The work of bringing the money in the company is called financing of funding. Strategy for bringing money in the company is called financing strategy. (the word financial strategy refers to all the strategies in a finance department where is the word financing strategy refers to you only the process of bringing in the money or the funds). Capital can be brought to a company into formats:
2. Anything else that serves as good as cash & meets specific equivalent requirement of the company called fund.
Hence it is also called funding strategy.
Financing means bringing money into the company. The word financing can be used from the perspective of the receiver of the money (and exactly the same process is called as an investment by the person who puts in the money from his perspective). It is the most important activity in the finance function of a company. A businessman is supposed to know exactly how much fund is required the company and when these funds are required. It is very risky to to mobilize the funds at the last moment. It is also very costly to procure them in unnecessary advance and keep them idle. What is most important is that a businessman should be able to procure all the requirement of funding to run the business profitable. If adequate funds are not available, a company may lose business opportunities. Also, inadequate funding may result in loss making operations as a business must be provided the minimum required capital to work efficiently. Most of the small and medium enterprises are seen fighting with the problem of inadequacy of the funds. They are eligible to borrow less based on their financial strengths from the banks and other types of institutional lenders and what they need is much more. Also, so they are capable of many new initiatives for growth of the company but there is no money to undertake these initiatives. This small and medium enterprises are played by the problem that there is no correlation between how much money they can borrow from the financial institutions based on the rules and how much money they need which they can deploy profitably. Small and medium enterprises are always eligible for for lesser amounts then they have plans for.
The process of bringing money in the business is very complex. There are issues number of parameters that have to be kept in mind. It is not only about eligibility and the amount but also about the terms and conditions and cost of finance. Even more important than cost of finance there are two more implications: 1. Interference in the management and operations of the company. 2. Ability of the company to repay these financial liabilities along with the committed returns on them in timely manner prevent the ramifications if a financial default happens.
It is eligibility for financing based on the viability of the business & ability of the management to find an investor & get investment.
Capital is a very important resource to run a business successfully. Is it possible that a business is viable on all technical accounts but is not viable because of lack of capital? Yes, off course. Inability of the management to raise adequate capital in time is also considered as one of the reasons for unviability of a business.
Here, we must make a distinction between two aspects: first that a business is not financially viable and the second that the management is not able to raise adequate amount of capital. These are two are entirely different problems and they need to be addressed in different ways.
A business is said to be financially unviable when it is not able to generate satisfactory returns through the operations at par with the expectations of the people who provided the capital in different forms. In case of some other businesses, it is possible to make the operations more efficient to turn them financially viable. In case of some other businesses, it is possible to make the business financially viable by renegotiating the terms and conditions of the various stakeholders that have provided capital in one or other form. However, some businesses maybe intrinsically financially unviable irrespective of any financial or operational wizardry. Now, what about those businesses which are not able to raise the adequate capital in first place, forget generating adequate returns as per the expectations of the capital providers? The million-dollar question is can the inability of the management to raise adequate capital be termed as financial unviability?
The answer is no! A vehement no!!
Then what this situation can be called? There is nothing wrong with or unviable about the business or its idea but there is something wrong with the actions if not competencies or philosophy of the management. When everything else is alright, shortfall of capital is a very easy to solve problem for a company.
The biggest disadvantage of a bank loan is the fixed guaranteed periodic interest payment and repayment of the principal amount. Don’t understand circumstances of the business and any non payment is considered as default. They don’t look at the merit of the business, quality of the management or potential of the business sufficient criteria to lend. They must be provided some or other type of security on margin money which becomes a serious limitation on the amount of fund that can be raised. As an institutional lender, bank officers have very less flexibility in processing the loan applications and they made turn down and application even for frivolous reasons. They will not provide loans to new businesses for businesses with poor credit history. Technically, a business is a client of the bank but there is hardly any tendency to sell more. In India, there is good degree of corruption in the sanction process. The corporate form of business is to basically segregate the the owners from the management of a company in terms of any rights and liabilities. But the bank requires the promoters and the directors are the shareholders to provide personal guarantees putting their personal properties at risk. We can see a number of cases in the market, where the banks are auctioning the personal assets of many businessmen. The plight of such honest businessmen is the last thing one would like to see. The phenomenon of these options discourages a layman from undertaking any business venture. Another aspect of bank loan is that it becomes more difficult to avail any money in difficult times. So banks are only good weather friends. In the history of long existence of a business, they do suffer a once in a lifetime misfortune due to circumstances beyond control of management. The business is still very much viable if certain relaxations or or additional credit is provided. The worse the situation of a business, the worse the behaviour of a bank! Payment to bank takes the first priority, and if a good opportunity is is passing by, the business cannot use its money to pursue that opportunity. Occasionally, this does cause a very serious opportunity loss to a business. Bank loan repayment in most of the cases must start almost immediately. For businesses with a long gestation period, this becomes as good as borrowing from the bank to pay the bank. Banks are very rigid when it comes to provision of enhanced credit or credit with second charge even if the value of the security has increased. The financial expertise is of the banks is of absolutely no use to a business. The rules of the banks are very stringent when it comes to to providing better terms on request of a borrower.
The biggest advantage of equity capital is that it could be available even in the worst circumstances of a business. Equity funding is provided based on the the intrinsic potential of the business and merit of the offer. Request for equity funding may not be rejected only because a certain rule book doesn’t permit to do so. There is no fixed guaranteed, permanent, periodic return on equity funding. Hence, the business has no tension of of monthly repayment of any interest amount. More importantly, the capital provided need not be returned at any point of time in the future to the investor. There is no requirement of any guarantee or any security. Practically there is no limit on what is the the maximum amount that can be availed. There is no risk to the corporate assets or personal assets of the original promoters even if the business fails. This is because the equity investors joins on profit sharing and ownership sharing basis. If the investor joins in management of the company, his experience in financial management it and corporate management may come handy and the business may become very professional. Equity funding is very useful in preparing the growth projects when sufficient amount of fund is not provided by a bank. Equity funding is also very useful when a business suffers a one time misfortune and has potential to turnaround and excel again. The organic growth of business through internal accruals is very slow and equity funding provides avenues for rapid growth of a business. There is no specific term of equity funding and hence even if the growth initiatives are delayed, even if the projects take longer than usual, there is no question mark on the existence of the company.
Following are the key consideration in financing strategy:
Cost of finance should take second seat with respect to…
Capital structure: (capital ratios, long-term implications, liabilities)
Ability to repay: (Schedule, moratorium, DSCR, cash flow projections, etc)
Terms & conditions: (drawdown, convertibility, voting power, etc)
Cost of finance: (interest, cost of equity, processing fees, etc)
Following is the process of Financing
Logical process of preparation of Financing Strategy
Assessment of appropriate investment amount to be mobilized and its phasing
Assessment of possible internal sources (accruals, promotors, shareholders, ESOPs, rights, etc)
Selection of external source type (debt, equity, grant, mix, their types, etc)
Selection of the specific instrument/contract (DVR, preference equity, bond, ECB, etc.)
Selection of funding entity type (Private individual, PE, VC, Bank, FDI, etc)
Approaching of a specific funding entity that meets the criteria
There is a wide variety of internal and external resources of capital. Any savings on the output of a business is tantamount to infusion of New Capital apart from the the completely external new capital. Also there is conceptual difference between cost cutting and raising capital through operational measures. Cost cutting results in a direct reduction in the Assets of the company. Raising capital through operational means need not! The number of resources and the types of resources today’s business capital come in a wide variety. The selection of the the type of capital, the specific company or refund should be made in line with the financial strategy of the company.
The various resources for a business to raise capital
The key cost reduction elements of the financing strategy
1. Make available the capital which can predict your resources for efficient and effective operations
2. Reduce the cost of capital
3. Reduce the cost of raising capital
Apohan provides the consulting services strategic financing of the capital of a new project, of a new business or of an existing business.