When my daughter began thinking about getting her own apartment, I strongly suggested she set aside enough money to pay all her bills for six months before she moved out. I know she thought I was being overprotective, but she still waited until she had the extra cash. When the company she was working for was purchased by another company and her job was eliminated, she was glad she had listened. Her savings meant she didn’t need to move home, could pay her bills and wait to find the right next job.
I give the same advice to enthusiastic entrepreneurs. I know they think I am being pessimistic, but I know if you are thinking about quitting your day job to pursue your passion full time, you need to have six months of operating funds in the bank before you make the move. Operating funds may be in the form of savings or a firm contract from a paying client (not a promise that the check is in the mail) before you get started. If you can’t identify where the money will come from before you leap, you may not be ready to start the business.
Clients change their minds, projects fall through or take longer to complete than you expected and sometimes that sure thing doesn’t come through. Renting an office? It sucks to find out that leaks inside the building are your problem not the landlords, or the computer you had been counting on just crashed. You need to be prepared. The six months of funds pay the rent and salaries when things don’t go as planned. I see lots of business owners walk away after five or six months because they don’t have the finances to make up the cash flow short falls early on.
Capital vs. Operating Funds
In addition to operating funds, you need to have start-up capital. These are the funds to buy things outside of normal operating expenses, like signs, furniture, websites, and other marketing material. These are the one-time purchases which are vital to running a business. If you can’t pay for basic equipment, supplies, and marketing you are not ready to start a business.
Impatient and ready to get started? Don’t make the mistake of trying to pay for these basics out of operating expenses because that defeats the purpose of having the funds there. You can, however, look for a loan. Banks are typically reluctant to lend money to cover operating expenses since there is no guarantee they will ever be paid back. They will often lend money for some capital expenses, tangible items which have value. In most cases, they are going to ask you to personally guarantee the loan. Reluctant to risk your house on your business? You may not be ready.
Don’t get me wrong, I love owning a small business and I think it is a great path for many people. I just want you to be successful when you do, and having enough money in the bank is an important first step.