Because it's such an eye-opener, my favourite exercise to do with aspiring entrepreneurs is to walk through start-up costs together.
Most of the time, start-up entrepreneurs “ballpark” expenses instead of preparing a detailed and accurate launch budget — which can cause a lot of pain when costs exceed expectations (and they usually do).
It's no secret that a new business requires money. How much money depends, of course, on the type and size of business you will start.
For example, you may need money to buy an existing business or pay an upfront franchise fee. Or, you may intend to build a business from scratch and need cash for necessities like equipment, inventory, wages, advertising, and rent.
How much start-up cash is enough?
There are two types of start-up costs:
Capital costs. Include upfront costs for things you won’t need to buy again for years, like equipment, vehicles, office furniture, signage, renovations, and legal expenses to set up the company. If you are buying a franchise then the franchise fee is an example of an upfront cost.
Operating costs. Ongoing monthly expenses include things like rent, employee wages (don't forget some money for your own living costs), marketing and promotion, insurance, internet, and office supplies.
As best you can, thoroughly research every capital and operating cost your business will incur. No "ballpark estimates" please. Pick up the phone or go online to get accurate cost estimates from landlords, inventory suppliers, website designers, copywriters, sign makers, and anyone else you will buy from.
Next, use this budget formula
Here’s a handy formula to calculate the exact amount of money you’ll need to start your business:
Capital costs + 6 months’ of operating costs + 10% for unexpected expenses
Why use this formula?
It puts all of your identified expenses upfront so you can raise enough money to cover them.
Raising enough money to cover 6 months’ of operating costs will give you 6 months to earn revenue. If you earn money earlier than that timeline, great.
A contingency budget of 10% gives you a cash cushion to cover unexpected expenses that will pop up no matter how carefully you plan.
Check out this handy and detailed Start-up Costs Calculator from BMO. Enter your one-time expenses (capital costs), your ongoing monthly expenses (operating costs), and then click on the results tab.
Where to get start-up money
Now that you know how much money you’ll need, you can confidently approach sources of start-up financing. The top 5 sources of start-up money are:
Personal funds. Self-funding will save you the time and effort required to pursue outside sources of finance. But don’t put your life savings into the business. Be sure to consult a personal financial advisor to figure how much you can safely invest.
‘Love Capital’. You can ask family and friends for a loan or to invest in your business. Prepare a proper written agreement so there’s no confusion about how the money will be repaid. And, make sure you are comfortable with this strategy.
Investors. Angel investors are businesspeople willing to invest in your business. They usually want two things from you: an attractive rate of return on their investment, and a clear exit strategy.
Bank loan. Approach your financial institution for a term loan, line of credit, business credit card, equipment financing, and other products. Find a banker you trust and explore these solutions.
Government programs. Go online or visit your local economic development office to explore government grants, loans, and subsidies that may be available to your business. There's billions of dollars out there to support small businesses.
You can expect starting a business to be a lot of work — but that work is much, much easier if you are properly funded.