HOW MUCH CAPITAL DO I NEED?
To start your new business or to expand your existing business you will need to inject person capital. Discover how much capital you will need to start your project, and how much you will need to finance.
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HOW MUCH CAPITAL WILL I NEED?
(c) Joel Johnson, Management and Marketing Consultant
To determine the amount of money you will need to start your project, you must first determine what you are trying to accomplish, and within what time frame. Knowing this information will help you determine the size of the project and the cost involved.
You will also need to decide how much money you will need to earn to make it worth your while to start your new venture. After you have made these choices, and have determined your entity, you will need to find financial data that shows national averages for profit and loss in your chosen type of business.
A good place to find this information is in the Robert Morris Associates book of financial ratios for businesses of all types. You will find this book is available at most libraries. This is the book that some call "the bankers bible". This is the book that most bankers refer to, to find the average ratios and to compare your business projections to those ratios. You will need to find the business category by SIC code (Standard Industrial Classification number) and make note of all this vital information.
Once you have determined the average or "reasonably assumed" net profits for a business in your category, "widgets" or whatever, you will be able to determine the amount of sales volume or total revenues you will have to achieve in order to reach your personal financial expectations. The needed revenues to reach your goals will, for the most part, be the one factor that you will have to work from to determine the size of your project and the cost involved.
It is very important to do your homework. Determine the size of the market for your product or service. Especially in your service area. You will then need to decide what portion of the total market you can capture. After all, you will have to take business away from established businesses in order to make your business work. So a good competitive analysis is very important. The question that needs an answer is, "how much can I reasonably expect to capture?" Five percent...ten percent? If the answer to the question shows a volume in revenues less than required, you might ask yourself if this is a good idea. Don't kid yourself! It is best to underestimate than to over estimate your ability to capture your share of the market. After all, competition is not going to just lay there while you take their business. They will fight!
Let's say you need to earn, for yourself, take home, net income of $100,000., for the first year. And, let's further agree, for the purpose of this example, that the average net profits after taxes for your business category is 10% of sales, the average payroll expense for you business category is 10%, which would include all employees pay, and a portion of your personal annual pay, with the rest coming from net profit earnings.
You would, naturally, want to leave some of the net profits in your business to cover cash flow challenges such as, slow business cycles, unexpected emergencies, new equipment, if required, and interest and principle expense. So, let's assume that you will leave half of your net profits for this purpose. Let's also assume you will pay yourself a salary equal to 6% of sales plus one half of the net profits, which would total 11% of total revenues. (This would be considered high for most industries, but for the sake of this example we will use it.) In this example you would have to produce a little over $975,000. in sales revenue to achieve this personal income for the first year.
In order to produce $975,000. in sales the first year, (assuming you will be moving a product) you would have to invest in inventory, startup cost, capital equipment, the right location, marketing, etc. In order to determine these cost, you would need to know what most companies in your category achieve in turn rates (the number of times the total inventory is turned in a year) and how much the average gross margin is, as a percent of sales. If your net profit (what you have left after all expenses) is 10% of sales, it stands to reason that your total operating expense would be 90% of sales.
What will you be required to invest, in personal assets and cash, to achieve this goal?
|Start-up Expense -Rent, Adv., Utilities, Office supplies, wages, etc.||
|Inventory - Merchandise & parts for resale||
|Capital Equipment - Machinery, Buildings and other long term assets, etc.||
|Less: Personal Cash and cash-in-kind Injection of 30%||
When obtaining loans for a new startup, you will discover that the effort can be very frustrating. The reason! Seventy percent of all new businesses fail. That means the bank or your investors are sitting at a poker table where their chances of losing are 70%. Therefore, it is easy to understand why you will need between 30% and 50% (depending on your personal credit rating and your ability to service loan debt even if there are no sales. Bankers love this edge.) as a personal injection. In most cases 30% of the project is considered a fairly good equity injection.
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