what makes sense for you. Keep in mind, you can change your businesses structure as your business evolves. You may want to start off as a sole proprietorship for simplicity’s sake, and if you find that things are working well and the business is growing, you may then decide it makes sense to roll it over to a corporation. Many businesses develop in this way.

Most ventures start off on a low budget – with little or no external financing. Nevertheless, starting a business might require financial resources beyond your means, or beyond what you’re willing to risk personally. Needless to say, whoever participates in the financing of your venture will expect to get something in return. How much return they expect will depend on the perceived riskiness of your venture. A higher return is demanded the riskier the business is perceived.

Your job, is to obtain financing at the lowest possible cost. In this article, we’ll go over some typical sources of financing.

1) Start-Up Financing – Personal Equity Capital

To get your business off the ground, you’ll almost certainly going to start off with equity capital – rather than debt to be repaid to the entrepreneur by the business. If you’re looking for external sources of finance, equity capital is required to show commitment on your part. Investors feel that the entrepreneur will be more committed to the venture if he or she has a significant personal stake in the venture. You don’t necessarily have to put down equity capital in the form of cash. Your equity in the venture can include mortgaging personal assets like a house or car, as long as what you put down is perceived as equity by potential investors.

A more practical reason as to why your startup phase will usually be financed by your own funds is because to raise money, you will usually need more than an idea. You’ll have to invest some resources in the idea, to build a prototype or do a market study for example.

There are some specialized firms that provide this kind of seed financing but most venture-capital firms require your business be beyond the concept phase to qualify for their funding.

2) External Equity Capital

Often, entrepreneurs run out of their own funds before business can take off on its own. At this point, it’s usually still too early to get enough debt financing, which leaves outside sources of equity capital.

Angel Investors

A common source of equity capital is private investors, also known as “angels” or “wealthy individuals”.  These investors can range from family and friends with a few extra dollars to spare, to tycoons who manage their own money.

One of the best ways to find wealthy investors is to use your social networks. For example, a lawyer or accountant you’ve used may be able to put you in touch with a potential match. Angels can be a good fit for equity financing requirements that are too small for the typical venture capital firm to consider. At the very least, you’ll need a business plan when approaching a wealthy individual. 

An advantage of angels over venture capital firms is that they are often a  less expensive source of financing. There are downsides as well as we note below.

Wealthy investors:

• Are far less likely to come up with additional funds if needed
• Don’t have the expertise or time to support your business operations
• Can bring you lots of frustration, especially if there are a lot of them. Complaining or phoning frequently when things aren’t going exactly as plan, angels can be a source of headaches despite your well intentioned nature.

Venture Capital

Venture capital is a pool of money that is professionally managed. Wealthy individuals invest in the fund which is managed by individuals who are compensated by fees and a percentage on gain.

Venture firms seek a high rate of return on their investments, 50-60% is not uncommon. This high rate compensates for the riskiness of their investments and services provided. Many entrepreneurs find this rate too high and consider venture capitalists “sharks”, but don’t discount venture capital prematurely. In exchange for the high return, venture firms will often provide valuable advice. They have seem many times before what the entrepreneur might be experiencing for the first time. Venture capital firms can provide useful counsel to help solve your company’s start-up problems.

Venture capital firms differ in which industries they invest in, and how “hands-on” they are with the day-to-day operations of their portfolio companies. When approaching a venture firm, the goal of your business plan is to capture their interest rather than to go into exhaustive detail. Most venture firms spend a great deal of effort sifting through and investigating potential investments.

Don’t propose the actual terms of the investment in the initial document. While you should write out how much financing you’re looking for, the details of the terms (such as “for 30% of the stock) should be left for later as it’s premature for an initial presentation.

Public markets

The largest source of equity capital are the public stock markets. Usually you’ll have to have a successful operation before you can raise money this way but in some “hot” industries, smaller start-ups are sometimes able to raise public equity.

Cover Yourself

At some point or another, the thought that a potential investor might steal your ideas will probably cross your mind. On the one hand, want to sell investors on your good ideas, on the other hand, you don’t want anyone to use them as their own. Venture capitalists are professionals who will guard your confidential information. Angels, on the other hand, should be dealt with more carefully. Only approach reputable and trustworthy private individuals.

Regardless of which group of investors you’re targeting, don’t disclose truly proprietary information or sensitive intellectual property in a business plan. For example, you can and should describe the functions of your new product, bud don’t include materials like engineering drawings, circuit designs and the like.

3) Debt Financing

Debt capital is the other main source of financing. Debt is generally thought of as less risky than equity capital because it is repaid to a predetermined schedule of interest and principal. Creditors will lend against the cash flow and/or assets of a firm. If you and your company have neither, you’re chances of getting debt financing are low. 

Cash Flow Financing

Cash flow financing is generally of the following types:

Short-term debt – Is often available to cover cash needs for periods of less than a year.

Line-of-credit financing – Once set up with a line of credit, you can draw from it as required. Interest and fees apply and you’ll generally have to pay it down to an agreed upon level at some point during the year.

Long-term debt – May be available for up to 10 years and is usually available to established and “secure” companies.  It is repaid via a predetermined schedule of interest and principal.

Most commercial banks make cash flow financing available and other institutions (such as finance companies, insurance companies) may as well. Lenders will often try to reduce their risk through placing restrictions on your business if you are to keep your credit. For example, you may be required to, limit your debt or keep a minimum cash balance.

Asset based financing

Many business assets such as accounts receivable, inventory, equipment and real estate can be financed. New ventures generally find it easier to get asset based financing because cash flow financing generally requires an earnings history. In asset based financing, the company pledges certain assets and in case of default, the lender can take possession of the asset.

Asset based financing is available from various financial institutions including banks, pension funds and insurance companies.

The following are commonly used for asset based financing:

Inventory – But only if your inventory consists of merchandise that can easily be sold. However, you won’t be able to finance the full value of your inventory, roughly half is a good rule of thumb.

Accounts receivable – Often up to 90% of your accounts receivable from solid customers can be financed. The bank will almost certainly do a check to see which accounts are eligible.

Real estate – If your company has a plant or buildings, mortgage financing is usually available for usually between 75-85% of your real estate’s value.

Equipment – If you have equipment, depending on how “sellable” it is, you might be able to get financing for up to 80% of its value.

Government secured loans – Certain government agencies might provide guaranteed loans designed to help businesses obtain financing. It’s well worth taking a look to see if you can get help this way.

Personally guaranteed loans – If an individual is willing to pledge his or her assets to guarantee a loan, the business can secure financing in this way. Of course, the risk is then borne by the individual.

4) Internally Generated Financing

Some careful “juggling” can help generate considerable financing without using the sources listed above. Financing generated from within the company includes:

• Collecting outstanding bills more quickly.
• Obtaining credit from suppliers so that bills can be paid less quickly. Some suppliers charge interest on late payments. Beware of taking this too far and frustrating key suppliers, they may simply stop serving you.
• Reducing inventory and cash can help as well, but be ware of running the business too “lean”. You may end up being unable to properly serve customers or pay suppliers.
• Selling off assets, this may be a more drastic approach but in a pinch, it might pull you through.

The vast majority of companies get started on a tight budget. There have certainly been many startups funded by big-money that have rocketed to success, and these are the startups that get the media attention. Statistically speaking, you’re much more likely to start a business without venture capital and grow your business using debt and retained earnings. 

Venture Capital – a Poor Fit

Many entrepreneurs are understandably disappointed when their “great idea” gets turned down by a venture capitalist. The reality is that venture capital is often not appropriate for the typical start-up. Venture capital traditionally favors product offerings that go after hundred-million dollar markets, while new businesses often start off by pursuing niche markets that are too small to be of interest to venture capitalists. 

Few new businesses start off with a truly original concept or proprietary technology. Instead,  they generate profits by relying on better execution and vigor. The advantage of many new business owners is their ability to be nimble and flexible, adapting quickly to changes in the market place. For a startup, adaptability is often more important than heavy planning and foresight, but venture capitalists tend to prefer projects that have been carefully planned that target well defined markets.

Pitfalls of Using Other People’s Money

Funding can certainly have it’s advantages, such as for exploiting growth opportunities that would otherwise be forgone because of a lack of resources. There are however, many instances where too much investor money too early can be detrimental to your flexibility, discipline and efficiency.

Bootstrapping in a startup forces you to make sure every penny is well spent and uncovers problems early that the company has to solve. Many entrepreneurs feel they need money to be able to do lots of things right from the start. What often happens is that the money gets used up, with no profit to show for it. Instead of addressing the underlying problems, they say “we need more money” which only temporarily takes care of the symptom.

Rarely will a startup get everything right the first time. Success requires the ability to change direction and handle unforeseen setbacks. Failure to meet initial goals doesn’t mean the company won’t be successful in the future. Outside investors can hinder a small startup’s flexibility and the “try-it, fix-it” approach that is often required. The prospect of major changes to company direction can scare investors – they will wonder whether the original concept was wrong or whether it was badly executed. They will also wonder if putting more money to support a change in direction will mean being fooled twice. Entrepreneurs tend to avoid confronting investors in the early days of a business. Detrimentally, founders often stick with their original plans even as they lose confidence in them, in order to avoid conflict with investors.

The bottom line is that if you’re unsure about your market, or don’t have the experience to deal with investor pressure, you’re better off starting your venture without other people’s money.

Guidelines for a Low-budget Start-up

New ventures without a lot of money need to employ different strategies than well-capitalized start-ups. The following guidelines will help serve the typical bootstrapper:

Get up and running as quickly as possible

Don’t wait for “the big idea”. Starting off with an unoriginal idea targeting a smaller market shouldn’t bother you. Many businesses start off with a “me too” strategy and once the business gets going, opportunities come up that might have been left unseen had the founders waited. This approach will save you from the cost of extensive initial market research, and you’ll be less likely to face as much competition from large, established companies.

Go for quick money making projects

Even if a potential project isn’t a perfect “fit” for your basic strategy, you should take advantage of your small business’ flexibility. To generate revenue early, take on projects that the typical large and well-funded company would consider a distraction. A money making business will build your self confidence as well as credibility among your customers, suppliers and employees. For example, many entrepreneurs generate cash flow in the early days by providing part-time consulting services.

Go for high value offerings and use personal selling

Don’t underestimate customer inertia. As the saying goes: “if it ain’t broke, don’t fix it”, if a potential customer feel something is working for them, convincing them to change can be difficult. Why should they replace a familiar product or service for that of your “precarious” start-up?

This is why entrepreneurs often pick higher-ticket items their where passion and willingness to provide excellent customer service can substitute for a big marketing budget. Very often the business founder is the chief or only salesperson, and they sell directly, usually to other businesses.

If your offering is a higher value product it will more likely sustain personal selling. This will make your target customers more willing to listen, as well as making it worth your while to sell it yourself. If your product has advantages over your competitor’s, your life will definitely be easier when pitching your offering.

Forget about hiring an all-star team

Investor backed startups pay CFOs a six figure annual salary and stock options but if you’re starting with a small budget you can’t afford this. Rather, attract employees by giving them great learning and resume building opportunities. Finding “diamonds in the rough” is challenging, and you can’t always afford to thoroughly pre-screen candidates. You may end up hiring and then firing some people who don’t perform the way they had claimed, but when factors such as, let’s say, personality and common sense are the most important, you can get good bang for the buck with less experienced people. 

Control your growth

Succeeding as a low-budget start-up requires that you expand only at a rate that you can control and afford. This means only investing in additional capacity when you need it. It might even mean that you have to turn down orders that are too large for you to fulfill. It’s can be psychologically hard to turn down a large order, but it’s better than accepting it and not being able to fulfill it adequately. Your reputation could suffer as well as any possible future business with the disappointed customer.

Focus on cash

Whenever possible, try to get payment terms from suppliers and quick payments from customers. This will help you manage your cash flow immensely. For example, while choosing between suppliers you can ask for a one time only, 90-120 day terms on your first order.  Most may not accept but if only one does, this will effectively buy you time to sell product. In this way, your supplier partially finances your business. 

In a venture-capital financed business, it might be possible to start off selling products as  “lost leaders” or below cost in hopes of gaining market share or achieving economies of scale. If you’re starting up with a small budget, a better approach is to cover costs and finance growth by focusing on products you can sell at a high margin.

Changing Policies as your Business Grows

Once your business grows, if you want to build it into a durable business, you’ll need to revise or even totally abandon some of your “start-up” policies. Changing the policies that let you get this far can be a challenge, but growth often requires it. Growth also usually means changing your personal role in the organization – a particularly difficult task for many founders is letting go and delegating authority and responsibility.

Eventually, growth will probably require:

• Emerging from your niche and competing with a larger companies.
• Offering less customized, more standardized products or services
• Changing focus from cash flow to strategic goals
• Recruiting more experienced (and higher paid) employees

Two of the most important questions can ask when you start a new venture are:

• What resources do I need?
• How will I acquire them?

Resources include cash, equipment personnel and anything else required for your business.

If you’ve written up a business plan you should already have a good idea about what resources are needed for your enterprise.

The Challenge of Acquiring Stakeholders

Participants (or stakeholders) in your enterprise are at risk by participating in your venture. As a result, bringing stakeholders on-board can be challenging. While you should certainly take measures to reduce stakeholder risks, you can’t make the investment in your venture fully reversible. Financial stakeholders have obvious risks, but your employees, suppliers and customers also take important risks by involving themselves in your venture. For example, if the enterprise fails, suppliers may not be able to collect on their receivables and customers may find that the product they bought can’t be upgraded or repaired.

Select stakeholders who are most willing and able to bear the risk of participating in your venture. All else equal, choose stakeholders that are more diversified, experienced, can afford it, and are risk seeking:

Diversified – Work with a venture capitalist who has a large and diversified portfolio. Another example would be using a distributor who handles many vendors rather than hiring a full time sales person for your startup. If the business fails, a diversified distributor will probably suffer a lot less than a sales representative who lost her full time job.

Experienced – For example, employees who have worked for a failed startup before know that being laid off is not the end of the world.

Can afford it – This perhaps goes without saying but don’t borrow money from family members who don’t have significant excess funds, even if they are eager to lend. Stakeholders risk is reduced if they have excess capacity.

Risk seeking – For example, if your venture is software related, hire a programmer who gets a kick out of working for a cutting edge, “mission impossible” type venture.

Convincing Stakeholders

Let’s assume you’ve got a solid plan that minimizes stakeholder risks and identifies the most suitable participants for your enterprise. Now, you have to sell your venture – convert interest into commitments.

A reputation for reliability, success and perseverance are important prerequisites for convincing stakeholders to commit to your venture. An equally important requirement, is your own enthusiasm and conviction in your project. If you’re not convinced, you won’t get others to commit. 

A potential participants will tend to be more willing commit to your venture if other participants have already committed. But how do you get any kind of commitment so that you can get the ball rolling in the first place? A solution to this is to ask for a small, incremental amount of commitment from a participant, and use that commitment to get a small amount of commitment from the next participant. And then simply continue in that circle as necessary.

When speaking to potential participants, you’ll need to be prepared. Anticipate objections, know what you need and be sure to follow up despite your busy schedule. Vitally, be sure stakeholders understand how they will benefit from their participation.

These tips will hopefully help you secure stakeholders, a critical requirement for any entrepreneur without all the resources needed to pursue a promising opportunity.

Planning is important when starting a new venture. For example, writing a business plan will help you organize your thoughts and present your ideas to potential partners or investors. However, there is a balance between planning and “doing” –  lots of planning might not help you.

Don’t Over Plan

A National Federation of Independent Business study of almost 3000 start-ups showed that company founders who spent lots of time planning, studying and contemplating were no more likely to survive their first 3 years than founders who jumped on opportunities that presented themselves without much planning.

Analyzing the venture’s ability to compete for capital, customers, employees and other necessities is a daunting task and a complete analysis has to take numerous industry factors into account. A complete analysis taking into account all, or even most of these business factors, is rarely feasible for most startups. Most entrepreneurs don’t have the time and money to collect enough data that would accurately represent the venture’s business environment. Besides, the prospects that can be thoroughly analyzed at low cost, will likely lie in very competitive environments.

Planning is Required

This doesn’t mean that you should dive in without any planning. Assessing the viability of a new venture before opening the doors is important. A basic business plan is a good idea. Entrepreneurs have many crazy ideas, just thinking about what might go in a business plan will help determine whether an idea should be researched in the first place.  

Given that an entrepreneur has to minimize the time and money spent on researching ideas, how much effort should be devoted? The answer is it depends, there is no one-size-fits-all checklist but some guidelines can apply.

One factor is whether your venture requires a lot of startup capital or not. Investors normally require a more thorough business plan with financial details. They want to gauge the entrepreneur’s seriousness and competence and whether or not their investment will generate enough return. For these investors, you will have to put together a plausible and detailed financial plan.

The more complicated your venture’s operations are the more analysis and planning is required. Complexity increases the chances that things will go wrong, planning will help reduce that risk.

Focus on the Important Issues

Focus on the importance of the issues rather than which issues have the most available data. You might be tempted to do a thorough analysis on a particular issue because the data is available but some issues deserve just a little attention regardless of the availability of data. Likewise some important issues are difficult or impossible to analyze and you’ll just have to take your chances. Rapidly changing technologies or regulations make detailed analysis of some issues unfeasible.

Which Ventures Should you Favor

Once losing ventures are screened out, an entrepreneur on a limited budget should favor ventures that have:

• Low startup financing requirements. You’re better off with a venture that can be started without lots of external capital and have high enough profit margins for the business to grow with cash from sales.
• A low exit cost. With low exit costs, you can more easily abandon the venture without a large loss of money, time and reputation. Favor ventures where you can spot failure early on.
• High margin for error. The simpler your operations and the lower your fixed costs, the less likely you are to face cash flow problems because of unforeseen circumstances.
• The ability for the owner to cash in. Being locked in an illiquid business with few sustainable advantages makes it difficult to cash in on your efforts. Not only will the you be unable to pursue more attractive opportunities, the likelihood of selling the company or taking it public is slim.

Take Action During the Planning Process

In large corporations there is usually a distinct separation between analysis and execution. As an entrepreneur, you have more flexibility and don’t have to have all of the answers before you start taking action. For example, the profitability of a new restaurant might depend heavily on the conditions of the lease. You can test whether favorable lease conditions can be negotiated before doing a lot of other analysis and planing. In this way, you can save a lot of money and time.

Why write a business plan? You could start your business without a formal business plan, and many entrepreneurs are successful without one. A business plan however, is recommended for various reasons, it can:

• Force you to think about various elements of your business, this will help you come up with strategies to take advantage of your opportunities and mitigate threats. It is important for owners and managers to have a clear understanding of the various aspects of the firm’s market, such as competition and customers.
• Help you determine whether or not the business is feasible in the first place, and if not, it will save you a lot of heartache.
• Help you remember ideas you had.
• Make it easier to get any required financing. Few lenders are willing to finance a new venture that has no business plan.
• Serve as a benchmark for measuring the success of your venture. Over time you can use your business plan to see if you have achieved your goals.

Elements of a business plan

Business plans will vary from business to business and industry to industry. But most should have certain important components in common. A brief summary of these components follow.

• The executive summary. This out lines your business and summarizes concisely what rest of the plan says. It should be one page long. For readers, the executive summary is the most important part of your business plan. If nothing else, they will read the executive summary.
• The opportunity. Your plan must explain, in layman’s terms, what you want to sell and why you think people will buy it.
• The Market Analysis. A good business plan will include a general description of the industry (such as size and trends), information about your target market and competition.
• Operations. Describing how you intend to implement your ideas is important to investors and to you, the owner. What initial setup steps are required? Whom do you need to hire and will training be required? You also need to describe the manufacturing equipment required for your business. Who will be your suppliers and how will inventory be controlled? Basically, elements required for the smooth operation of your business should be described here.
• The management. This section should describe the company’s ownership structure, and management and board member profiles. It should also outline employee responsibilities.
• Financial information. Financial statements are another requirement of any business plan. If you business is established, include the past three to five years of historical financial data – balance sheets, income and cash flow statements. Regardless of whether your business is a startup or already established, you’ll be required to provide prospective financial statements. Usually, you’ll include expected financial performance for the next three years. Lastly, include an analysis of your financial information – financial ratios such as debt to equity ratio and return on investment as well as a break even analysis.
• The Appendix. Your plan will be read by a variety of people. Some of the information will be of greater interest to certain people. For example, a general outline of the qualifications of key managers can go in the body of your plan, where as detailed resumes should go in the appendix. Other items in the appendix might include:
  • Industry statistics
  • Detailed profiles of key managers
  • Product details such as photographs
  • Details of market studies
  • SWOT analysis
  • List of partners and consultants
  • Financial spreadsheets

The Evolving Business Plan

Your business plan shouldn’t be a document forgotten once you’ve started your venture. Refer to it periodically to determine if you’re reaching your goals and what changes are needed in the plan as time progresses. For example, you may find that external factors in the market have changed. For your plan to make sense, parts of it will probably need to be updated to reflect these new realities.

There are many other resources online to help you with your business plan. Try searching the Internet for some of the many free samples out there that can be used as a guide.

Why muddle though it alone? Having someone experienced and knowledgeable to call upon when needed is a definite advantage. Ideally, you’d have several mentors, each with different expertise to guide you with different areas of your business. You could have one for marketing, another for administration and yet another finance. The more brains you have access to the better. Not only will they help you with your business, but listing them in your business plan will add weight to it if you’re looking for financing.

Finding mentors is not necessarily a difficult endeavor. Maybe you have knowledgeable friends and family. Ask your lawyer and accountant. They’re likely know a lot of professionals in various fields. You can also try the links below.

Free help available from retired professionals:
Service Corps of Retired Executives -USA (http://www.score.org/)

Information about organizations that can help you with your business:
Office of Small Business Development Centers – USA (http://www.sba.gov/aboutsba/sbaprograms/sbdc/)

A Canadian charity organization focusing on helping entrepreneurs aged 18-34:
Canadian Youth Business Foundation – Canada (http://www.cybf.ca/)