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Beyond the Back of the Napkin: Determining Start-up Costs
Published on Aug 8, 2012
Read our article, 'Beyond the Back of the Napkin: Determining Start-up Costs' at 'Time to Start Up,' the small business blog by BizFilings.
Many businesses are born when a prospective entrepreneur scribbles down an idea on the back of a napkin. Maybe it's just a concept that gets scrawled - "novelty cake toppers!" - or maybe it's a rough business plan. But when it comes time to actually figure out how much money is needed to start a business, you need more than rough estimates. It's time to get detailed.
As with so many other aspects of starting a business, there is no sure-fire formula to follow when estimating start-up costs. But the four steps below describe one way to approach this essential part of turning a back-of-the-napkin idea into a reality.
1. Consider the major cost categories.
Every business will have unique needs. A service-oriented business may not have warehousing needs, while a novelty cake toppers business will likely have to consider the cost of manufacturing the product, shipping it and storing inventory. Whatever type of business you're starting, you'll probably have some costs associated with each of the following categories:
Sales. Along with manufacturing, shipping and warehousing, you may have to consider the cost of raw materials, packaging, sales commissions and related items and services.
Facilities and Equipment. This encompasses rent for office space, the cost to buy or lease office supplies and equipment, and related costs such as parking. Technology - including computer hardware and software, printers, mobile devices and servers - can be a significant part of an equipment budget. And don't forget to factor in bills for utilities, as well as cellphone and internet plans.
Marketing. Marketing will be a budgetary consideration throughout the life of your business, but it can be especially important in the early going, when you're just introducing your business to potential clients or customers.
Employees. If you're hiring employees, you need to think about wages, payroll taxes, benefits and necessary insurance.
Professional services, insurance, permits/licenses. Attorneys, accountants, website developers, consultants. Permits and licenses vary depending on the type of business, but commonly are related to trademarks, copyrights and patents or the process of incorporating your company. Of course, you'll want to protect your fledgling company by insuring it, and some forms of business insurance are required by law.
2. Make separate lists.
Once you've drawn up a detailed list of all possible expenses, you can get ready to take action by organizing those costs in sub-lists.
Prioritize. You may be staggered to see the total dollar amount after compiling your initial cost of doing business estimates, but remember that it's not feasible for most businesses to do everything at once. So it's a smart practice to create two sub-lists: essential costs and optional costs.
Consider type of expense. Once you've determined essential costs, you can continue to subdivide by listing each expense as either fixed or variable, and as one-time or recurring. A fixed expense is one that will recur, such as rent or insurance payments. A variable expense, such as sales commissions, will fluctuate.
3. Determine time-frame.
To establish how much startup capital you need, you not only need to know what you'll spend the money on, but how long it will be before your business starts bringing in revenue. There is no hard-and-fast rule about what this time-frame should be, with some experts saying you need to draw up a budget for at least the first three months of your business, while others advocate projecting as far ahead as 12 months.
Because it takes time to penetrate a market and establish a client or customer base, it's wise to be conservative when estimating how much revenue you'll bring in during the early stage of the business. Tim Berry, author of "3 Weeks to Startup," wrote an Entrepreneur magazine article that reminded readers that projecting sales is a business planning and not accounting task, so an estimate should be reasonable but doesn't have to be too exact.
4. Consult industry experts, utilize available resources.
No matter how much time you devote to considering all the possible costs associated with your potential business, you're almost certain to overlook something, or estimate certain costs inaccurately. Therefore, it can be invaluable to talk to experienced business owners in your industry. Trade associations are a great place to turn to meet mentors and advisers. Government-sponsored organizations also provide small business advising and a variety of other types of assistance. You can look into your local Small Business Development Center or SCORE chapter, for instance. Organizations like these will not only be able to connect you with an adviser, but can provide valuable resources like startup cost calculation worksheets. Your personal network and social media sites like LinkedIn can also be great places to turn.
An adviser can also encourage you to keep pursuing your dream if the prospect of raising the needed startup capital starts to seem overwhelming and unlikely. As you see exactly how much financing you need, the number can seem prohibitive, but as you determine how much seed money is necessary, keep in mind that once you know what it'll take to get your business up and running, there are many potential sources of funding. With small business loans, angel investment, friends and family financing, microloans, crowdfunding and diverse other forms of financing available, you'll have plenty of options to take your idea from the back of the napkin into the real world.