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NEW VENTURE
FINANCE
Determining Financial needs
Sources of Financing

-Equity Finance
-Debt Finance
-Bootstrap Finance
-Lease Financing
-Hire Purchase
Institutional Finance in India

Determining Financial Needs

Undercapitalized business

Raising too little money by underestimating the businesss

needs
May run out of cash, borrowing capacity leading to exit

Overcapitalized business
Raising too much money and having excessive cash

Sends wrong signals to stakeholders, customers, etc.

Working Capital:
On an average over 60% of the total financing
requirements are invested in Working Capital
Permanent Working Capital:
Needed to produce goods and services at the lowest point of

demand.
As the firm grows, this also increases

Temporary Working Capital:

Needed to meet seasonal and cyclical demand
If working capital is too low then:
Stock-out occurs, sales are lost
If working capital is too high then:
Receivables will be too large and customers, clients will delay the
payments

The Cash Flow Cycle Operations Cycle:

PRODUCTION CYCLE

CASH CYCLE

Order
materials

Raw
material
inventory
1 2

Work-inprocess
inventory
3

Finished
goods
inventory
4

Accounts
receivable
5

Short Term Cycle:

1)

Days in accounts payable = Average accounts payable x 365 days

Cost of goods sold Labour

2)

Days in raw materials inventory= Average raw materials inventory x365D

Cost of raw materials

3)

Days in work-in-progress inventory = Average WIP inventory x 365 days

Cost of goods sold

4)

Days in finished goods inventory = Average finished goods x365 days

Cost of goods sold

5)

Days in accounts receivable = Average accounts receivable x 365 days

Sales

Short term cycle : 2 + 3 + 4 + 5 1

Hypothetical Cash Cycle:

CASH CYCLE

Order
materials

30
Days
1

45 days

15
days
2

40 days

15 days

50 days

Managing and Controlling the Cash Flow

Cycle:
Accounts payable
Longer the accounts payable, shorter the cash flow cycle
Part of permanent working capital, should be managed
Develop cordial relations with vendors that enable them to extend
payments when needed

Raw materials inventory

Keep it as low as possible
Just-in-time delivery systems, good management system, accurate
sales forecasting, etc.
Work-in-progress inventory
Tagging and monitoring all work in processes will help
Efficient operations, worker training and incentives, capital
investments, etc.

Finished goods inventory

Develop relationships with buyers
If warehouses are available with buyers, then sell the
goods
Accurate sales forecasts, management information
system, etc.

Accounts receivable
Payment terms, credit limits, collection programmes,
etc.
Encourage customers to pay their bills on time
Give incentives to them if they pay early without hurting
the margins

Sources of Financing
EQUITY-BASED FINANCING
Ownership stake in the new venture
Inside Equity: highest risk of loss but highest returns if

venture is successful
Owners, Family and friends

Outside Equity: equity from investors who have no personal

relationship with venture beyond their investment and

profitability
Private investors, venture capitalists, public offerings

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Private investors: ANGELS wealthy individuals

interested in high risk/high reward opportunities

Relatively accessible and bigger size investment pool
Lacks expertise, inability to invest more money
sometimes
Overprotectiveness
Public offerings: ultimate source of outside equity and

wealth creation
Initial Public Offering (IPO) with the aid of an investment
banker

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Venture Capital: outside equity which comes from

professionally managed pools of investor money.

Venture capitalists specialize in certain industries
Risk capital
Can bring additional investment if required, provide
advice and contacts

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DEBT-BASED FINANCING
Asset-based debt financing Collateralized

Trade-credit for period between product or service

delivery to the new venture and when payment is due

Short term asset seasonal accounts receivable
Long term asset equipment or property
Eg. upto 60% debt financing is possible for inventory,
with inventory as collateral
Perfect ability to evaluate the collateral is essential

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Cash Flow Financing Unsecured financing based on the underlying

operations of the business and its ability to generate

enough cash to cover the debt
Short term (under 1yr) working capital
Medium term Line of credit
Long term bond or debenture
Banks enter into agreements between lender and
borrower concerning the manner in which the funds are
disbursed, employed, managed and accounted. (eg
maintain a minimum balance)

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BOOTSTRAP FINANCING
Start-up and early years of the establishment when

debt financing and equity financing is more

expensive.
Other costs of outside capital are
Time required to raise the capital is usually 3-6 months

Decreases a firms drive for sales and profits

Availability of capital increases impulses to spend

more
Decreases companys flexibility
Cause more disruption and problems
Entrepreneur will be stressed to earn profits so that he

pays back the loans

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LEASE FINANCING
Lease is a contract whereby the owner of an asset

(called lessor) grants to another party (called lessee)

the exclusive right to use the asset usually for an
agreed period of time in return for the payment of
rent.
Alternative to loan financing
Ownership rests with the lessor only even after the expiry
of the lease

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*3 party-involvement
lessor, lessee and
lender
*Lessor provides an
equity portion
(say25%) & lender
provides the balance

Leveraged
Lease
*Firm sells an asset to
another party who in turn
leases it back to the firm
*Receives sales price&
economic use of the asset
*Lessor gets tax benefits
*lessee gets cash flow

Capital
Lease

Lease
Agreements

Sale and
Lease Back

*Long term
*non-cancellable
*period is useful
life of the asset
*continue to pay
rent even after
obsolescence

Operating
Lease
*shorter than capital
lease
*cancellable at option of
lessee with prior notice
*term shorter than
economic life of the
asset

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HIRE PURCHASE
Higher purchase is an agreement under which the owner

called hire vendor gives delivery of goods to the buyer

called hire purchaser who pays the price in certain
number of installments
The hire vendor retains the ownership of the asset until
the last installment is paid
Ownership is then transferred to the hire purchaser
According to Hire Purchase Act, 1972, the hire
purchase agreement is an agreement under which the
goods are let on hire and the hirer has an option to
purchase them in accordance with the terms of the
agreement.

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Procedure for Hire Purchase

Modus operandi

Hire purchase Agreement is made in written between

parties:
1. Hire purchase price of the asset
2. Cash price at which the goods may be purchased
3. Date of commencement of the agreement
4. Number and time of installments
5. Name of goods with its sufficient identity
6. Amount to be paid at the time of signing the agreement
7. Signatures of both or all three parties

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Financial
Institution

Hire
Vendor

1. Vendor receives bills of

exchange for purchase of
goods from the hirer
2. Vendor discounts the
bills with financial institution
& gets payment for the
goods sold under hire
purchase
3. Financial institution
collects payments of the bill

Hire
Purchaser
3-party Hire Purchaser

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INSTITUTIONAL FINANCE
Commercial Banks

Industrial Bank of India (IDBI)

Industrial Finance Corporation of India (IFCI)
Industrial Credit and Investor Corporation of India

(ICICI)
Industrial Reconstruction Bank of India (IRBI)
Life Insurance Corporation of India (LIC)
Unit Trust of India (UTI)
State Financial Corporations (SFCs)
State Industrial Development Corporation (SIDC)
Small Industries Development Bank of India (SIDBI)
EXIM Bank