Why Is it So Hard to Raise Capital When Starting a New Business?

Capital is the lifeline of a new business -- it provides the fuel to grow, expand and make a budding business idea into a profitable enterprise. However, many small business owners underestimate how difficult it is to obtain financing for a business venture and get frustrated by this step of the business startup process. However, investors and banks have plenty of reasons to be wary of financing your new small business venture.

Most Small Businesses Fail

More than 50 percent of businesses fail within the first five years of operation, according to the U.S. Small Business Administration.The high risk of small business failure is the single biggest reason that it is difficult to raise capital. There is a higher probability of the business being worth zero versus providing a return to the investor. The sheer fear of this alone is enough to spook most investors when it comes to financing your effort.

Unproven Business Model

Investors feel safe when they can see historical operating results -- that is, sales and profits. New businesses show no evidence that they can be self-sustaining. If you have no real operating results to show investors or a bank, you cannot guarantee that the business has the ability to repay the loan or enhance the value of the investor's equity.

Lack of Coherent Business Plan

Many business owners think their passion for their new idea is enough to convince a bank to sign off on a loan or an angel investor to write a check. Not having a coherent, logical business plan may be the biggest roadblock business owners face when trying to obtain financing. A business plan should not only include an overview of the business, but also a financial forecast for the first two or three years, market research and list of competitors. Investors like to see the actual financial results you are expecting and determine if they are realistic based on the amount of capital you are requesting and your business model.

Inability to Effectively Communicate

Nobody likely understands your business and the opportunity it offers as well as you. Unfortunately, this means that the rest of the world -- which includes investors -- is unable to share your vision of your business without some education. Most people who actively invest are innovators and enjoy hearing about new concepts and business opportunities. People invest in what they know and understand -- if you can illustrate your business concept in a simple fashion that anyone can understand, you will stand a much better chance of obtaining the financing you are seeking.

Lack of Ready Investors

For an investor to support your new business idea, she must have capital to operate. Investors understand that investing comes with a risk of total loss; even cautious banks have mechanisms that allow for some rate of business loan default. If you are asking people for money they cannot afford to lose, you will probably get more rejections than investment offers.

References

• SBA: Is Entrepreneurship For You?
• Score: Small Biz Stats & Trends
• Entrepreneur.com: The 6 Biggest Mistakes in Raising Startup Capital