7 Steps to Capital Allocation
In our last blog, we helped answer the question, “Do you have enough money to grow your business?”. After figuring out how much money you’ll need to properly fund business growth, you’ll need to create an Allocation of Funds. Be it an individual investor, venture capitalist, private equity partner, or the friendly loan officer at your neighborhood bank, they’re going to want to see a business plan -- and with that business plan -- an allocation of funds. They want to see where the capital is being deployed, so they can determine if you’re spending properly, and if that spending will generate a sizeable enough return on investment (ROI) to repay the loan or make equity valuable.
Some of this might already be done after realizing how much money your business needs. Often, you can place revenue goals, identify the resources needed to meet or exceed those goals, and then reverse engineer how much funding you need to obtain those resources. An allocation of funds helps you determine all the costs you might not be considering, and creates a line-item depiction of where all your capital will go.
We break down how to create an Allocation of Funds with the following steps:
Match Your Budget With Your Strategic Plan
This is critical. Mission Critical. Just as if the foundation for a skyscraper must be sound in order to support the construction of dozens of more floors, the strategic plan (or business plan) of a business must be sound in order to yield projected growth, capture investor and debtor funds, and support the injection of those funds. In a strategic plan, you set out a vision of what you want, in tangible and intangible terms, from market sentiment to financial standing. You create financial projections to coincide with your other goals, and create a roadmap to achieve them.
Ensure Your Budget Achieves Goals
Are you sure you’re obtaining enough capital to exceed those projections and achieve those goals? It’s time to assess what resources and expenditures are needed to exceed your projections, and budget the capital needed to get there. There’s a variety of factors that impact budgeting, from personnel to perks, office space to office supplies, and software to hardware.
Create Segmented Budgets
Creating a budget that will result in exceeding your business goals is a balancing act. Let’s use a software company as an example:
- What type of developers do I need? What skills are needed to create our software?
- How many of each type do I need? What’s the prioritization of their hiring? What’s my MVT, minimum viable team? At what point do I increase team size?
- What technology do I need to support them?
- What infrastructure is needed to create the software?
- How many salespeople do I need? How much do I need to budget for traveling and events? What’s a realistic number for them to achieve?
- How many marketing personnel do I need? How much do I need to spend on marketing initiatives? What mediums are best for my product?
- What about office space and technology for all of my team? What employee perks am I providing?
This is a small sample size of the multifarious factors that go into allocating funds in a way that generates growth and financial stability.
Research How Much That Costs
Don’t assume. Research the average salary amounts for each position you need to hire, and narrow it down for the geographic area you’re hiring within. Research the price of office space and office furniture. See how many laptops you need to buy before you can get wholesale pricing. You don’t want any surprises when it comes time to write a check (or process a credit card payment).
Break Down Your Spending
After doing research on your costs, break them down and create a line-item spreadsheet. Categorize your expenditures by areas like personnel, software, office equipment, and marketing. Then, break each category down further. For instance, put accounting software, a CRM platform, and design tools under the software category. Then, identify the unit price and amount of each. Then, multiply the unit price by amount, and render a total amount for that item.
Double-check Your Math
After breaking down your big dollar budget to a single office chair, take a step back and analyze the budget as a whole again. Do the different parts come together as a cohesive whole? In addition, is there anywhere that money can be better spent? Capital allocation is a vital skill for executives, and can be the difference maker in achieving goals. Imagine your company plans to spend $3,000 per month in design software, but it turns out it can get by with tools your CRM provides. You just found an extra $3,000 in your budget to spend on marketing or even hiring a commission-based salesperson. Rather than put out $3,000 without a direct ROI, you can allocate $3,000 with an expected ROI toward your top line.
Equipped with a business plan and allocation of funds, you’re prepared to source capital. Some sources may require more than these two tools, and each offer their own terms, benefits, and drawbacks. We’ll outline that and more, in our next blog.