Module -5

7 sources of Start-up financing/Entrepreneur Business.

Putting all your eggs in one basket is never a good business strategy. This is especially
true when it comes to financing your new business. Not only will diversifying your
sources of financing allow your start-up to better weather potential downturns, but it will
also improve your chances of getting the appropriate financing to meet your specific
needs.
Keep in mind that bankers don't see themselves as your sole source of funds. And
showing that you've sought or used various financing alternatives demonstrates to
lenders that you're a proactive entrepreneur.

Whether you opt for a bank loan, an angel investor, a government grant or a business
incubator, each of these sources of financing has specific advantages and
disadvantages as well as criteria they will use to evaluate your business.
Here's an overview of seven typical sources of financing for start-ups:

1. Personal investment
When starting a business, your first investor should be yourself—either with your own
cash or with collateral on your assets. This proves to investors and bankers that you
have a long-term commitment to your project and that you are ready to take risks. An
entrepreneur should also try contributing a substantial part from his side.

2. Love money
This is money loaned by a spouse, parents, family or friends. Investors and bankers
considers this as "patient capital", which is money that will be repaid later as your
business profits increase.
When borrowing love money, you should be aware that:

• Family and friends rarely have much capital

• They may want to have equity in your business
• A business relationship with family or friends should never be taken lightly
3. Venture capital
The first thing to keep in mind is that venture capital is not necessarily for all
entrepreneurs. Right from the start, you should be aware that venture capitalists are
looking for technology-driven businesses and companies with high-growth potential in
sectors such as information technology, communications and biotechnology.
Venture capitalists take an equity position in the company to help it carry out a
promising but higher risk project. This involves giving up some ownership or equity in

1|Page
your business to an external party. Venture capitalists also expect a healthy return on
their investment, often generated when the business starts selling shares to the public.
Be sure to look for investors who bring relevant experience and knowledge to your
business.

BDC has a venture capital team that supports leading-edge companies strategically
positioned in a promising market. Like most other venture capital companies, it gets
involved in start-ups with high-growth potential, preferring to focus on major
interventions when a company needs a large amount of financing to get established in
its market.

4. Angels
Angels are generally wealthy individuals or retired company executives who invest
directly in small firms owned by others. They are often leaders in their own field who not
only contribute their experience and network of contacts but also their technical and/or
management knowledge. Angels tend to finance the early stages of the business with
investments in the order of $25,000 to $100,000. Institutional venture capitalists prefer
larger investments, in the order of $1,000,000.
In exchange for risking their money, they reserve the right to supervise the company's
management practices. In concrete terms, this often involves a seat on the board of
directors and an assurance of transparency.

Angels tend to keep a low profile. To meet them, you have to contact specialized
associations or search websites on angels. The National Angel Capital
Organization (NACO) is an umbrella organization that helps build capacity for Canadian
angel investors. You can check out their member’s directory for ideas about who to
contact in your region.

5. Business incubators
Business incubators (or "accelerators") generally focus on the high-tech sector by
providing support for new businesses in various stages of development. However, there
are also local economic development incubators, which are focused on areas such as
job creation, revitalization and hosting and sharing services.

Commonly, incubators will invite future businesses and other fledgling companies to
share their premises, as well as their administrative, logistical and technical resources.
For example, an incubator might share the use of its laboratories so that a new
business can develop and test its products more cheaply before beginning production.

Generally, the incubation phase can last up to two years. Once the product is ready, the
business usually leaves the incubator's premises to enter its industrial production phase
and is on its own.

2|Page
Businesses that receive this kind of support often operate within state-of-the-art sectors
such as biotechnology, information technology, multimedia, or industrial technology.

MaRS – an innovation hub in Toronto – has a selective list of business incubators in

Canada, plus links to other resources on its website.

6. Government grants and subsidies

Government agencies provide financing such as grants and subsidies that may be
available to your business. The Canada Business Network website provides a
comprehensive listing of various government programs at the federal and provincial
level.
Criteria
Getting grants can be tough. There may be strong competition and the criteria for
awards are often stringent. Generally, most grants require you to match the funds you
are being given and this amount varies greatly, depending on the granter. For example,
a research grant may require you to find only 40% of the total cost.

Generally, you will need to provide:

• A detailed project description

• An explanation of the benefits of your project
• A detailed work plan with full costs
• Details of relevant experience and background on key managers
• Completed application forms when appropriate
Most reviewers will assess your proposal based on the following criteria:

• Significance
• Approach
• Innovation
• Assessment of expertise
• Need for the grant
Some of the problem areas where candidates fail to get grants include:

• The research/work is not relevant

• Ineligible geographic location
• Applicants fail to communicate the relevance of their ideas
• The proposal does not provide a strong rationale
• The research plan is unfocused
• There is an unrealistic amount of work

3|Page
• Funds are not matched
7. Bank loans
Bank loans are the most commonly used source of funding for small and medium-
sized businesses. Consider the fact that all banks offer different advantages, whether
it's personalized service or customized repayment. It's a good idea to shop around and
find the bank that meets your specific needs.

In general, you should know bankers are looking for companies with a sound track
record and that have excellent credit. A good idea is not enough; it has to be backed up
with a solid business plan. Start-up loans will also typically require a personal guarantee
from the entrepreneurs.
BDC offers start-up financing to entrepreneurs in the start-up phase or first 12 months of
sales. You may also be able to postpone the principal payments for up to 12 months.

Q) What do you mean by Loan Syndication ?

Loan syndication is the process of involving a group of lenders in funding various portions of
a loan for a single borrower. Loan syndication most often occurs when a borrower requires an
amount too large for a single lender to provide or when the loan is outside the scope of a
lender's risk-exposure levels.

What Is a Syndicated Loan?

A syndicated loan, also known as a syndicated bank facility, is financing offered
by a group of lenders—referred to as a syndicate—who work together to provide
funds for a single borrower. The borrower can be a corporation, a large project,
or a sovereign government. The loan can involve a fixed amount of funds, a
credit line, or a combination of the two.

Syndicated loans arise when a project requires too large a loan for a single
lender or when a project needs a specialized lender with expertise in a specific
asset class. Syndicating the loan allows lenders to spread risk and take part in
financial opportunities that may be too large for their individual capital base.
Interest rates on this type of loan can be fixed or floating, based on
a benchmark rate such as the London Interbank Offered Rate (LIBOR). LIBOR is
an average of the interest rates that major global banks borrow from each other.

Understanding a Syndicated Loan

In cases of syndicated loans, there is typically a lead bank or underwriter, known
as the arranger, the agent, or the lead lender. The lead bank may put up a
proportionally bigger share of the loan, or it may perform duties such as
dispersing cash flows among the other syndicate members and administrative
tasks.

4|Page
The main goal of syndicated lending is to spread the risk of a borrower default
across multiple lenders or banks, or institutional investors, such as pension funds
and hedge funds. Because syndicated loans tend to be much larger than
standard bank loans, the risk of even one borrower defaulting could cripple a
single lender. Syndicated loans are also used in the leveraged buyout community
to fund large corporate takeovers with primarily debt funding.

Q) What do you mean by Consortium Finance. What is the mechanism of Consortium

Finance?

When a company or a firm is in need of huge finance it approaches more than one bank for
providing the finance and when two or more banks join together and extend the loan
facilities by sharing the loan amount between themselves, it is called as consortium
financing.

This reduces the risk for each bank. The banks jointly process the application of the
borrower and sanction the advance

The bank which provides more finance is called as the leader of the consortium and the
leader is responsible for coordinating the members of the consortium in sorting out the
nature of limits, rate of interest to be charged, securities to be charged etc.,

Example:

ABC firm is in need of Rupees 100 crores for the development of business and individual
banks are not interested to provide the loan

The firm now approaches four banks and the four banks are willing to lend jointly to ABC
firm and provide the requisite finance. The allocation of finance is settled amongst the
banks

The bank which provides more finance is known as the leader bank

Separate loan documents will be signed between the banks and the borrower

However, the borrower will offer one common security for all banks

In the case of syndicated form of lending, instead of individual loan documentation, there
will be common loan documentation and other conditions remain the same

Q) What do you mean by venture capital?

5|Page
Venture capital is a form of private equity and a type of financing that investors provide
to startup companies and small businesses that are believed to have long-term growth
potential. Venture capital generally comes from well-off investors, investment banks
and any other financial institutions.

Venture capital generally comes from well-off investors, investment banks and
any other financial institutions. However, it does not always take a monetary
form; it can also be provided in the form of technical or managerial expertise.
Venture capital is typically allocated to small companies with exceptional growth
potential, or to companies that have grown quickly and appear poised to continue
to expand.

Though it can be risky for investors who put up funds, the potential for above-
average returns is an attractive payoff. For new companies or ventures that have
a limited operating history (under two years), venture capital funding is
increasingly becoming a popular – even essential – source for raising capital,
especially if they lack access to capital markets, bank loans or other debt
instruments. The main downside is that the investors usually get equity in the
company, and, thus, a say in company decisions.

Basics of Venture Capital

In a venture capital deal, large ownership chunks of a company are created and
sold to a few investors through independent limited partnerships that are
established by venture capital firms. Sometimes these partnerships consist of a
pool of several similar enterprises. One important difference between venture
capital and other private equity deals, however, is that venture capital tends to
focus on emerging companies seeking substantial funds for the first time,
while private equity tends to fund larger, more established companies that are
seeking an equity infusion or a chance for company founders to transfer some of
their ownership stakes.

The Venture Capital Process

The first step for any business looking for venture capital is to submit a business
plan, either to a venture capital firm or to an angel investor. If interested in the
proposal, the firm or the investor must then perform due diligence, which includes
a thorough investigation of the company's business model, products,
management, and operating history, among other things.

Since venture capital tends to invest larger dollar amounts in fewer companies,
this background research is very important. Many venture capital professionals
have had prior investment experience, often as equity research analysts; others
have a Master in Business Administration (MBA) degrees. Venture capital

6|Page
professionals also tend to concentrate in a particular industry. A venture capitalist
that specializes in healthcare, for example, may have had prior experience as a
healthcare industry analyst.

Once due diligence has been completed, the firm or the investor will pledge an
investment of capital in exchange for equity in the company. These funds may be
provided all at once, but more typically the capital is provided in rounds. The firm
or investor then takes an active role in the funded company, advising and
monitoring its progress before releasing additional funds.

The investor exits the company after a period of time, typically four to six years
after the initial investment, by initiating a merger, acquisition or initial public
offering (IPO).

Role played by Commercial banks for the Entrepreneurs.

The importance of entrepreneurship has magnified in today’s economic climate.
It introduces a crucial element of dynamism, particularly into an economic
system. Entrepreneurs are often regarded as national assets who are motivated
and rewarded to the greatest possible extent mainly because they contribute in
terms of innovation, jobs and improve the conditions for a prosperous society.

The Indian government is also pushing and encouraging young Indian to start
their own business or undertake ventures which have increased the role of a
financial institution. Now the banks have to meet the need of financial
assistance to a new startup company.

There is no denying that activities of banks reflect their unique role as the kick-
starter of growth in any economy. Commercial and specialized banks always
play an important role in the growth and development of entrepreneurship.
Apart from providing financial assistance, banks also give valuable inputs to
support and promote their enterprise.

We shall now examine their role in developing entrepreneurship and for the
purpose of convenience and proper understanding, the roles can be divided in
the following category.

7|Page
 1) Statute Laws

It’s is one of the main reason why banks were created in the first place. The
roles such as accepting of deposit, safekeeping assets but more importantly
giving of loans and advances make them a key element in the growth.
Commercial banks will be providing security for the customer’s money and at
the same time giving entrepreneurs the opportunity to use their deposits to
borrow more fund in order to run their enterprises without any hassle. A good
payment system is essential for the efficient functioning of an economy. And
with the advancement of technology, the speed of service has greatly improved.

The growth of digital banking has reduced the cost of starting/doing business
tremendously. This has greatly helped entrepreneurs in modern days. It is also
very helpful for those involved with businesses on foreign soil.

For instance, most international businesses are conducted on credit, with

payment later. Commercial Banks offer a quick foreign exchange – a service
where money is transferred to any part of the world on behalf of the banks’
clients. With banks playing this crucial role, they have now become a very
important part of promoting entrepreneurial development.

2) Financing Roles

Not all entrepreneurs are from a sound financial background. Most will need
initial loans on reasonable interest rate in order to generate capital to start their
venture or enterprise. It is self-explanatory but without funds, entrepreneurs
cannot grow, and this is where banks, particularly commercial banks play a
significant role in the lives of entrepreneurs. Once an enterprise or business is
set-up, then comes the important part, funding the cash cycle.

There will be a delay in cash after selling products due to credit period provided
to customers. But entrepreneurs will have to make payments upfront to service
providers. Banks will help in providing working capital assistance that becomes
the lifeline of companies. Apart from that, banks will also provide financial help
on regular basis like during expansion or play the role of middleman to connect
entrepreneurs. Banks can connect people with huge pockets to people with great
ideas. Banks are great advisers as well, they can suggest young entrepreneurs

8|Page
invest their money on shares or commodities to earn more and without any
interest rate.

3) Counseling

Since banks have professional and specialized status, they are in a strong
position to advise entrepreneurs on sustainable lines of investment by analyzing
the pro and cons of each investment as well as management of investment of
customers. This is one of the key roles of banks in the development of
entrepreneurs as many enterprises/businesses fail to succeed because of faulty
investment decisions, mismanagement of funds, inefficient capital and poor
planning.

Banks will always remain crucial to the growth and advancement, plus their
operations offer a rock-hard backing which is capable of entrepreneurs in
profitable and viable ventures. Commercial and specialized banks contribute
significantly and positively in advising and providing loans for the development
of entrepreneur in India. They are essential for the survival and growth of
entrepreneurship in the country.

4) Business Investment Promotion Roles. Because of the specialized and

professional status of banks, they are in a position to play investment promotion
roles to entrepreneurs. Such roles may include management of investment for
customers, advice on sustainable lines of investment to follow by analyzing the
pros and cons of each investment alternatives to the entrepreneur-customer.
5) Advisory, Guaranty and Consultancy Roles. In addition to the normal lending
and other service, banks now also engage in business advisory, guaranty and other
consultancy services which help immensely in the promotion and financing of
entrepreneurship activities in the country. It is well known fact that some
enterprises/businesses fail simply because of mismanagement, faulty investment
decisions, inefficient capital and foul planning etc.
6. Other areas Other areas in which banks could offer advisory and consultancy
services to the SMEs include methods of control systems or measures to be
adopted by the enterprises with respect to defined lines of business or trend of
challenges. Advice on methods of raising capital or reorganization of a company to
bring about the desired level of efficiency. Advice on tax and tax related matters.
Status enquiry services could be offered to effect credit purchases within the

9|Page
PROCEDURE FOR LOAN APPRAISAL FOR ENTREPRENEURS
STEP I - SUBMISSION OF LOAN APPLICATION
The financial institutions require that an entrepreneur seeking financing assistance
should furnish detail information about the project in a prescribed form the
borrower submits an application form that seeks comprehensive information about
the project. The application form covers the following aspects:
 Promoter’s background
 Particulars of the industrial concern
 Particulars of the project (Capacity, process, technical arrangements,
management, location, land and building, plant & machinery, raw materials, labour
& implementation schedule)
 Cost of the project
 Means of financing
 Marketing and selling arrangements
 Profitability and cash flow
 Economic considerations
 Government consents

STEP II - INITIAL PROCESSING OF LOAN APPLICATION

When the application is received, an officer of the financial institution reviews it to
ascertain whether it is complete for processing. If it is incomplete the borrower is
asked to provide the required additional information. When the application is
considered complete, the financial institution prepares a ‘flash report’ which is
essentially a summarization of the loan application. On the basis of the ‘Flash
Report’, it is decided whether the project justifies a detailed appraisal or not.

STEP III - APPRAISAL OF THE PROPOSED PROJECT

The detailed appraisal of the project covers the Marketing, Technical, Financial,
Managerial, and Economic aspects. The appraisal memorandum is normally
prepared within two months after site inspection. Based on that a decision is taken
whether the project will be accepted or not.

STEP IV - ISSUE OF THE LETTER OF SANCTION

If the project is accepted, a financial letter of sanction is issued to the borrower.
This communicates to the borrower the assistance sanctioned and the terms and
conditions relating thereto.

10 | P a g e
STEP V - ACCEPTANCE OF THE TERMS & CONDITIONS BY
BORROWING UNIT
On receiving the letter of sanction from the financial institution, the borrowing unit
convenes its board meeting at which the terms and conditions associated with the
letter of sanction are accepted and an appropriate resolution is passed to that effect.
The acceptance of the terms and conditions has to be conveyed to the financial
institution within stipulated period.

STEP VI - EXECUTION OF LOAN AGREEMENT

The financial institution, after receiving the letter of acceptance from the borrower,
sends the draft of the agreement to the borrower to be executed by the authorized
persons and properly stamped as per the Indian Stamp Act, 1899. The agreement,
properly executed and stamped, along with other documents as required by the
financial institution must be returned to it. Once the financial institution also signs
the agreement, it becomes effective.

STEP VII – DISBURSEMENT OF LOANS

Periodically, the borrower is required to submit information on the physical
progress of the projects, financial status of the project, arrangements made for
financing the project, contributions made by the promoters, projected funds flow
statement, compliance with various statutory requirements, and fulfillment of the
pre-disbursement conditions. Based on the information provided by the borrower,
the financial institution will determine the amount of term loan to be disbursed
from time to time. Before the entire term loan is disbursed, the borrower must fully
comply with all the terms and conditions of the loan agreement.

STEP VIII - CREATION OF SECURITY

The term loans (both rupee and foreign currency) and the deferred payment
guarantee assistance provided by the financial institutions are secured through the
first mortgage, by way of deposit of title deeds, of immovable properties and
hypothecation of movable properties. As the creation of mortgage, particularly in
the case of land, tends to be a time consuming process, the institutions permit
interim disbursements against alternate security (in the form of guarantees by the
promoters). The mortgage, however, has to be created within a year from the date
of the first disbursement. Otherwise, the borrower has to pay an additional charge
of 1 per interest.

STEP IX - MONITORING
Monitoring of the project is done at the implementation stage as well as at the
11 | P a g e
operational stage. During the implementation stage, the project is monitored
through:
1. Regular reports, furnished by the promoters, which provide information about
placement of orders, construction of buildings, procurement of plant, installation of
plant and machinery, trial production, etc.
2. Periodic site visits
3. Discussion with promoters, bankers, suppliers, creditors, and other connected
with the project
4. Progress reports submitted by the nominee directors, and
5. Audited accounts of the company.

During the operational stage, the project is monitored with the help of:
(i) Quarterly progress report on the project
(ii) Site inspection
(iii) Reports of nominee directors
(iv) Comparison of performance with promise.

The most important aspect of monitoring, of course, is the recovery of dues

represented by interest and principal repayment.

12 | P a g e