Home

Earning Money From Home

Earning Money From Home

Whatever the type of business you plan to start, you will need to find some money to finance it.

Part of this will be needed to cover the cost of equipment and materials, and part to cover your own living costs until the business is bringing in a regular income. You will need to establish whether you can raise all this money yourself, or whether you will need to obtain a loan (or grant) for some of it. To do this, you will need to calculate how much capital you yourself can raise. When working this out, remember to include the value of all of the following:

• Cash
• Savings
• Stocks and shares
• Your car
• Insurance policies which can be cashed in
• Any other material possessions which could be sold (e.g. jewellery).

From this you will need to deduct any:

• Other outstanding loans
• Bills due for payment.

This will give you a figure for your total net worth. Of course, this is just a theoretical maximum, and it may neither be necessary nor desirable to put all this money into the business in practice. For example, if you have an old car, it may be more valuable to you and your business as a means of transport than whatever price you could sell it for. If you redeem a life insurance policy early, you may end up receiving a very poor return for the money you have paid in. The same applies if you sell stocks and shares at the wrong time (i.e. when the price is low). Nevertheless, if you really do need to raise the maximum possible, the calculation will give you some idea of how much this would be.

Capital Requirement

Having worked out the maximum you could raise, you must now compare this with the total amount of money you will need to start your business - your capital requirement. Once you have done this, you will be able to make plans for how you will bridge the gap.

Your capital requirement will be made up of two things. These are:

1. Permanent capital - This is money needed for the purchase of equipment, vehicles and so on which will become permanent possessions of the business, otherwise known as fixed assets. For many businesses the largest fixed asset they require is premises. Clearly this will not be an issue with a home-based business!

2. Working capital - This is money needed to meet the day-to-day running costs of the business. Running costs include such things as printing, postage, stationery, telephone bills, raw materials, and so on.

Running costs also include the money you need just to cover your own living expenses. Often this is more than you might think.

Raising Money from Other Sources

Having calculated (1) how much capital you can raise, and (2) how much you need to start the business, you should now have a good idea of how much money you need to find from other sources. Knowing this figure is important, because it will have a considerable bearing on how you proceed next.

If you need to raise a relatively large proportion of the total, and this money is required for investment in fixed assets such as a computer, vehicle or special equipment, your need is for permanent, long-term capital. While you may be able to raise some of this by means of a loan through a bank or other financial institution, you might also need to find a backer or partner willing to provide capital which will be permanently invested in the business. This may mean that you form a partnership or limited liability company with other participants, rather than operating on your own as a sole trader.

On the other hand, if your needs are proportionately small and the finance is required mainly for working capital (as will be the case with most home-based businesses), you may be able to negotiate the necessary bank overdraft facilities to cover these, while finding most of the permanent capital yourself. In this case, you may choose to operate as a sole trader to keep complete personal control of the business.

Borrowing Money

It is no disgrace if you find you need to borrow some money when starting out. Few businesses are able to operate solely on the owner's funds. Those who try frequently fail because they are undercapitalised (that is, they do not have sufficient capital to meet their working requirements). Most businesses have to borrow to some extent. What is generally needed is:

(a) A mixture of long-term and short-term finance, and

(b) A balance between what is provided by the owner of the business and what by outside lenders.

Borrowing needs to be matched with the purpose it is required for. That is to say, if you need money for a short period only, you should apply for short-term finance such as a bank overdraft. This is an agreement with your bank that, over a short period, you can draw out more money than you have in the account, so long as you later pay the money back to the bank with interest. On the other hand, when funds are required for long-term purposes - say the purchase of a vehicle or computer equipment - a long-term loan is likely to be more appropriate.

Different types of finance are suited to different purposes. For example, it would be a mistake to buy expensive machinery with a ten-year lifespan using short-term finance such as a bank overdraft. For one thing, over ten years you would pay much more in interest charges than with a long-term loan; and for another, by doing this you would be tying up a valuable source of short-term finance for things such as working capital. This is summed up in a well-known piece of advice for businessmen: don't borrow short to pay long.

So far as the balance between your own and outside finance is concerned, as a rough guide most financial institutions will expect you to put up at least half the total cost of any business venture. The exact amount they will be prepared to lend you is governed by a range of factors, including the type of business you propose to start, your past business and financial record, how much security you can offer against the loan, and so on.

Types of Finance

There are three broad categories of finance, short-, medium- and long-term. Let's look at each of these in turn.

(1) Short-term Finance (up to one year)

This is normally used for such things as:

• Financing seasonal/cyclical fluctuations in trade
• Financing general working capital requirements
• Purchasing minor fixed assets with a short working life
• Providing temporary, bridging finance while long-term finance is arranged.

There are many potential sources of short-term finance. The most common are listed below.

Overdrafts - a bank overdraft, already mentioned, is the most popular form of short-term finance. Overdrafts have the advantage of being simple to set up, and are also very flexible. Generally speaking, the bank specifies a maximum you are allowed to borrow up to, and you can use as much or as little of this as you require. On the other hand, interest rates for overdrafts are generally higher than for medium or long-term loans, and they are repayable on demand. This makes them unsuitable for long-term borrowing.

Trade credit - most suppliers are willing to extend credit terms to business customers. That is to say, they will allow customers a certain period of time - thirty days perhaps - from delivery before requiring payment. In effect, therefore, this is a short-term loan. If you go beyond the agreed period, however, interest may be charged and, ultimately, trade terms may be withdrawn.

Hire purchase - this is a way of purchasing items by instalments. By paying an initial deposit and regular sums over a period of time, a business acquires ownership of the goods. The business has use of the goods from the initial deposit, but they do not officially become the property of the business until the final instalment has been paid.

Leasing - this is a method of financing the use of an asset rather than its actual purchase. It is used by businesses to finance things such as motor vehicles, computers, photocopiers and machinery. The leasing company retains ownership of the items, and charges the business a rental for their use. Leasing finance may be short- or medium-term, according to the duration of the lease.

Factoring - this is a popular source of short-term finance for established businesses. Companies known as 'factors' take over the business's trade debtors in exchange for an agreed reward (usually a percentage of the amount outstanding). This means that the business has the use of money owed to it immediately, and does not have to spend its time pursuing overdue accounts. As mentioned, factors are only concerned with taking over a business's trade debtors, so this form of finance will not be of interest if you are just starting out.

(2) Medium-term Finance (1-5 years)

This is normally used for financing fixed assets with medium-term life such as cars and computer systems, and meeting increased working capital requirements. It may also be used to replace a persistent overdraft.

The main source of medium-term finance is bank loans, which are usually repaid by monthly instalments. Loans may be made at a fixed interest rate, where the amount of each repayment is fixed at the beginning of the loan and cannot alter; or at a variable rate, where the interest rate can go up or down according to economic conditions, with monthly repayments varying accordingly. Fixed rate loans make budgeting easier; but if interest rates generally fall, there is a risk of getting locked into a situation where you are paying for your loan at a rate which is no longer competitive. Bank loans are typically given over a period matching the expected life of the asset they are to purchase.

(3) Long-term Finance (over five years)

Long-term finance is used for financing major fixed assets with a long life and for providing semi-permanent working capital. The main sources of long-term finance are bank loans, mortgage loans and equity finance (share issues). Most home-based businesses are unlikely to require long-term finance when starting up, though it may become relevant if you subsequently decide to expand, perhaps into specialist business premises.