Authors: Michael Parrish DuDell
Shark Tank Jump Start Your Business: How to Launch and Grow a Business from Concept to Cash (11 page)
Although nobody likes paying taxes, it’s crucial that you keep track of how much you’ll owe and prepare accordingly. There’s nothing worse than thinking you’ve made a profit only to find out that you’ve miscalculated your tax obligations.
Keep in mind, businesses that expect to owe the IRS more than $1,000 are required to pay estimated taxes on a quarterly basis. Assuming your tax rate is somewhere between 25 and 33 percent, if you plan on making more than about
$3,000 in adjusted gross income over the course of the year, you should be paying quarterly taxes. Of course if you end up paying more than you owe, you’ll get a refund for that amount at the end of the year.
| “Taxation only occurs after profits have been made. So worrying about taxes is always a good thing, because it means you’re making money. I would love to have that problem with many of my investments.” |
Even though estimated quarterly taxes are required for many businesses, very often new business owners can’t afford to sacrifice the capital up front and would rather pay all of their taxes at the end of the year. Be aware that if you choose to go this route, you’ll be subject to penalty fees that can range in size and complexity. What’s more, if you don’t pay quarterly taxes, it’s even more imperative to stay on top of your accounting, or you could be stuck with a huge tax bill at the end of the year.
Although any person or business owner can prepare his own taxes, it’s worth spending the extra bit of money to hire an accountant. Tax preparation can be confusing, and even a small mistake can end up costing you big. If you’re starting a corporation, as opposed to a sole proprietorship, partnership, or LLC, you should most definitely seek professional assistance. The process is far too complicated to handle on your own.
No matter the size of your company, you should always keep your business and personal finances separate, which means you’ll need to open a business checking account. The process of setting up a business checking account varies slightly based on your location and incorporation status. However, there are a few key things to consider when shopping for a good one:
Past, present, future: If you already have a relationship with a bank, you may find it most convenient to open a separate business checking account at that institution. But it also doesn’t hurt to shop around and see what the competition has to offer. While you must be realistic about your current financial needs, you should also be looking ahead to the future. Will you need to eventually secure a business loan or additional line of credit? Will this bank help your business grow? Would you rather choose a large corporate institution or a smaller, local establishment? These are all important questions.
Fees and penalties: The fees for personal and business checking vary greatly, even at the same bank. Will you be charged for online banking? Does the bank require a minimum balance? If so, how much? And what will happen if you fall below it? Be vigilant with your banker about getting all the necessary information regarding fees and penalties before signing up. As it turns out, free checking isn’t always free.
Online banking: Banks are no longer just brick-and-mortar operations. Over the last decade, a slew of high-quality Internet banks (or “direct banks”) have popped up online, many with very competitive offerings. Once you’ve assessed your financial needs, you may wish to explore the option of using an Internet bank.
UNDERSTANDING FINANCING
It happens all the time: An ambitious entrepreneur comes up with a brilliant idea and decides to start a company. The first couple months seem to go off without a hitch. Sure, there are long days and the occasional roadblock, but all in all, it’s smooth sailing. And then things slowly start to break down. All of a sudden there seems to be a never-ending flood of unforeseen challenges that eat up precious time and resources. Before long, everything is off-schedule and money is tight. And then it happens: that brutal moment of clarity. The business is quickly running out of funds, and unless more capital can be immediately secured, it doesn’t stand a chance of surviving.
This type of situation occurs more often than you might imagine. In fact, some of the best ideas are never executed, or only half-executed, due to a lack of financial planning. Enthusiasm and optimism are wonderful traits for the entrepreneur to possess, but only when coupled with equal parts wisdom and foresight.
Starting a business, any business, requires capital, money, cash. Some companies will need an abundance of it, while others can get by on the bare minimum. No matter how much
funding your particular business may require, it’s a good idea to have a basic sense of your startup costs prior to launching. Otherwise, you could end up out of business or, worse, bankrupt.
To accurately assess the cost of starting your company, you should consider the whole financial picture. Unfortunately, there isn’t a standard formula for determining expenses, as variables shift depending on location, incorporation status, and business type. There are, however, a few expenses that most business owners can anticipate:
Inventory:
This includes things like raw materials, shipping, packaging, and other expenses related to inventory. If applicable, make sure to also factor in things like shipping insurance, sales commissions, and any warehouse expenses you may incur. Most likely, the majority of these costs will be ongoing throughout the life of your business.
Professional services:
Setting up the legal structure of your business, hiring an accountant or lawyer, acquiring trademarks or patents—all of these should be integrated into the cost of your professional services. This category also includes items like permits and licenses and the hiring of additional outside consultants.
Sales and marketing:
Business cards, stationery, and other general marketing materials are all examples of expenses you should include in your sales and marketing budget. Eventually you’ll need to set up a website, advertise your products or services, and attend industry-related conferences or trade shows. Everything that has to do with marketing or lead generation should be budgeted under this category.
Operational costs:
These can include anything from insurance to utilities. When factoring in your operational costs, make sure not to overlook expenses like rent, furniture, Internet, parking,
office supplies, and other administrative needs your company may have.
Infrastructure:
Depending on your type of business, you may require certain types of machinery, equipment, or other costly pieces of infrastructure. Almost every business will need to purchase computers and various other pieces of technology. Do some basic research to find out how much you should expect to pay for items related to basic business infrastructure, and make sure to account for it in your budget.
When calculating your startup costs, you’ll want to make sure to differentiate the onetime expenses from ongoing costs. Incorporating your business and acquiring the necessary equipment, for instance, are onetime costs, while inventory and rent are ongoing expenses. Therefore, if you’re putting together a six-month budget, you’ll need to factor in the ongoing expenses appropriately.
| “When it comes to startup costs, there are always going to be surprises because you’re on a new journey. Often, first-time entrepreneurs think everyone will love their idea, so they jump right in and risk a lot of money. You’ve got to be realistic. You don’t want to end up with a ware house full of product that nobody’s buying.” |
If you’re struggling to figure out exactly how much money you’ll need to start, you may find it helpful to talk to somebody who has experience launching a similar type of business. While your local competition probably won’t be willing to share information about their costs, it’s likely you can find someone just slightly outside your industry to help. Of course there are plenty of online resources to get you on track as
well, some of which you can find listed in the Tools and Resources section in the back of the book.
If you’ve ever started a business before, you know how easy it is to go over budget. In fact, general wisdom says you should double or triple the original number you come up with, given that even the most prepared business owner can’t anticipate every expense. Begin calculating your budget, and make sure you’ve included all the categories above. The last thing you want is a large, unaccounted-for expense throwing you off budget.
Now that you’ve assessed your startup costs, you may have realized it’s going to cost a lot more money to start your company than you initially thought. That doesn’t have to be a deal-breaker. Whether you’re starting a small home business or a more complicated operation, there are plenty of ways to secure capital, each with its own implications.
When it comes to financing your business, it’s less a matter of right-or-wrong choices and more a matter of which method is more suitable for your particular situation. Before you decide which financing method is right for you, you must first understand your options:
Self-funding:
Your first option is to self-fund the business and take no outside capital. Some of the most successful entrepreneurs in the world have started companies by self-funding—some even prefer it. The primary benefit of not taking an outside investment is that you remain in full control of the business. There’s only one cook in the kitchen, and it’s you! Of course self-funding also comes with the most personal risk. Investing all your savings into a business, for instance, means you could potentially lose it all if the business fails. While
many small business owners start by self-funding their company, most will eventually seek some type of outside financing.
Friends and family:
After self-funding, the next most viable option is to approach friends and family for capital. This can be touchy, mainly because it has the potential to go either way. On the one hand, if the business succeeds, you have the opportunity to make the people closest to you a nice return. But on the other hand, if the business fails, those same people could lose their entire investment.
Before reaching out to friends and family, you must first decide how you wish to structure the deal: as equity or debt. An equity investor becomes part-owner in the company and shares in all the profits. In a debt transaction, the lender becomes a creditor to the entrepreneur and is repaid based on the terms of the agreement. Decide which structure is best for you and your business
before
reaching out to your friends and family for a potential investment.
Crowdfunding:
The newest and most popular type of fundraising, crowdfunding is a collective method of raising capital in which a large group of people pool their money together to fund a single project or business. Almost always fueled by technology, crowdfunding has become one of the very best methods of raising capital, especially in the tech sector. When crowdfunding a project, investors do not typically receive equity or repayment. Instead, they’re offered a variety of incentives based on their respective investment level. If you were raising money to start a pretzel business, for instance, participants might receive a box of your first batch or get the opportunity to name one of the products.
“Crowdfunding is something every entrepreneur should look into, no matter what type of business they’re starting,” says Barbara Corcoran. “It’s the new frontier of financing.”
Although crowdfunding is relatively new, it can be incredibly effective. In fact, some companies have raised millions of dollars using platforms like Kickstarter and Indiegogo.
Angel investment:
After dipping into your personal funds and the funds of those in your network, you may find you need help from an angel investor or venture capitalist. An angel investor is typically a wealthy individual who uses her own money to invest in a company. While an angel investor may provide less funding than a venture capitalist, he also demands less control. Most angels, for instance, do not require a seat on your board (if you even have a board) and carry out a much shorter and simpler diligence process. By and large, angel investors tend to be more flexible than venture capitalists, but also less able or willing to give very large sums of money (i.e., over $1 million). In exchange for their funds, angels typically seek equity ownership or convertible debt—debt that can be converted into equity at a later point in the future. When the Sharks invest in companies in the tank they’re acting as angel investors.
Venture capital:
If you have a high-risk, high-potential company that needs large amounts of money, venture capital may be the right choice for you. These days, venture capitalists most often invest in technology companies with an assumed high rate of return (think 25 percent or more).
Ranging from investments of $1 million to $5 million and up, venture capitalists seek equity in the companies they fund, as opposed to debt. From seed funding to taking a company public, there are six stages of venture capital funding that are designed to help a business throughout every stage of its development. While you should understand the role of venture capital, most first-time business owners will not require this type of funding.
| “You have a much better shot of surviving with your own money than with the next guy’s money, because it means so much more to you and makes every mistake so much more painful. It’s the only way to learn what you really have and how far you can stretch each dollar.” |
Although some entrepreneurs may be able to get by self-funding their business or taking small investments from friends and family, others will require a much larger investment. No matter how much capital you need, it’s important to know how to sell your business to investors. In other words, you’ve got to learn how to pitch.
When it comes to pitching your business, the more prepared you can be the better. Just think about some of the entrepreneurs you’ve seen on
Shark Tank
. In almost every instance, it’s the most prepared, knowledgeable business owner who gets a deal. The good news is that if you’ve been following along with this book, you’ve already done a lot of the work. But before you can approach an investor, you must identify what you should present and how you should present it.
It may sound obvious, but the first step is to understand your business inside and out and know how to communicate it in a straightforward way. You must also be able to explain your business model in an equally concise manner. In under two minutes, the investor should understand what exactly
you’re selling and how you plan to make money. In theory this may sound simple, but many entrepreneurs find it difficult to summarize their business. Test yourself by attempting to explain your business to a stranger in less than 120 seconds. You may be surprised at how challenging this exercise can be.
But remember, a successful pitch is about more than just communicating the business model. The investor must believe in more than just your product or service; she must believe in your ability to sell it. So you’ll want to demonstrate a clear understanding of your industry and target market from the start. Being able to identify competitors and trends within your market will only help gain the investor’s trust.