May I Have My Shirt Back Please?

Michael Gifford

Taking stock of your finances before starting a business can be vital to your success.

Everyone who has ever even thought about starting a business has asked themselves at least one question. Whether our business would require us to purchase inventory, equipment, advertising, training, or any of a thousand other items necessary for success, we’ve all had to ask ourselves, “Where am I going to get the money to get my business off the ground?”

The answer to this question can mean the difference between comfortably repaying a reasonable loan or begging someone to return the shirt they took off your back because it was the only collateral you had left. How can you finance your new venture and still keep your entire wardrobe intact?

Don’t Burn That Bridge Yet

First of all, I suggest that, if at all possible, you make sure that you have at least one steady income before jumping into your new business full-time. This may mean that you’ll have to hang on to your current job a little while longer until you can replace the income you’re earning now. Once you get a little taste of the freedom of working for yourself, once you get that first check in your new business, it’s a terrible temptation to want to rush right up to your boss and tell him or her that you’re through. Be careful of that. In this article I’m going to assume that you’ll be starting your business on a part- time basis or that there will be at least one member of your household bringing in a steady income during start-up.

What I’m Not Going to Tell You

You probably thought I’d be directing you to all the different sources available for financing your business. That’s another article. Sure, I could suggest this lending institution or that. I could tell you how to borrow from family and friends. I could advise you regarding terms and rates. I could provide you with information on how to incorporate and sell stock. But I like to go back behind the obvious. It would be fairly easy to borrow money from a credit card or family member or, to some extent, even a bank if you have good credit, but let’s think for a few moments about some serious assessments that you need to take before making a financial commitment.

Assess Your Assets

It’s a good idea to know how much you own anyway so sit down and make a list of all of your assets including checking account balances, savings account balances, certificates of deposit, stocks, bonds, mutual funds, retirement accounts, life insurance policies with cash values, home equity and personal property values. Basically, anything in your possession that has financial value should be counted. You can value personal property either by hiring a CPA to figure the market price of depreciable goods, paying an appraiser to estimate the value of items like jewelry and antiques, or searching for similar items that others have for sale to see how they are pricing them.

As it specifically relates to financing your business, there are two reasons for completing the tasks mentioned above. First, if you want to finance your business without borrowing from others, you’ll be able to see if you have enough cash on hand to get started in the particular business you want to own. If not, you might wish to change businesses or wait until you have more saved up before you start your business. Second, you’ll be able to see what collateral you have available should you decide to borrow the money to finance your business.

I think most people don’t realize how much they possess. Knowing this will help you make your decision regarding where and how to get the money to start out. In addition, this habit of accurate, up-to-date record keeping of your assets will most certainly be appreciated by your family in the event of serious illness or your death.

Assess Your Risk

Why don’t bankers lend money to every businessperson who applies for it? Why would any banker deny funding for a person with rock solid credit? The answer lies in the risk factor involved in the business.

A good friend of mine who was the Vice-President of a major national bank for over 20 years told me that the type of business one wishes to start influences a bank’s decision regarding financing as much as any other facet of the loan application. The reason is simple. You might have great credit. You might have a bundle of assets. But you also might have those ONLY in the beginning. If you were to venture into a highly risky business, it’s possible that it wouldn’t be long until you would be selling those assets and damaging that credit. At that point, your former good financial standing would not mean a thing.

What is a risky business? It could be one that has not been well researched or well planned. It could also be one that involves a high level of liability. There are several factors that come into play here but you need to ask yourself how much you really know about the business you’re wanting to start, how easy or difficult it will be for you to obtain customers, etc.

This is off the subject, but another angle on the risk factor has to do with how much of your time and money you’re willing to risk. Some people want nothing whatsoever to do with risk. They want guarantees all the way. If you’re that type of person, you’d probably find that owning your own business is not for you. I know I’ve strayed from the thrust of this article in writing this, but I fear that some people go into business with their eyes closed to the possibility that they could lose everything. There are very few “sure things” in life. A business is not one of them.

Assess Your Debt Tolerance

Everyone who has applied for a mortgage is familiar with the debt to income ratios which the mortgage companies use to determine how much house you can afford. The last time I applied for a mortgage I was told that my monthly debts plus monthly house payment could not exceed 35-40% of my income. That seems like a reasonable figure. You certainly don’t want your debt to exceed half of your income.

Go ahead and figure your current debt to income ratio. Be sure to include all of your monthly obligations including credit cards, car payments and house payments. I would suggest even including things like insurance and utilities because they are fixed monthly expenses as well. Add all of these together and divide this number by your current monthly household income.

Now figure out how much extra you could pay each month for a loan to get your business started. If your ratio is currently at 30%, how much could you pay each month on a loan and still keep the ratio in the 35-40% range? For example, let’s say that your current household income after taxes is $8,000 per month and all of your monthly obligations equal $2,500. Your current debt to income ratio is 31%. 40% of the $8,000 would equal $3,200. This would mean that you could borrow an amount with a monthly repayment of up to $700 per month.

Once you figure this out, get an amortization schedule or call your banker and find out how much you could finance by paying back said amount of money per month. Try to go for as short a term as possible. A 15 year note may get your payments within your desired range, but it will also cause you to pay a significantly higher amount of interest than a five year or even a 10 year note.

In a day when it’s so easy to get your hands on money through credit card and second mortgage offers, be careful to assess your debt limit. Few things are more stressful than having more debt than you can handle.

Do Your Homework

I am a MAJOR proponent of carefully planning out as much of your business as you can before you ever take the first call or write up the first order. Of course, the best way to finance your new venture is with available cash. However, the fact of the matter is that it is often necessary to borrow to get a business started. While following the steps noted above will not guarantee that you will succeed in your own business or that you will be able to keep that shirt, they will help you plan in such a way that if the shirt IS taken off your back, you’ll at least have another one hanging in the closet for a spare.

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Michael Gifford has been has often been called “The Go To Guy.” In his many years as an entrepreneur, he has been involved in business start-ups, aided in business expansions, registered a patent and trademarks, and authored a number of books and articles. Currently he serves as President of New Heights Marketing, Inc. in Sugar Hill, Georgia. Permission is granted by the author to reprint this article provided that this resource box is included in its entirety.