How to finance a business

09 August 2023 by National Bank
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No matter where you are in your organizational life cycle, there will come a time when you’ll need to find one or more ways to fund a business venture. Knowing how to prepare for it will help you avoid unpleasant surprises and maximize the financing you can access. Here are some tips to help you do just that.

How to identify your financing needs?

The type of financing you need depends on your business’ development stage. Is your business a start-up, an ongoing operation, or are you acquiring or growing? Next, determine the specific needs for which you’re seeking financing; for example, acquiring another business or purchasing equipment. You can then move on to the next step.

How to prepare your financing application?

Prepare or update your business plan

To secure financing, you need to document your project and provide a complete report. If the financial institution or investor you’d like to bring on board doesn’t know you, your business plan needs to be even more solid and in-depth to convince them.

Your projections and current financial situation also need to be included in the document. This information will help establish your business’ ability to repay, which is essential for securing financing. In the case of an acquisition, the financial institution will also want to know how big a down payment you plan to make to purchase the business.

Know the criteria for securing financing

The criteria for securing financing varies depending on the option. Here are the main points you need to keep in mind to prepare. 

  • Your business’ financial performance is evaluated according to different ratios and will sometimes be compared to other players in an industry similar to yours.
  • Your historic level of profitability will let the bank and investors know that your business is able to generate the kind of profits that will allow you to repay loans.
  • To finance a start-up, which doesn’t have a financial history, you should know that a range of factors will be analyzed, including your sector of activity, the size of the target market, and the use or competitive advantage that your product or service will create.
  • You also need to summarize your project and vision. When meeting with your financial institution or potential investors, you’ll need to answer questions related to your marketing and production strategy, your positioning, and your competition.
  • The competency of a business’ management team is a crucial factor if you’re hoping to secure private investment. Investors look to partner with experienced entrepreneurs who can communicate their vision clearly and know how to surround themselves with the right people.

What are the methods of financing a business?

Depending on your business’ development stage, you may have access to different sources of financing. Here are the main ones.

Shareholders’ equity

Shareholders’ equity is a type of financing sourced from personal investments, such as crowdfunding initiatives, pledges from family and friends, and your liquidities. 

  • Personal investments: You can use your savings to finance your project from the start. It’s a good way to show your bank and potential investors that you believe in your business plan and you’re ready to commit to your business. What’s more, keeping a healthy balance of financing sources will ensure that your business starts on the right foot.

To raise the necessary funds, you could always consider using the value of your condo, home, or even your cottage. This kind of financing provides a helpful boost when your business is just getting off the ground. Furthermore, when personal financing is properly segmented, you can deduct the interest for more funding.

  • Proximity capital or “love money”: Your partner, a family member, or a friend can loan you money that you’ll repay once your start-up becomes profitable. To avoid any kind of family conflict, it’s strongly recommended that you set up a very clear shareholder or loan agreement.

A shareholder agreement is vital if the lenders ask you for a share in your business in exchange for their financial contribution.

Equity can also come from accrued business revenue that can be reinvested in the business.

Grants (from financing applications) and government funding

There are different grants and funding programs for businesses available at the federal and provincial levels. For example, certain funding programs encourage businesses to integrate ESG criteria in their strategic plans and accelerate their green shift.

Your account manager at the bank is up-to-date on wage subsidies as well as the financial programs and partners that could potentially benefit you. And they may be able to recommend grants and programs (external link to the Government of Canada website) to round out your financing package.

Good to know: Getting a government subsidy, whether federal or provincial, may encourage your financial institution to be more flexible on certain credit conditions and offer support that’s better suited to your needs.

Bank financing

This is the traditional form of financing. Your account manager will help you determine the bank product that suits your needs to ensure that your financial results are balanced. Generally speaking:

  • Short-term financing should be used for short-term needs. For example, to finance accounts receivable or an increase in inventory, consider an operational line of credit. You could also opt for invoice factoring.

Short-term financing is for one year or less. It facilitates day-to-day operations or helps you answer temporary liquidity needs.

  • For medium-or long-term needs, like funding the purchase of equipment, a business, or a building, a term loan or mortgage loan is preferable. Amortization, which corresponds to the length of time it takes to repay the loan’s principal, will usually run as long as the useful life cycle of the good.

Private financing

Once you’ve received a financing proposition from your bank, you can also choose to partner up with a private investor. Private investment consists of two categories:

  • Venture capital is for businesses that haven’t achieved profitability, or whose project is related to a new technology or process. This is an appealing form of investment, but it’s risky for investors, which is why they expect high returns.
  • Growth or development capital is for businesses that have already launched products and have captured market share. Growth capital is for projects that involve modernization, acquisitions, international development, and business transfers.

In private investment, you must first issue share capital and then sell a stake in your business to the investor.

This person’s participation can be used to buy back some of the owners’ shares or fund important projects, like expanding the business abroad or launching a new flagship product.

In any case, this new partner is now your associate and will help you create value for your business. On average, this type of business arrangement usually lasts between five and ten years.

It's important to remember that investors have different levels of patience and different expectations and strategies. To find the right investor profile for your project, take the time to determine who you want to work with before you even start contacting investment firms. Ideally, you should partner with someone who shares your vision.

To gain some insight, don’t hesitate to talk to entrepreneurs who work with outside investors.

Large corporations

Large corporations can be an important source of financing. They usually have the necessary funds to invest in new projects, while SMEs have the necessary agility to see them through. By working together, the two businesses can establish a win-win dynamic: one will benefit from the funding while the other will gain a stake in emerging tech, for example.

Tax credits

Several federal and provincial investment tax credits can help cover a significant percentage of expenses. For example, those related to innovation or ESG transformation. This includes salaries, fees, equipment, and even capital expenditures. In certain cases, it’s possible to combine credits from both levels of government.

Important: Dates and deadlines must be respected to claim these tax incentives or to amend previous years’ tax returns if they haven’t been claimed in full.

Looking to secure funding for your business? Find out how National Bank can support you in your search for financing.

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