By Timi Olubiyi, Ph.D.
In Nigeria, apart from the known business challenges such as decrepit infrastructure, inconsistent government policies, double taxation, regulation irregularities and the COVID-19 pandemic disruptions in recent times, overwhelmingly, lack of capital or funding issues contribute majorly to business failures. According to findings of several surveys, one of the top challenges faced by entrepreneurs and businesses in Nigeria today is access to funding.
Seemingly, funding is the bloodline of any form of business, therefore, whether it is a start-up, nano, micro, small or medium-sized business, or an established large firm, knowing how to raise capital can often make the difference between business success and failure. In fact, funding is important at all business stages and cash, which is most time referred to as “capital” in business terms, majorly dictates the pace of performance in any business. Simply put capital is the energy source that all businesses need to operate, grow and mature into strong, vibrant enterprises.
Invariably, without funding or capital, it will be extremely difficult to get any enterprise off the ground. However, the structure that exists in the business significantly affects the access to the choice of fund options. Recall that every business has different structures and needs. It is, therefore, imperative to state that no financial solution is one size fits all; fund options usually require different rules and steps. Consequently, businesses will be required to carefully plan, research, learn, and understand the necessary funding option in order to come up with the right decision.
So, the big question for businesses is what are the ways to adequately raise capital for seamless operations? And this is the focus of this piece. Capital comes into any business in two ways: as equity and as debt. However, donations, grants, incentives, interventions, or subsidies can also be employed in certain aspects of a business to encourage activities in particular industries or sectors by government. Some government agencies and institutions responsible for this include, the Bank of Industry (BOI), The Nigerian Export Promotion Council (NEPC), The Central Bank of Nigeria (CBN), Bank of Agriculture (BOA), Small and Medium Enterprises Development Agency of Nigeria (SMEDAN), Development Bank of Nigeria (DBN), Nigerian Export-Import Bank (NEXIM), among others. Just like other forms of capital raising options, these grants and subsidies can be initiated for either short-term or long-term purposes.
That said, equity capital involves exchanging a portion of the ownership of the business for financial investment in the business, most times it involves selling shares of the company in exchange for funding. Equity capital is raised when a business sells its shares to investors. The ownership stake resulting from this equity investment allows the investor to share in the company’s profits. Equity capital is usually a cheap form of funding and is an important source of capital on a long-term basis. However, sometimes it involves going public, getting listed on an Exchange, and also giving up partial or major control of the business.
On the other hand, debt capital is when a business borrows fund from individuals or institutions and agrees to pay them back later. Debt capital simply means loans and borrowings. The main consideration in debt capital is the ability of the business to generate sufficient returns to service the debt (interest and capital repayment). A typical mode of raising debt capital is through bank loans. Banking institutions provide loans to individuals or businesses who approach them with a solid business plan, and good business structure with capacity for repayment. Bond is equally a debt instrument, and a way of raising debt capital as well. Without doubts, it belongs to debt capital categorization because the authorized issuer (business) owes the bondholder debt and it depends on the terms of the bond issuance. The most significant difference between equity and debt is that, unlike debt, equity capital does not require an amortization schedule for repayment. More so, equity capital involves the investor taking an ownership position in the business.
Significantly, there are several sources to consider when seeking business funding or any financing, some of it are expressed here. The easiest and starting point for small businesses from context observation is usually with self-funding and personal investment, where entrepreneurs leverage their financial resources to support business operations. Self-funding can extend to family, associates and friends for capital, otherwise referred to as bootstrapping. Both self-funding and bootstrapping lets business managers, operators, and entrepreneurs leverage their financial resources to support the business operations.
Further to this is angel investment, where investors who are generally wealthy individuals or retired business executives invest directly in a business or start-ups owned by others. These angel investors are often leaders in their field who not only contribute their experience and network of contacts but also their technical and/or management knowledge. Most times this form of capital raising is in exchange for equity ownership in the business and an active management role.
Also, trade credit is another significant form of capital raising option where business suppliers are willing to transact or sell on credit. Such credit may range anywhere from one month to three months or as agreed. This is a very good method for businesses to fulfil short-term funding needs. It is an inexpensive method of funding for any business, I must say. Further to this is private equity investment, where private equity firms raise equity capital that is not listed on any Stock Exchange for investment purposes. Invariably, these firms raise funds from investors and then invest these funds in promising start-ups and businesses that require capital. The drawback of this funding option is that a controlling position or substantial minority position in the business is usually acquired and then look to maximize the value of their investment. Thus, the entrepreneur might not have sole control over the business decisions, which may lead to conflict. Looking at another capital raising option is retained earnings as a way of raising finance, it simply means businesses can reinvest any set-aside profits for business operations for expansion, equipment purchase, and development purposes.
In recent times, the use of crowdfunding to fund business operations is on the rise, where a large number of subscribers, called crowd funders, contribute or invest in a company or project. A typical example of crowdfunding is proposing subscribers to invest N1000, and even if 1000 people invest, the business can raise N1,000,000 easily. Crowdfunding is getting popular because it is low risk for business owners and full business control is retained. The crowdfunding continues to gain popularity with the rise of social media and internet because it became easier to reach several people by putting in minimum effort through this medium.
Some not too popular funding options include invoice factoring sometimes referred to as invoice advances which is an option where a business sells its receivables at a discount to get cash up-front. It allows businesses to borrow funds against the value of invoices due from customers. Invoice factoring can be a great option if you have many corporate clients who have long payment terms or tend to pay as late as possible. In addition to this is business overdrafts, which can be an ideal source of finance for short-term funding. An agreed overdraft lets businesses use their current business account to make payments that exceed their available balance in the bank. Another similar source of short-term capital raising is the business credit card, this is commonly used by structured businesses to access agreed funds on credit in the bank.
Fund withdrawal in life insurance policies and pension funds are other options for entrepreneurs and business owners. Many insurance companies have, in recent years, liberalized their criteria for allowing policyholders to borrow against the value of their policy. There are other methods for funding such as through strategic alliances, getting business loans from microfinance providers, selling assets, access to inheritance, hire purchase/leasing, raising funds by winning contests; through co-operative society is another means; informal contributions (Esusu), gift and donations, franchising, or through on-line financing services are others, but these should be used only if you need funds urgently, you are qualified and know the risks involved.
The key information from this piece is that there are many business funding options available for businesses. Therefore, business owners, managers and entrepreneurs do not have to get discouraged if one does not work out, other options can easily be explored. To find the right fit, in-depth research and adequate due diligence are imperative, having in mind these following questions: How much is really required for the business? When is it required? How long will it take to raise the funds? What are the specific requirements to access the fund? What will the fund be used for? What are the associated risk with the fund type? From whom is best to raise the fund? How expensive is the fund? How and when is repayment? Is the business actually fundable or bankable? Because some fund option may be a perfect fit for a business situation, while others may be completely impractical, therefore due diligence is absolutely required.
Aside from every business having unique funding needs, each funding option also differ in availability, terms, funding amount option, and eligibility criteria. Therefore, each fund option needs detailed attention ahead of time. Whether a business opts for a bank loan, an angel investment, or a government grant, note that each of these sources of financing has specific advantages and disadvantages. Good luck!
Dr. Olubiyi is an Entrepreneurship and Small Business Management expert with a Ph.D. in Business Administration. He is a prolific investment coach, business engineer, Chartered Member of the Chartered Institute for Securities & Investment (CISI), and a financial literacy specialist. He can be reached on the Twitter handle @drtimiolubiyi and via email: firstname.lastname@example.org, for any questions, reactions, and comments.