Meaning of Financing Strategies
A financing strategy establishes the fundamental steps of how an organization can achieve its financing targets, be it short-term or long-term. It involves a strategic plan for how the organization can finance its overall operations. An ideal financing strategy must serve as a guideline for the employees of an organization in conducting the day-to-day finances.
Example of Financing Strategies
Some of the popular examples of financing strategies for giving a head-start to your business are as follows:
Debt financing strategy lets you borrow money from banks or other lending institutions for using it in your business. The organization can repay the loan and interest depending on the terms of the contract.
Equity financing strategy involves financing from investors, also called “venture capitalists.” These investors agree to assist you in your business plans instead of ownership of a portion of your organization with their venture funding.
This is the less formal financing strategy whereby you can cater to your funding needs by asking your friends and family. This is very effective if you are a small business start-up.
Financing Strategies for Current Assets / Working Capital
An organization can finance the Current Assets / Working Capital by using the following financing strategies:
As per this financing strategy, the organization matches the expected life of the current asset with the estimated life of the source of funds to raise these financial assets. For example, a machine whose life expectancy is 5 years can be funded using a loan of 5 years. The flip side of using this approach to finance your assets is that it may not be practically possible to match the life of an asset with that of its source of funds.
Similarly, for working capital financing, the matching approach aims to match the assets and liabilities to maturities. Thus, for every asset on the balance sheet, a corresponding liability matures on the same day as the asset.
As per the conservative approach, the organization relies on long-term funds to acquire permanent assets and a part of temporary assets. As this financing strategy uses long-term funds, it has less risk of a shortage of immediate funds.
For working capital financing, this financing strategy requires an organization to maintain high levels of current assets in relation to its sales. Such surplus current assets can incorporate any changes in the sales and thus avoid disruption in the production plans.
As per the aggressive approach, the organization uses its short-term funds to finance a part of its permanent assets. This is a very risky approach as there are chances that the organization might have a hard time dealing with its short-term obligations. However, many organizations use this financing strategy for its advantages of lower financing costs and higher profitability.
Under this approach, the reliance is on short-term funds that are used for maintaining the current assets for working capital financing. These current assets are maintained only to meet the current liabilities. And do not provide any cushion for the variation in working capital requirements.
Financing strategies are imperative for all organizations to help plan their financial future. A financing strategy can assist you in setting clear-cut goals and working towards becoming a financially secure business organization. It considers your current financial status, your financial objectives, and the best possible steps to achieve them.
- A Comparison between 3 Strategies of Working Capital Financing
- Working Capital vs. Term Loan – All You Need to Know
- How to Choose Right Source of Finance for Your Small Business?
- Sources of Equity Financing
- Aggressive Approach to Working Capital Financing
- Conservative Approach to Working Capital Financing