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A Limited Company can raise money by issuing shares to shareholders. Apart from shares, a Company may want to raise finances through other means because, issuing new shares means sharing the ownership of the Company. When you add new shareholders, you lose some of your control, your decision-making powers, and even the Company's profits. In this article of "Path of Education for New Contractors" we look at how Limited Companies can raise finances, without issuing additional shares.
Financing options for Limited Companies can be categorized into two broad categories:
Long term finance refers to funding, which is available for at least a year. Long-term finance is used for large expenditures such as setting up of business, expanding the business, or making large investments. Let's look at the three major long-term financing options.
Just like individuals, a Limited Company can take a loan, and repay it over a period. You can take loans for your Company from banks and community finance institutions. Unlike shares, when you raise capital through loans you don't have to share your profits with the banks. However, you will have to pay an interest on the loan amount.
Interest on the loan will depend on several factors like the amount of the loan and the duration of the loan. Interest will also depend on whether the loan is secured against any other property, such as a house, or whether it is unsecured. If you take a secured loan against another asset, you face the risk of losing the asset to the bank if you don't repay the loan.
For unsecured loans, you need to have a solid business plan and a financial model that should convince the bank about your ability to repay the loan. At a minimum, your business plan should include expected revenues and expenses, rough market size, and business risks and opportunities.
Example 1: GLE offers unsecured loans of up to £25,000 to businesses, including start-ups. Loans are available for purposes such as funding marketing expenses, and buying of equipment or stock. However, you cannot use the loans for research and development, repaying of debts, or travelling abroad for conferences and exhibitions. You have 3 years to repay the loan, and until repayment you will have to pay interest at a fixed rate of 6%. For the first year, your monthly instalment will include only interest as revenues are low during the first year. For the next two years, your monthly instalment will include both the loan and the interest.
You can find information on more loan providers on websites like Better Business Finance and Finding Finance.
For businesses that require expensive equipment, leasing and asset finance is the ideal financing option. The lending company will buy the equipment from the supplier and make it available to you in return of a fixed monthly fee. As such, asset finance is very similar to a mortgage where the asset belongs to the finance company until you make a full repayment. And similar to a mortgage, you can continue to use the asset as long as you are making monthly repayments on time. Asset finance is particularly suited for businesses like gymnasiums, beauty salons, construction, fast food stores, etc.
Example 2: Thomas Valley Asset Finance offers asset and equipment finance to start ups. They offer finance of minimum £3,000. Finance can be used for purchasing equipment like beauty equipment, photocopiers, commercial vehicles, furniture, etc. You can repay the loans between 12 months and 5 years. During the term of the loan, you have to pay monthly fees.
Under this form of financing, a large number of people invest small amounts of money into a new business. To get funding, you have to display your business idea on crowdfunding websites such as Crowdcube, Seedrs, SyndicateRoom, InvestingZone, etc. If the website's registered members like the idea, they will contribute towards your business. An advantage of crowdfunding is it also helps in marketing of your business. A challenge with crowdfunding is that your business idea is out in the open; unless protected with a patent, you face the risk of someone stealing your idea.
Example 3: Crowdcube has successfully funded 152 businesses since its formation in 2010. It has 90,000 registered investors as part of its community. You can raise funds either in the form of shares or loans. To be eligible for financing, you need to submit a business plan, a financial forecast, and a video describing your business pitch. If you are successful in raising funds, you will have to pay 5% of the raised funds to Crowdcube.
Short-term finance is available for the duration of less than a year. Short-term finance is suited for meeting the working capital or short-term financing requirements.
You can take an overdraft facility from the bank. Under an overdraft facility, your bank allows you to spend more than the balance in your account. Overdraft is a popular choice for covering short-term finances. You need to have a current account with a bank to take an overdraft facility. Bank will charge an interest on the money borrowed and may also charge an additional fee. Overdrafts offer a high level of flexibility, and unlike loans, there are no charges for early repayment.
Example 4: The Royal Bank of Scotland (RBS) offers a business current account for start-ups. With this account, it provides an overdraft facility of up to £500 without any fee for the first year. After the first year, there's an annual fee of £50 on an overdraft facility.
Under invoice financing, you can sell your unpaid invoices to an investor for a fee. Invoice financing is offered by independent lenders and also by banks and financial institutions. Invoice financing is of two types.
In this method, your invoice financer takes responsibility of your collections and collects the money from your clients on your behalf. The invoicing financer will buy your invoices by paying 85% of the amount upfront. Once they collect the full amount from the customer, they will pay you the remaining balance in exchange of a fee. Note that with factoring, your customers will know they are dealing with an outside agency for collections.
Example 5: Close Brothers Invoice Finance offers factoring for your invoices where you can fully outsource your sales ledger and collections. You can get 90% of your invoice in cash, immediately upon raising the invoice. The remaining 10% of the invoice amount will be transferred to your account once invoices are collected from your customers. Close Brothers charge interest on the amount due, along with a fixed fee, which is between 0.1% and 2% of the invoice amount.
Under this method, the invoice financer provides you a loan against your invoices. In return, you will have to pay a fee to the financer. Unlike factoring, collection of debts will be your responsibility in invoice discounting. Once you collect the amount from your customer, you repay the amount back to the financer. The loan amount will depend on a pre-decided percentage, which is fixed in the beginning. Invoice discounting is typically suited for large businesses with established sales collection processes.
For businesses that collect payments through credit cards, there are many providers who offer cash advances against future card sales. The financier will buy your future card transactions and offer you cash in return.
Example 6: Bizniz Cash Advance provides advance of up to 1 month's projected credit card revenues. To qualify, you need to have minimum sales of £5,000 of every month, and you have to show at least 12 months of credit card transactions. Another provider of cash advances is First Data Merchant Solutions.
A Limited Company has many financing options to choose from. Your choice of finance will depend on how much finance you need, and the rate of interest being offered. Before choosing any type of finance, you should understand the financing costs in detail.
When it comes to short-term term financing, the requirements are largely dependent on efficient management of debts. A proactive and efficient invoicing and debt collection system leads to lower short-term financing requirements, thereby providing huge savings on interest. If you want to appoint an agency to manage your debts and invoicing, check out Tempo, which provides debt collection and invoicing services under its Limited Company Gold services.
You may also find the following contractor calculators useful for your salary and tax calculations.
If you are looking for accounting support with your new limited company or if you need support setting up your accounts as a contractor, iCalculator recommends Tempo, a solid, dependable company that the team at iCalculator have known and worked with since 2009.