For a new business, calculate the average gross profit for your business by following these steps:

1.For each product or service that you sell, list every individual item that goes into that product, including piece-rate labor and commissions. For example, Antoinette buys dresses from outside suppliers and resells them. The cost of the dress is the major component of the total product cost. She may add the cost of the pre-printed bag to derive the total cost of the sale.

2.Once you have a complete list of all the cost components for your products or services, add up the cost of each item.

3.Write the selling price of the item below the total cost of the item.

4.Subtract the total cost from the selling price to derive the gross profit from each sale of that item.

5.Divide the selling price into the gross profit to derive the gross profit percentage for each product.

6.Repeat for each product you’ll sell; if you have more than four or five individual products, then it’s better to group them by gross profit percentage rather than to make an estimate for each individual product.

7.Write down how much total dollar sales you expect for each product or product group.

8.Multiply the gross profit percentage by the total dollar sales to derive the dollar gross profit from each product.

9.Add together the total dollar gross profit figures to derive the total dollar gross profit from the year’s sales.

10.Divide the dollar gross profit by the annual sales revenue to derive the average gross profit percentage for the year’s sales. Completing this gives you an average gross profit percentage for your business.

b. Forecast Gross Profit for an Existing Business If you’re already operating and have a profit and loss statement for your business from prior months, your job is even easier. Simply subtract the total cost of sales from the total revenue to get the gross profit for the period. Then, convert the dollar gross profit figures to a percentage of sales revenue by dividing total dollar gross profit by total sales for the period. The percentage gross profit figure you get will be the percentage gross profit figure you use for your break-even forecast. If you’re already operating and your expansion will change the percentage of total sales revenue that each product group brings, then you will need to forecast your new average gross profit by following the procedure for a new business listed just above.

B. Ways to Raise Money Before you can sensibly plan to raise money, you need to know how it’s commonly done.

1. Loans A loan is a simple concept: Someone gives you money in exchange for your promise to pay it back. The lender could be a bank, friend, family member or anyone else willing to lend you money. The lender will almost always charge interest, which compensates the lender for the risk that you won’t pay back the loan. Usually, the lender has you sign some papers (called a note and loan agreement) spelling out the details of your loan agreement. (See Article 10, Section D1, for examples.) While these basic concepts are simple, not everyone seems to clearly understand them. For example, some people put a great deal of energy into arranging to borrow money, but think little about the hard work that goes into repaying it. The important thing to understand is that the lender expects you to pay the money back. It’s only fair that you honor your promise if you possibly can. Your business may be so successful that you can pay back the loan sooner than the original note calls for and save some interest expense in the process. Some state laws allow repayment of the entire principal at any time with no penalty. However, laws in some states allow the lender to charge a penalty of lost interest if the borrower pays the loan back sooner than called for. Make sure you read the loan documents and ask about prepayment penalties. Your lender may be willing to cross a prepayment pen

•Fully amortized loan. This type of loan repayment provides for principal and interest to be paid off in equal monthly payments for a certain number of months. When you’ve made all the payments, you don’t owe anything else. The interest rate and the number of years or months you agree to make payments can change your monthly payments a great deal; pay close attention to these details. For example, if you borrow $10,000 for five years at 10% interest, you will agree to make sixty monthly payments of $212.48, for a total repayment of $12,748.80. That means you will pay $2,748.80 in interest. Now let’s say you borrow $10,000 for five years at 20% interest. Your monthly payments will be $264.92 and you will end up paying $15,895, including $5,895 in interest.

•Balloon payment loan. This loan (sometimes called an interest-only loan) calls for repayment of relatively small amounts for a pre-established period of time. You then pay the entire remaining amount off at once. This last large payment is called a “balloon payment,” because it’s so much larger than the others. Most balloon payment loans require interest-only payments for a number of years until the entire principal amount becomes due and payable. Although this type of repayment schedule sounds unwieldy, it can be very useful if you can’t make large payments now, but expect that to change in the near future.

Problems With Co-Signed Loans

Bankers sometimes request that you find a co-signer for your loan. This is likely if you have insufficient collateral or a poor or nonexistent credit history. Perhaps someone who likes your idea and has a lot of property, but little cash, will co-sign for a bank loan. A co-signer agrees to make all payments you can’t make. It doesn’t matter if the co-signer gets anything from the loan—she’ll still be responsible. And if you can’t pay, the lender can sue both you and the co-signer. The exception is that you’re off the hook if you declare Article 7 bankruptcy, but the co-signer isn’t. Co-signing a loan is a big obligation, and it can strain even the best of friendships. If someone co-signs your loan, you might want to consider rewarding your angel for taking this risk. From my own experience, I co-signed a car loan for an employee once, and I’ll think twice before I do it again. I didn’t lose any money, but the bank called me every time a payment was 24 hours late, and a couple of times I thought I might have to pay. I didn’t like being financially responsible for a car that I had never driven and might never see again.

a. Secured Loans Lenders often protect themselves by taking a security interest in something valuable that you own, called “collateral.” If you pledge collateral, the lender will hold title to your house, your inventory, accounts receivable or other valuable property until the loan is paid off. Loans with collateral are called “secured” loans. If you don’t repay a secured loan, the lender sells your collateral and pockets the unpaid balance of your loan, plus any costs of sale. Not surprisingly, if you have valuable property to secure a loan, a lender will be much more willing to advance you money. But you also risk losing your house or other collateral if you can’t pay back the loan. A lender will expect you to maintain some ownership stake in the asset. This will normally be 10% to 30%, depending on the type of asset and the type of lender. That means you can’t expect to get a loan for the same amount as your collateral is worth. If you default on a loan and proceeds from the sale of the collateral are not enough to pay off the loan, the lender can sue you for the remaining amount. The best advice is this: Be very cautious when considering a secured loan. Make sure you know your obligations if the business fails and the loan can’t be repaid. Lenders like collateral, but it never substitutes for a sound business plan. They don’t want to be selling houses or cars to recoup their money. In fact, lenders often only accept real property, stocks and bonds and vehicles as collateral. Items of personal property, such as jewelry, furniture, artwork or collections usually don’t qualify. All lenders really want is for you to pay back the loan, plus interest. If they have to foreclose on your house, it makes them look, and probably feel, bad. Here’s an example of a loan secured by real estate and used to open a business.

Example: Mary needs to borrow $50,000 to open a take-out bagel shop. She owns a house worth $200,000 and has a first mortgage with a remaining balance of $100,000. Uncle Albert has offered to lend Mary the amount she needs at a favorable interest rate, taking a second mortgage on Mary’s house as collateral for the loan. Mary agrees and borrows $50,000, obligating herself to repay in five years with interest at 10%, by making sixty payments of $1,062.50. If Mary can’t make all the payments, the second mortgage gives Uncle Albert the right to foreclose on Mary’s home and sell it to recover the money he loaned her. Uncle Albert feels secure, since he is confident the house will sell for at least $150,000, and the only other lien against the house is the $100,000 first mortgage. If a foreclosure did occur, Mary would, of course collect any difference between the selling price and the balance of the two mortgages.

b. Unsecured Loans Loans without collateral are called “unsecured” loans. The lender has nothing to take if you don’t pay. However, the lender is still entitled to sue you if you fail to repay an unsecured loan. If he wins, he can go after your bank account, property and business. Lenders typically don’t make unsecured loans for a new business, although a sound business plan may sway them. Remember, the lender’s maximum profit from the loan will be the interest he charges you. Since he won’t participate in the profits, naturally he is going to be more concerned with security.

2. Equity Investments An equity investor buys a portion of your business and becomes part owner. The equity investor shares in your profits when you succeed. Depending on the legal form of ownership, she only shares in your losses up to the amount of her initial investment. Put another way, most equity investors’ risk is limited to the money they put up, which can be lost if the business fails. you will give it back. Your business plan should include a forecast of when and how that will happen. Failing to discuss a repayment strategy in your plan can cause a potential investor to wonder about your motives. To understand a little more about your potential backers, let’s look at the dilemma they face when they consider investing in a small business like yours. On one extreme are the very safe investments that produce a low profit. At the other extreme lie investments that promise a very high profit but that also carry a high risk of losing the entire investment. Your new business proposal will be far less safe than an insured bank deposit. This means that to attract money, you must offer investors the possibility of fairly high returns. While investors will not classify your proposal as risky as casino gambling, the smart ones will know that, statistically, putting money into a new small business isn’t a whole lot safer. In addition to the possibility of a big gain, investors will want to minimize their risks by looking for any security-enhancing feature your investment proposal offers, such as your skill at making businesses succeed or your business’ profitable track record. You will want to offer investors the possibility of a good financial return, a sense of security and, if possible, a little more. Often, this is a vision of engaging in a business designed to enhance some particularly worthwhile objective such as health, education or environmental concerns. Or it can be simply an opportunity to help someone with enthusiasm and drive. One of the best ways to convince a potential lender or investor that his money is secure is to convince him that you are an honest, sincere person. At least as many businesses fail to get financed because potential investors don’t like the person making the sales pitch as fail because they don’t like the pitch itself.