Are Good Bank Loans for Startups?

Step 1: Calculating the Startup Costs

The first step in determining whether to seek bank loans for startups is assessing the amount of necessary investment. Startup costs typically encompass two main components: initial investment and losses before the project profitability.

1.1 Initial Investment: This includes the purchase of essential equipment, tools, office supplies, furniture, and other necessary assets. Calculating the total initial investment provides a baseline for understanding the minimum capital needed to get the business off the ground.

Let’s create an example of calculating the initial investment required to start a coffee shop. This will include various expenses typically involved in setting up such a business:

Elements of investment	Amount, $
Equipment and Supplies Cost (Coffee Machine: $2,000; Grinder: $300; Refrigerator: $800)	$3,100
Renovations: Paint and Flooring	$1,000
Furniture (Tables and Chairs)	$1,500
Licenses and Permits	$300
Marketing and Branding (Signage and Menus, Flyers)	$200
Total Initial Investment Needed	$6,100

This simplified breakdown provides estimated costs for each category when opening a coffee shop. Remember that actual expenses may vary based on location, quality of equipment, and specific business needs. It’s important to research and budget carefully to ensure you have enough funds to start and operate your coffee shop successfully!

1.2 Forecasted Losses: Most businesses experience a period of negative cash flow initially, where expenses exceed revenue. Forecasting these losses over the startup phase (often several months to years) is crucial for budgeting and determining the total financial need.
Create a profit and loss forecast for your project to predict the amount of losses. It is easy to do with free financial calculators for different types of businesses.

For forecasting losses, you need to create a profit and loss forecast. Usually, it should be created for three years.

Here is a simple example of the profit and loss forecast:

#	Financial indicator	Month 1	Month 2	Month 3	Month 4	Month 5	Month 6	…	Month n
1	Revenue
2	Expenses
3	Profit/Losses = #1- #2

If revenue < expenses => Losses. Losses = Revenue – Expenses.

If revenue > expenses => Profit. Profit = Revenue – Expenses.

1.3 Calculate the total amount to start a business

Summarize the initial investment and the forecasted losses to understand what amount you need to start your business.

Amount to start a business = Initial investment + Forecasted Losses

Now you have the total amount necessary to start your business. Check, if your savings are enough to launch the project. In this case, you don’t need any bank loans for startups.

Step 2: Assessing Entrepreneurial Risk

Entrepreneurship is inherently risky, especially during the initial years. Statistics indicate a high likelihood of business closure within the first three years, leading to potential financial losses. It’s essential to acknowledge and assess these risks before committing to a financing strategy.

Thus, using bank loans for startups or other loans to launch a business poses a high risk, especially if the project fails, as there may be difficulty in repaying the loan.

You can find below an official statistic from the U.S. Bureau with the business survival rates:

This statistic confirms interesting facts:

• 1 year after the launch 80% of businesses continue their work;
• 5 years after starting 50% of businesses continue their work;
• 10 years after opening a business only 35% of companies survive;
• 15 years after starting only 25% of companies survive.

As you can see, 20% of businesses have been closing 1 year after launch, and 50% – after 5 years. So, there is a 20 – 50% risk that you will not return the bank loans for startups if you expect to return them from the business profit. it is necessary to be careful taking the loan because of this reason.

Step 3: Choose Financing Options: Own Money vs. Loans

Once you’ve assessed your financial requirements and recognized the risks involved, the next step is evaluating how to finance your business. The primary options are using your own savings or taking out a loan.

3.1 Using Own Money

Pros:	Cons:
Autonomy: You’re not beholden to creditors or lenders.	Limited Resources: Your savings may not cover the full startup costs required for larger ventures.
Risk Management: Avoid interest payments and loan obligations, reducing financial risk if the business fails.	Slow Start: Funding constraints might limit the initial business scale and growth potential.
Careful Spending: Limited resources encourage prudent financial management and frugal spending.

3.2 Taking Bank Loans for Startups or Other Unsecured Startup Loans

Pros:	Cons:
Increased Resources: Access to more substantial capital allows for larger-scale business launches.	Obligation and Risk: Repayment obligations exist regardless of business performance, potentially leading to financial strain if the business struggles.
Business Diversity: Certain ventures require significant initial investment that may not be feasible with personal savings alone.	Interest Costs: Loans accrue interest, increasing the overall expense of starting and running the business.

Taking bank loans for startups is not a “gift.” When you receive loan money, you simultaneously incur an obligation to repay it, along with interest and commissions, over a specified period. Therefore, prepare a detailed financial plan for your project, evaluate the safety margin, and conduct a financial ratio analysis to understand your business prospects before the launch. You need to have a clear understanding that the risks associated with taking a loan are lower than the potential benefits of the project.

Step 4: Decision-Making Process

Knowing all these facts:

• how to calculate the amount of money needed to start a business,
• what the pros and cons of using your own money versus taking loans are,
• and what the risks of opening a business are,

You can understand which way is better for you to finance a business. The following diagram should help you:

Note: We do not consider other aspects of your business here:

• if you understand the market and your customers,
• if you know the business’s competitors,
• if you have a marketing strategy,
• if you have a business plan and other important parts of the business.

In this section, we focus solely on finding funding for your business.

Conclusions

In conclusion, entrepreneurship involves significant financial risk, especially in the early stages. If possible, and if personal funds are available, it is advisable to start a business with personal savings to minimize negative consequences in case of business closure.

Loans should ideally be considered for business development or expansion when there is a lower probability of closure and a clearer path to repayment. At this stage of the business:

• you understand your clients, your products, and your services;
• you understand your market;
• you want to expand your business to other regions or countries.

Therefore, taking a loan for business expansion is a good idea, but at the beginning of the business, it is very risky.

By carefully considering these factors and following a structured decision-making process, you as an entrepreneur can navigate the complexities of financing and optimize your chances of success in the dynamic world of business.

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