Various Sources of Funding - Paper Example

Some of the long-term financing options available to a business include the sale of shares/ equity, issuing bonds, taking term loans from banks, and securitization. The sale of shares involves giving an investor part ownership of ones company in exchange for an agreed sum of money (Kerr and Nanda 2014). A bond is a financing option where a business entity borrows money from investors at an agreed rate and for a specified period. On the other hand, term loans are loans whose repayment period is fixed, and all amounts have to be repaid by the end of the period. These loans can either have a fixed or a flexible rate. Such loans are helpful to businesses that do not have money to purchase equipment upfront but will use the money generated by the equipment to service the loan. Securitization converts single or multiple business assets into marketable securities. These securities are then ranked as per their risk potential and priced accordingly. Risky securities are purchased by entities such as hedge funds while low-risk securities are bought by risk-averse investors like pension companies (Nassr and Wehinger 2014; Nassr and Wehinger 2015).

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During the short and medium term, businesses can choose to get financing from payables, loans, trade credit, advance payments, and discounting bills. Payables allow companies to obtain financing from banks through the use of approved invoices. It allows an enterprise to offer credit while maintaining a cash flow. Similarly, suppliers can issue a business with trade credit by allowing companies to take goods or equipment for which they will pay later. Also, a business can get advance payments from clients for products which have not been delivered. Lastly, by using bill discounting a creditor provides a business with money based on receipts or invoices but the amount issued is less than the actual value of receipts (Khan and Jain 2007; Malaket 2014).

Possible Sources of Funding for the Ice Cream Venture

One of the potential sources of financing for the ice cream business is bootstrapping. Calopa et al. (2014) describe it as a way of converting human capital into finances. Bootstrapping involves the use of a limited amount of resources to start a business. It ensures that the entrepreneur does not borrow any money and reinvests any profits made back into their enterprise. (Calopa et al. 2014). Additionally, the ice cream business could be financed using equity financing. Using equity to finance a business involves ceding some ownership in exchange for capital investments. Equity financing can be sourced from friends or investors who are not risk averse (Abdulsaleh and Worthington 2013).

Another source of funding is debt financing. At times one may find it hard to generate finances using personal savings or equity. As noted by Abdulsaleh and Worthington (2013), small enterprises can either use debt or equity to fund operations. Debt financing includes the use of bank loans and financing from other similar financial facilities. Lastly, the ice cream business can be financed using bank microloans in the form small business administration (SBA) loans. These loans are issued by almost all banks and they target small businesses. They are usually capped at $50,000 while the average amount given is $13,000. These figures are in line with the requirements of the ice cream sales venture (Longenecker et al. 2017).

According to Calopa et al. (2013), bootstrapping reduces the need for a business to source for external funds. By limiting the amount of money borrowed, businesses control the degree of liability to which they are exposed. It also ensures that an entrepreneur utilizes their resources to the maximum. However, bootstrapping may be restrictive when it comes to the financial capacity. It may also slow down a companys expansion process since the only capital injection will come from profits made in the previous fiscal period. On the other hand, financing an enterprise using equity allows a businessperson to obtain money without the need of paying interest. Also, equity does not have a fixed repayment date since the financier is effectively investing in the business. On top of that, equity financing is not secured by assets as is the case in debt financing. Further, it boosts a start-ups credibility. However, since the money is repaid in the form of ownership, the proprietor cedes control of their business to another entity. It is also hard to find a risk-taking investor (Abdulsaleh and Worthington 2013).

Debt financing is beneficial for small enterprises since many financial entities exist for the sole purpose of issuing loans to businesses and individuals. Further, startups are limited in the number of potential sources where they can borrow funds. Debt financing also exists in flexible time phases the (short or long term debt). However, debt financing may be hard for small entities to access since these types of loans are usually attached to assets, and new enterprises are not likely to have the required asset base. Also, new businesses attract higher interest rates on loans because they are risky borrowers (Abdulsaleh and Worthington 2013).

Bank microloans from banks are advantageous because they are tailor-made for small businesses. Some of the loans also come with business management classes which greatly benefit inexperienced businesspersons. Nevertheless, these loans are at times more expensive than loans that one can access in banks (if they have a good credit rating) because they factor in the risks associated with lending to start-ups.

Preferred Source of Financing

Out of the four sources of funding, banks microloans are best suited for a seasonal ice cream venture. The loans interest rates range between 8 and 13%. These types of bank loans are issued to a maximum of $50,000 which is exactly how much the ice cream company would need to kick start its operations. Interest rates for bank microloans under $10,000 are priced at 8.5% minus the SBA rate. Loans above $10,000 are charged 7.75% interest exclusive of the SBA rate. 45,000 dollars at microloan interest rates would translate to 45,000*(3%+7.75%). This means that the costs are predictable and manageable. Lastly, banks provide borrowers with management classes which come with SBA microloans go a long way in assisting new entrepreneurs (Kimmel 2016; Mihajlov 2012).

Why the Other Sources of Finance are not Viable.

Standard debt financing through standard banks is not a viable option for the ice cream business because such types of financing usually require collateral from a proprietor. Those that do lend without collateral will charge high interest rates which may, in turn, affect the profitability of the business. Moreover, most of the equity that a small entity can access usually comes from friends and family. Such investments may not be enough to sustain or start the operations of the business. Also, small enterprises do not have similar access to equity capital markets in the same way as large enterprises (Mills and McCarthy 2014). Finally, bootstrapping may be a very restrictive option for the ice cream business, if it wants to expand its operations.

The Impact of Wrong/No Funding

If the ice cream business fails to obtain the necessary funding, the proprietor may be forced to scale down operations. This would mean that during peak season, demand will likely outstrip supply. It may lead to a situation where clients do not find what they are looking for. Alternatively, the proposed venture could be scrapped as the owner looks for alternative investment options. On the other hand, if the ice cream venture uses the wrong funding, it is likely to find itself trapped in a debt cycle which may make the business unsustainable.

References

Abdulsaleh, A. & Worthington, A. (2013). Small and medium-sized enterprises financing: A review of riterature. International Journal of Business and Management, 8(14), pp.36-45.

Calopa, M., Horvat, J., & Lalic, M. (2014). Analysis of financing sources for start-up companies. Management, 19, pp. 19-44.

Kerr, W. R., & Nanda, R. (2014). Financing innovation. [n.p]: Harvard Business School.

Kimmel, J. (2016). Evolving approaches to the economics of public policy: views of award-winning economists. Kalamazoo, W.E. Upjohn Institute for Employment Research.

Khan, M. Y., & Jain, P. K. (2007). Financial management. New Delhi, Tata McGraw-Hill.

Longenecker, J. G., Petty, J. W., Palich, L. E., & Hoy, F. (2017). Small business management: launching & growing entrepreneurial ventures. Boston, MA Cengage Learning.

Malaket, A. R. (2014). Financing trade and international supply chains: commerce across borders, finance across frontiers. Farnham, Surrey: Gower

Mihajlov, T. (2012). SBA 504 loans help improve balance sheets: a micro analysis. Journal of Marketing Development and Competitiveness, 6(1), pp. 22-26.

Mills, K., &McCarthy, B. (2014). The state of small business lending: Credit access during the recovery and how technology may change the game. [n.p]: Harvard Business School

Nassr, I., &Wehinger, G. (2014). Non-bank debt financing for SMEs: The role of securitisation, private placements and bonds. Financial Market Trends, 2014(1), pp. 139-147.

Nassr, I., &Wehinger, G. (2015). Unlocking SME finance through market-based debt: Securitisation, private placements and bonds. Financial Market Trends, 2014(2), pp. 89-100.