Capital management for start-ups and MSMEs

Businesses can afford to lose money, but no business can afford to run out of cash. Finance is one of the most important aspects of every start-up and MSME and the key things that make them run are innovative and timely integration of money.

The biggest trend over years was to just go fast, go big and be happy losing billions on the way to a big exit. This strategy does not always work as outside economic forces can be seriously disruptive if that is the only plan. At least having a plan and a path to get back to efficient capital management means being able to weather these storms and survive to strive in better days.

Unlike established companies, start-ups and MSME often find themselves unable to save for a rainy day because they need to have all the money available right now. As a founder, it’s incredibly exciting to be starting a business at a time when doing so – while I wouldn’t say is "easy" – has never been more possible for so many people.

So, let’s assume for a moment that you’ve successfully raised capital for your business. The question then becomes: "What is the best strategy for managing this newfound cash?"

1. Capital preservation is critical:

Let’s assume your business account has an average balance of Rs 1 cr throughout the year. If we further assumed a yield of 10%, we are talking 10 lakhs for the year.        

If you hope for more return by exposing your cash to higher risk, one of two outcomes are likely:              

You may end up having more cash if everything worked well but probably not a meaningful amount. Or

You lose principal if it does not work out. You can quickly lose your investor and credibility for future fund raising.

Angel and VCs invest in entrepreneurs to take risks in operating their businesses, not to take risks in financial investments. Given the relatively small capital base of a start-ups, there is simply too small an incentive and too great an investor confidence risk to take much investment risk with your cash management.

2. Liquidity

For start-ups and MSME the only constant is uncertainty. Every decision should ensure availability of liquidation to free up cash when there is a need, so make sure that doing so does not lead to an uneconomical investment. This also leads to efficiency in management of working capital which has been enumerated below.

3. Cost Management

Where a business engages in the proper management of its working capital and other financial indices, trade creditors and other non-trade creditors are poised to continue doing business with it. Their knowledge of the existence of this system goes a long way to boost their confidence in the business and their dealings.

4. Overtrading:

Overtrading is the mismatch between assets and finances and one of the fastest ways to business failure. The business goes beyond set financial goals and objectives, and in the long run, it meets with ruin. Out of proportion and uncontrolled business expansion are some of the trends signalling overtrading.

Doing some important but basic cash management will allow you to focus on running your business. Pushing the business forward should, and will, generate infinitely more value than any cash management strategy could ever deliver.

5. Working Capital Management

The success of a business enterprise, irrespective of the size of the organisation depends on effective working capital management. Research shows over 75% of companies would be profitable that are running at loss or struggling financially and liquid if they were more disposed to the knowledge and practice of efficient working capital management. The working capital management system helps in ensuring that tied down capital that could otherwise be put to productive uses are released. Many finance professionals and business experts often ignore the importance of this management. Working capital management is an effective management technique tool that has the potential of guaranteeing long-term success.

Working capital management is really cash flow management. Anyone in your business who deals with the components of working capital should be in the loop about the consequences of locking up too much cash.

Lastly, I would like to state that, the most important part for any start-up or MSME is to stay fluid. There are neither any grid rules nor any financial policy to stick to. What is more important is how businesses respond to the market when it demands more or less spending. Sometimes start-ups and MSMEs need experts to help put finance in order, hence it is necessary to avail the service of professionals or firms to ensure setting up of a bright future.