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Small Business Funding In South Africa

When you need funding for your small business, it can seem like a big challenge jumping through all the hoops. We show you what you need to know about small business funding.

Entrepreneur

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For many entrepreneurs, the minute they realise they need small business funding, they automatically panic and wonder, “How on earth am I going to get funding?”

The good news is that there are a number of ways you can get funding for your small business if you know where to look and do the right preparation.

How small business funding differs from big business funding 

Basically, it’s a matter of scale. A small business isn’t likely to require R100 million in finance.

A small business can get started on as little as R1 000 – and with profits put back into the business – can grow organically and rely very little on external funding.

Related: Government Funding and Grants for Small Businesses

The other difference pertains to size in another way: Big business tends to refer to corporate entities with shareholders, boards of directors etc., while small business tends to refer to privately owned and operated business.

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The dangers of running your business finances through your personal account

Say you want to start a small business crafting wooden furniture and you can buy most of the equipment on your credit card.

In one way, it’s the quickest and easiest way to get going, but running your business finances through your personal accounts come with risk.

Not separating your business from you personally sets you up for legal liability.

Related: Opening a Business Bank Account

If, for example, you default on credit card payments or fall into debt, your personal assets can be seized over and above your business assets.

The other risk is that of keeping clear records and distinctions of which expenses are business and which are personal. This can lead to tax complications come tax season and you can incur fines that can close your business.

Having a separate account for your business also lends credibility to it, and in the event you require finance from a bank, your clear financial documentation will aid the bank in assessing whether to grant you a loan.

Why a clean credit record is so important to small business funders

In order to qualify for grants or loans, the lending facility needs to assess whether you’ll be able to repay the loan, and your credit record is their way of checking. Even if you’re starting a brand new business, if you have a tarnished personal credit record or are blacklisted for bad/non-payment, your ability to borrow will be negatively affected.

Related: Small Business Start-up Guide

Every South African is entitled to a free credit report once a year. You can learn more about about your credit record through credit bureaus like TransUnion.

business-funding-options

Various small business funding options available

If you’re not in the position to self-fund through use of personal credit and/or savings, you can investigate these following ways to get small business funding.

Small Business Funding Option 1: Angel Investment

An angel investor is typically a wealthy professional who is able to provide you with start-up capital in exchange for equity in the business or a fixed percentage interest on the loan. Angel investors can be individuals or form angel networks in order to distribute risk.

Angel investors can be hands-off, not wanting to be part of the business, while others may want to be involved in decision-making and/or act as a business mentor.

A rookie mistake made by many is to enter into verbal agreements with angel investors without terms and conditions written and signed by both parties.

Without a contract in place, conflict can arise; an investor can withdraw their funding, and the business’s future can be jeopardised.

Make sure whenever finance is involved, there is a written agreement in place.

Small Business Funding Option 2: Bank funding

If you choose to approach a bank for finance you need a number of things in place before you approach them.

First is a comprehensive and fully understood business plan complete with financial projections. You also need to provide a full set of financials for them to examine.

Then you need to understand the kinds of loans available and which kind is best suited to your needs.

Related: Business Plan Format Guide

If, for example, you need to buy equipment which devalues with age and use, it’s not advisable to take a long-term loan where you’ll be paying for it long after it’s served its lifespan.

Bank Finance Options for Small Business:

  1. Overdraft – is ideally suited to managing cash flow.
  2. Business revolving credit – this is a line of credit available as and when it is needed and repayments are typically fixed monthly instalments. The original limit is usually restored after a set percentage has been repaid.
  3. Medium-term loans – are ideally suited for capital expenses and repayable for a period of two to seven years, but can be longer. Interest and repayment tend to be linked to prime, how much collateral you have, and the value of the asset you need finance for.
  4. Business mortgage / Property finance – in the event you wish to buy or renovate property for your business or convert part of a residence into office space, this is the loan to investigate.
  5. Vehicle and asset finance – Whether it’s a vehicle or specialised equipment required, talk to your bank about vehicle and asset finance to determine whether its terms are suited to your business.

Small Business Funding Option 3: Crowd Funding

Relatively new to the scene, crowd funding is an exciting way to gather finance.

It works in a similar way to angel investment, except many individuals are able to pledge varying amounts to the business in exchange for equity, interest, or other more creative returns.

As an example, new products, music albums and films have been crowd funded in exchange for early releases, while restaurants have named menu items after benefactors.

Related: Start A Small Business, Become Self–Employed

Typically, however, a product or service is pitched and uptake in funding helps determine whether there is demand for it, and first releases help fine-tune it.

South African crowd funding platforms include:

The top international crowd funding platforms include:

Small Business Funding Option 4:
Funding for Previously Disadvantaged Individuals (PDIs)

Small Business Government Grants and Loans

The government is involved in small business development by providing funding to previously disadvantaged individuals. These can take the form of grants, loans and tenders.

A government loan, like a loan from a financial institution, is given to an approved business that is required to repay the loan. It usually has more lenient repayment schedules and interest rates.

A government grant, by comparison, does not require repayment by the awarded business.

The South African Department of Trade and Industry (DTI) has a number of initiatives designed to improve business activity for previously disadvantaged individuals, women and youth.

You can read more at www.dti.gov.za > SMME development > financial assistance. Any business wanting to gain access to grants or funding needs to be BEE accredited and have a tax clearance certificate.

Enterprise Development (ED) Funding

This form of government mandated funding is devised as a means to create more jobs in South Africa through business development, and enterprise development is one of the elements of the BEE scorecard.

Large corporates are required to pay towards enterprise development or use an Enterprise Development beneficiary in their business supply chain as part of their BEE scorecard.

Related: Enterprise Development Programmes For Black Entrepreneurs

How a small business benefits from ED funding is by enrolling in a corporate’s ED empowerment programme that can include mentorship, incubation, becoming procurement ready, how to be commercially viable and sustainable, etc.

Small Business Funding Option 5: Bootstrapping your Small Business

If you’re not drawn to the previous examples of funding, you can bootstrap your business. Fundamentally it’s starting and growing a business without external help.

This is achieved through getting operational as quickly as possible; keeping fixed overheads as low as possible – even if you have to work in your childhood bedroom or understaff; reinvesting profits into the business; and keeping growth in check by maintaining steady growth over explosive growth.

Related: 6 Tips For Bootstrapping

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1 Comment

1 Comment

  1. Thapelo

    Jan 11, 2016 at 19:53

    Thank so much for the information it really helps to know where to start!

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How to Guides

Does Your Business Really Need Funding?

Strategy, risks, and opportunities.

Carl Wazen

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Businesses need capital to grow, and most small enterprises rely on external funding to meet this requirement. While accessing funding can be challenging for entrepreneurs, taking on the financial commitments of a loan should never be taken lightly. Many small businesses fail because repayment conditions are so onerous they impact cash flow, and business owners end up blacklisted, which dampens their future prospects.

First, ask yourself some hard questions

Before you decide to apply for that loan, cash advance or capital injection, make sure that your business really needs funding. Critically evaluate your business. Consider that you’ll ultimately need to give something back for that funding – an equity stake, or interest payments.

Determine how much the extra funding is worth to you, and what would happen to your business if you couldn’t get it.

Define your goals

The type of funding you need (and how you validate it in the application) is dependent on your short- and long-term goals. If you’re not currently on track to achieving your business objectives, determine what stumbling blocks or pain points are holding you back. Ultimately, you should be certain that the capital will help you achieve your objectives.

Related: Government Funding And Grants For Small Businesses

Evaluate your financial pain points

Next, determine which of the identified obstacles can be overcome with extra money. While most could, a loan may not be the answer. Entrepreneurs often use financing to temporarily plug holes, instead of fixing them. Without addressing the root cause of the issue, the business will continue to struggle, while also dealing with the extra debt.

It is also important to consider the nature of your requirements, and the impact this will have on finances. For instance, using a loan to hire more staff requires upfront funds before additional revenue can be generated. The same applies to sales and marketing initiatives.

Expanding your footprint as part of a strategic plan to grow your business also requires funding, but these are usually long-term loans that take more time to pay back. A thorough evaluation is needed to determine the potential return on investment and compare it to other opportunities.

Evaluate if the strategic benefits will outweigh the mid-term cash flow risks.

Consider your options

Before making any financial commitment, first look for ways to optimise your operation to realise cost efficiencies within the business that can free up working capital to fund the fix.

If you determine that funding will address your pain points, by boosting inventory ahead of a seasonal spike, for example, consider vendor financing or supplier credit options before securing financing from a bank.

If you need to expand the business, look for ways to lower the associated costs. For example, franchising a new location to a competent partner can relieve you of some of the financial burden. A product-based business could perhaps generate extra income by selling via online channels, or through distributors or other retailers instead of a new store.

Related: The DTI Funding Guide You’ve Been Looking For: The What And How

Scenario planning

However, should you choose to proceed, before you sign any loan or credit agreement, make sure you consider all possible scenarios:

  • How long will it take before your investment starts covering the costs of your loan?
  • How will you manage repayments if your forecasted growth doesn’t materialise?
  • How can you pivot to reallocate resources if your plan is not working out as initially intended?

The bottom line

Before you start looking for funding for your business, critically evaluate if your business really needs it. If you decide capital is necessary to reach your goals, and you’re willing to take on the responsibility, carefully consider the type of funding that is best for your particular type of business and your specific needs.

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How to Guides

How Investors Choose Who To Invest In

Why entrepreneurs tend to focus on the wrong things when pitching to investors, and what investors are really evaluating instead.

Allon Raiz

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The hypothesis of my book Lose the Business Plan was that great businesses are not determined by Excel spreadsheets and the all too predictable J-curve, but rather by the entrepreneur or entrepreneurial team and their ability to see opportunity, navigate obstacles and make things happen.

The truth is that entrepreneurs focus on the wrong side of the coin when meeting with an investor. They focus on the deep detail of the business plan and concentrate on justifying assumptions, predicting and overcoming objections, and emphasising market potential. Yet it’s my experience that the real decision on whether or not to invest in a company is more heavily weighted towards the entrepreneur or team rather than the business plan itself.

Once the ‘numbers’ stack (in other words, the business model makes sense) and the risks have been considered and appropriately mitigated, then the real decision-making can begin. The final decision comes down to four important characteristics of the entrepreneur himself or herself.

1. Is she honest?

You may have the best business plan in the world and you may have mitigated every possible risk but, if you are not someone the investor can trust, no deal will be made. I find that entrepreneurs often underestimate the importance of their reputations and, in today’s connected world, it’s so quick and easy to reference someone’s character.

Related: A Comprehensive List Of Angel Investors That Fund South African Start-Ups

Entrepreneurs who think about the short game and make morally questionable decisions for the prospect of quick profits generally find themselves in an ever-diminishing circle of people who will do deals with them. Your reputation is everything and you should guard it at all costs.

2. Does she work hard?

I am still not resolved around the cliché that you should work smart and not hard. (Perhaps I missed the memo or was asleep during the lecture that demonstrated how this is possible.)

In a world that is changing at an astonishing rate, in an economy that is becoming more and more competitive and in a business environment that is becoming ever more complex, it’s hard work to remain relevant and ahead of the curve for any extended period of time. Every quarter sees a new trajectory that needs to be investigated and navigated. In my opinion, this requires not just smart work but hard work, too.

It’s certainly true that investors like to invest in entrepreneurs who will take their investment seriously, who take their businesses seriously, and who are on top of their games.

3. Is she smart?

Smart does not always mean book smart but it definitely means street smart. It means having the ability to read a room, to see an opportunity, to learn new skills quickly and also being able to apply new learning’s to the business.

Investors look for investees who show agility when adapting to feedback from the market, from their competitors, from their staff and more.

4. Is she ambitious?

Investors do not like investing in ‘mom and pop’ operations. They seek the highest return on investment and that comes from businesses that can scale profitably. Scale is always relative to the investor’s perspective and not your own.

An investor with a couple of hundred thousand rand to invest will have very different expectations of the size of business he or she would like to invest in compared to another investor who has tens of millions of dollars. It’s important for the entrepreneur to authentically resonate with the level of ambition of their prospective investor, and be able to express that ambition through a coherent and cogent vision, as well as a plan to achieve that vision.

Remember, no one starts out as the ideal investee. It’s something that is built up over time and requires constant maintenance and curatorship. It’s essential to continually work on your reputation, to ensure that you are up to date with your industry, and to reassess your level of competence in your market. This is the only way to make sure you become and remain an ideal investee to a potential investor.

Read next: The Investor Sourcing Guide

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Are You Struggling To Find Financing For Your SME? Try Alternative Finance

If you don’t qualify for traditional funding or if it isn’t the right fit for your SME why not explore alternative funding? We specialise in alternative financing options by providing in-depth and custom plans for you and your business needs.

Spartan SME Finance

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Alternative Finance is finance beyond the traditional – it is defined by the financiers’ area of specialisation – by what they specialise in, whom they serve, and how they provide their funding. It does not replace traditional finance but rather functions as a complementary and additional form of funding.

Alternative financiers are specialists – they focus on a particular need and on a specific audience. As a result their ‘how’ is customised to deal with their chosen target market and for this targets unique needs. This applies to the funder’s processes and to their level of flexibility around things such as collateral.

An example of this is that a SME may have an existing R1 million overdraft (their traditional finance) secured by R 1.5 million collateral but suddenly they need R5 million for some kind of contract or bridging finance – they need it fast and don’t have that extent of collateral.

The traditional funder cannot provide what they need, their process is too long and their flexibility is too low. An alternative financier providing bridging finance and specialising in SMEs is ideally positioned to fill this gap.

One of the most significant differences between a traditional funder and an alternative financier is in their process. In the case of the alternative financier, they have often chosen to deal exclusively with a particular customer base, for example SMEs. As a result, this funder has both an affinity and contextually relevant empathy in working with SMEs.

Not only do they speak the same language the funder also has an appreciation for the time and material constraints of the SME and has developed their processes to cater to this market. This applies most notably to the turnaround time of the funding need and to the assessment aspect – where flexibility around things such as collateral is vital in making the finance happen for the SME.

A traditional funder is unable to meet the deadline of a bridging finance need, submitted on an urgent basis, where the finance is needed as soon as 2-3 days from time of application. A specialised or alternative funder is able to do exactly this. A traditional funder is also unable to find creative methods in solving the SMEs lack of high-value collateral in applying for finance.

This SME has generally already used their high-value collateral for traditional credit facilities but now needs funding for growth or resolution of a temporary cash flow challenge. An alternative financier is able to look at such an application in a different way, and has most likely already established alternative ways to make this happen for the SME.

Related: 5 Key Questions To Answer For Raising Funding

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