Blasingame’s 3 Laws of Small Business Capital
The first sentence in the job description of every CEO should be, “Secure and manage the capital your company needs.”
Webster defines business capital as, “any asset, tangible or intangible, including cash and hard assets held by the company.” Capital blended with operating cash flow becomes the financial fuel your company’s engine uses to operate with and fund growth.
A small business has three primary sources of capital:
- Investment Capital — money or assets from you or someone else
- Retained Earnings — profit you created and had the discipline to leave in the business
- Borrowed Funds — for most small businesses, from a bank loan
Every once and future small business CEO must be able to deal with capitalization issues, including the three prime capital fundamentals.
Capital Requirements
Additional capital is required just to stay in business beyond what was necessary to start the business. Success begets growth and growth eats capital like Cookie Monster eats chocolate chip cookies. So, without a capitalization plan, it’s possible to grow yourself out of business.
As you accomplish revenue goals, you must know the incremental cost of goods sold and operating expenses because there will likely be a gap of days/weeks between paying suppliers and collecting from customers. And that gap has to be covered by cash from one of the three sources.
An essential capital management practice is to project cash requirements over 12 months. That way you can see if, when and for how long you’ll have to capitalize negative cash flow.
Remember Blasingame’s 1st Law of Small Business Capital: Stay-in-business capital is much greater than start-a-business capital.
Capital Allocation
All capital is not created equal. Here are four capital allocation guidelines:
1. Don’t use operating cash to purchase long-term capital assets, like equipment. That’s what short-term loans and leases are for.
2. Borrow money for operating expenses only if there’s a growth reason, not out of desperation.
3. Fund growth with borrowed money only if you can convert the debt leverage into net profit and retained earnings.
4. Retained earnings are hard-won and should be employed judiciously.
Remember Blasingame’s 2nd Law of Small Business Capital: Every capital requirement has a specific capital source.
Retained Earnings
This is the working capital you’ve earned through profits and left in the company for financial strength. It’s capital you don’t have to borrow or take from investors. It’s your safety net during inevitable periods of slow sales or other challenges. And it’s your financial homerun when you sell your business.
Unfortunately, it’s likely retained earnings will accumulate slower than your growth goals, so augment it with debt and/or investment until you don’t have to. The good news is that the best way to impress bankers and investors – to get them to fund your growth plan – is to demonstrate the ability and discipline to create and retain earnings.
Remember Blasingame’s 3rd Law of Small Business Capital: Every dollar of profit you leave in your business as retained earnings is a step toward financial security.
Write this on a rock … As the CEO of your business, it’s your job to acquire, manage, allocate, and maximize all sources of capital.
Jim Blasingame is the author of The 3rd Ingredient, the Journey of Analog Ethics into the World of Digital Fear and Greed.
