Entrepreneurial Finance: Business Startup Advice and Financial Ratios

This essay provides financial advice to a family member considering starting a business with $3,000,000. It explains key financial concepts such as marginal revenue and costs, economic and financial capital, opportunity costs, interest rates, taxes, and SWOT analysis. The essay also covers the importance of a financial plan and financial statements. Ratio analysis is used to illustrate financial principles, including liquidity, profitability, and solvency ratios. The document advises against simply leaving the money in a bank, suggesting that investing in a business could yield better returns. It recommends starting as a sole proprietor to minimize legal obligations, emphasizing the importance of understanding and applying financial principles for effective business management. The student contributed this document to Desklib, a platform offering AI-based study tools and resources for students.

Entrepreneurial Finance
10/20/2018

Entrepreneurial Finance 1
Question
A family member of yours contacted you and asked for advice. He has $ 3 000 000 and
thinking of starting a company. He is not sure what kind of business enterprise to start, has
no understanding of financial concepts such as marginal revenue and costs, economic and
financial capital, opportunity costs, interest rates and taxes, SWOT analysis, a financial
plan or financial statements. Explain to him the above as well as financial principles by
using ratio analysis. Suggest why leaving his money in a bank could be the worse case
scenario.
One of the family members of mine contacted me for asking for the advice as he is thinking to
start the business for $ 3,000,000. The relative has lack of understanding related to the concepts
of finance which include marginal revenue and costs, economic and financial capital, interest
rates, opportunity costs, taxes, SWOT analysis a financial plan or financial statements. It is
essential to make the relative aware of the financial concepts. This paper will help the relative to
take the correct steps for starting the business or leaving the money in the bank account. It is
suggested to not to keep the amount in the bank.
Business enterprise
Establishing a business entity include four different ways through which a person can form the
business. The decision related to business enterprise mainly depends on the circumstances and
nature of the proposed business. The below given are the four different forms of the business
entity: -
 Sole proprietorship: - A sole proprietorship is a business entity that is mainly owned by
the individual owner. This is considered one of the easiest kinds of business because it

Entrepreneurial Finance 2
doesn’t include any legal obligations that are required to be followed by the company
(Jones, 2013). Running a business like a sole proprietorship also include few
requirements such as simple tax reporting, fewer business expenses and freedom to run
the business. In this form, the owner is responsible for the actions that has been taken by
them for the company.
 Partnership: - Partnership is a form of business that is formed by the two or more
people. The partnership includes the start-up fees which are different from the sole
proprietorship. There are different types of partnership that has been performed by the
people include limited partnership and limited liability partnership. All the decisions and
actions get divided into both the partners with the division of profit (Trotman & Carson,
2018).
 Limited liability Company: - The limited liability company gives the flexibility to the
sole proprietorship or partnership along with the protection of a corporation. The setting
up of the LLC needs a registration of the company with the state agencies and paying off
the fees.
 Incorporation: - Corporation is divided into the C and S Corporation and creating a
company needs filling of the paperwork from the state agencies and paying the fees. A
corporation can easily attract investors.
Marginal revenue and cost
Marginal revenue
Marginal revenue is an additional amount of revenue that is created by the increasing the sales of
product by every unit. In simple words, it is also known as the unit revenue which was generated

Entrepreneurial Finance 3
from the last item sold. The calculation of the marginal revenue can be done by dividing the
changes in the total revenue earned by the change in the number of units sold. Change in total
revenue can be calculated by deducting the revenue before the last unit was sold from the total
revenue once the unit was sold (Pilbeam, 2018).
Marginal cost
The marginal cost is referred to as the cost added by producing an additional unit of the products
and services. The calculation of the marginal cost can be done by dividing the change in cost
from the change in the quantity (Neave, 2017). This concept is mainly important in the allocation
of the resource for the optimum results.
Economic and financial capital
Financial capital: - Financial capital refers to as the money that is mainly used to make the
purchase of the needed capital goods. This financial capital can be grouped into the form of
equity and debt, in which the debt mainly include the loans taken from a brand or corporate
bonds (Hill, 2016).
Economic Capital: - It is referred to as the amount of capital that is mainly used by the
organisation in the financial services to cover the unexpected risk that is faced by the company.
Opportunity costs
Opportunity cost refers to the benefit an individual, investor or business misses out while making
the selection of the one alternative over the other. In simple words, it refers to as missing out one
opportunity for other and that loss of the other opportunity is the opportunity cost. The analysis

Entrepreneurial Finance 4
of the opportunity cost performs an important role in identifying the capital structure of the
business (Accounting tools, 2018).
Opportunity cost= return of the option that is not chosen- the return of the chosen option
Interest rates and taxes
Interest rate
The interest rate is the sum of the interest which is due from a certain period, as a share of the
sum lent, borrowed or deposited. The amount of interest rate depends on the sum of principle,
the rate of interest, compounding frequency and the time period. This is important to be
considered by the person who is looking to start a new business or for the person who is keeping
their amount in the bank (Gitman, Juchau & Flanagan, 2015).
For instance; If the relative keeps the amount in the bank for the longer period of time then he
will get amount as the interest for keeping their amount in the bank.
Taxes
Tax is the compulsory economic charge or some type of the levy imposed on the individual
person or the corporation by the government or the by the local entity. This will help the
government to cover up the public expenditure and to develop the country. The failure of the
taxes or resistance might lead to the punishable by the law. These excises can be direct or
indirect taxes as it can be paid in the money or as it labour equivalent (Shoup, 2017). The taxes
vary according to the government of the countries as they have different policies and regulations.

Entrepreneurial Finance 5
SWOT analysis
SWOT analysis is a study that is conducted by company or firm to determine its internal
strengths and weakness with the entire external opportunities along with threats. In simple
words, this analysis will help the company in determining the business competition and the
project planning related to the financial terms (Chernev, 2018).
Financial statement
The financial statement refers to like the combination of the three major reports that is based on
the business. It is the official record of the financial actions and position of a corporate or the
added entity. In other words, the financial information is then presented in a set sort of structure
manner an in an effective way that is easy to understand. In the perspective of finance, the 4
basic financial statements which are prepared by the company include the Income statement,
Balance sheet, statements of cash flows and retained earnings statements (Sedláček, 2016).
Financial principles by ratio analysis
The financial principles are required to be understood with the help of the ratio analysis as this
will help them in understanding the benefits of opening the business (Hirschey, 2016). There are
different types of the ratios which are essential to be calculated by the company. These include: -
Liquidity ratios
The liquidity ratio helps in measuring the ability of the firm to repay the amount of debt that is
taken by them as this will help in meeting the unexpected needs of the cash (Gitman, Juchau &
Flanagan, 2015). The liquidity ratio include

Entrepreneurial Finance 6
Current ratio- This ration helps in measuring the ability to repay the current obligation of the
company. The calculation can be done as-
Current ratio= Current assets
Current liabilities
The ratio that is standard is 2:1 which reflects that the company is able to repay the amount
because it is able to maintain the current assets.
Acid test ratio- The quick assets or acid test ratio mainly include cash, marketable securities and
other elements that can be used by the company to pay the immediate obligation of the company.
This can be calculated as
Acid test ratio= Quick Assets
Current liabilities
The traditional rule of thumb for this ratio is equal to the 1:1 (Drexler, Fischer & Schoar 2014).
This will help the company in understanding that the company is capable to pay to their
obligations or not. If the company is not able to maintain the liquidity then they won’t be able to
repay the amount.
Profitability ratio
The profitability ratio is essential as it measures the enterprise's operating efficiency which
shows their capability to produce the income. The flow of the cash amount affects the ability of
the company which is essential to obtain the financing of debt and equity (Penman, 2015).
Profit margin- This ratio help the company to measure the abilities of a company to turn the
sales of a company into income.
Profit margin= Net income

Entrepreneurial Finance 7
Net sales
Asset turnover- This helps in analysing the efficiently use of the assets by the company.
Asset Turnover= Net Sales
Average total assets
The ratio reflects the way through which the company are making use of the assets to increase
sales.
Return on assets- The ROA reflects the overall measure of profitability and it reflects the net
income which is earned by the company. This ratio is the mixture of the asset turnover ratio and
profit margin ratio.
Return on assets= Net income
Average total assets
This ratio helps in understanding that the company is earning a profit in the market or not.
Therefore they make use of this ratio for evaluating the fact that it is able to survive in the market
or not.
Solvency ratio
Solvency ratios are majorly used to measure the risk related to the long-term and related to the
interest of the long-term creditors and investors (Laitinen, 2018).
Debt to total asset ratio- This ratio presents the proportion of the properties that are delivered
by the creditors.
Debt to total assets ratio- Total debt
Total assets

Entrepreneurial Finance 8
Times interest earned ratio- This ratio helps company to indicates the capability of the firm to
pay interest that remains due with the company.
Times interest earned= Income before EBIT
Interest expenses
All these ratios reflect the ability of the company to earn the profitability, to maintain the
liquidity and to be able to pay off the debts. Further, all these ratios reflect the principles of the
finance which is followed by the firm.
In the end, it is suggested to the family member to invest the amount in the business instead of
leaving the amount in the bank. The reason behind the same is that they won’t be able to get an
effective interest in the banks. The banks will pay the low-interest rate for a certain period of
time due to which they won't be able to get the effective returns. The family member should open
the business as they will earn more than the interest rates. This will be considered as one-time
investment which will offer the benefit in the near future. Moreover, he can alone open the
company as a sole proprietor because this form of business enterprise doesn’t involve any kind
of legal obligations. Though, they will become eligible for paying the tax on profit that has been
earned by them. The company can easily be managed by them if they will follow the essential
financial principles which include ratios. The owner can use the ratios for measuring the facts
that will guide them while making the decision related to the company. Along with this, they can
maintain the financial statement which will help them in attracting the investors towards the
company. This reflects that the company should proceed with the business as this is the way
through which they can earn a maximum profit and leads to the opportunity for success in the
near future.

Entrepreneurial Finance 9
References
Accounting tools. (2018). Opportunity cost. Retrieved from:
https://www.accountingtools.com/articles/what-is-opportunity-cost.html
Chernev, A. (2018). Strategic marketing management. Chicago: Cerebellum Press.
Drexler, A., Fischer, G., & Schoar, A. (2014). Keeping it simple: Financial literacy and rules of
thumb. American Economic Journal: Applied Economics, 6(2), 1-31.
Gitman, L. J., Juchau, R., & Flanagan, J. (2015). Principles of managerial finance. AU: Pearson
Higher Education.
Hill, S. (2016). Managerial economics: the analysis of business decisions. US: Macmillan
International Higher Education.
Hirschey, M. (2016). Managerial economics. New York: Cengage Learning.
Jones, W. (2013). Four Major Business Formation Types. Retrieved from:
http://wsjlaw.com/2013/06/four-major-business-formation-types/
Laitinen, E. K. (2018). Financial Reporting: Long-Term Change of Financial Ratios. American
Journal of Industrial and Business Management, 8(09), 1893.
Neave, E. (2017). The economic organisation of a financial system. New York: Routledge.
Penman, S. H. (2015). Financial Ratios and Equity Valuation. Wiley Encyclopedia of
Management, 1-7.

Entrepreneurial Finance 10
Pilbeam, K. (2018). Finance & financial markets. US: Macmillan International Higher
Education.
Sedláček, J. (2016). Financial Statements in the Financial Decision Making. European Financial
Systems 2016, 678.
Shoup, C. (2017). Public finance. New York: Routledge.
Trotman, K., & Carson, E. (2018). Financial accounting: an integrated approach. AU: Cengage.