UNIT 7: RESOURCES IN THE NEW VENTURE

Contents
7.0 Aims and Objective
7.1 Introduction
7.2 Meaning of Resources
7.3 Common Characteristics of Resources
7.4 Classifications of Resources
7.4.1 Financial Resources
7.4.2 Operating Resources
7.4.3 Human Resources
7.5 Resources, Investment and Risk
7.6 Summary
7.7 Answers to Check Your Progress Exercises

7.0 AIMS AND OBJECTIVES

At the end of this unit, you are expected to:

 define the meaning of resources
 identify the common characteristics of resources
 understand the different types of resources

7.1 INTRODUCTION

This unit is discussing about resources in an entrepreneurial venture. They can be classified as
financial, operating and human resources. The types and sources of financial resources, the
nature of operating resources and the form of human resources will be presented. In addition,
risks associated with investing these resources will also be discussed.

7.2 MEANING OF RESOURCES

Resources are the things that a business uses to pursue its ends. They are the inputs that the
business converts to create the outputs it delivers to its customers. They are the substance out

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of which the business is made. There are three sorts of resources that entrepreneurs can call up
on to build their ventures. These are:
1. Financial resources
Resources which take the form of or can be readily converted to cash
2. Human resources
The facilities which allow people to do their jobs such as buildings, vehicles, office
equipment, machinery and raw materials, etc.
3. Operating Resources: - The facilities which allow people to do their jobs such as
buildings, vehicles, office equipment, machinery, raw materials, etc.

Financial Resources

Human Resources Innovative Combination New Value

Delivered

Operating Resources

7.3 COMMON CHARACTERISTICS OF RESOURCES

All resources have a number of common characteristics, regardless of the form they take.
i. Resources are consumed: They are converted to the products which customers buy and
there is competition to get hold of resources. A number of businesses, entrepreneurial and
otherwise, will be trying to acquire a particular resources consequently, managers are
willing to pay for resources.
ii. Resources have a cost: The cost of a resource is an indication of how it might be used by
a business to create new value. The cost of resources is determined by the market created
for that resource. Resources with the potential to create a lot of new value will be
expensive. Resources are bought and sold by businesses and their cost is determined by
the market created for that resource. The cost is not the same as the value of the
resources to a particular business since the value of a resource lies in the way a business

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 will use it, how innovative they will be with it and how hard they will make it work for
them.
iii. Resources are convertible: One type of resource can be converted into another either by
selling and exchange or bartering or both. This process normally involves selling a
resource thereby converting it into cash, and then using this cash to buy something new.
However, the development of markets vary: one may be well developed and others less
developed. In a developed economy, money serves as a medium of exchange, hence, it
keeps liquidity. Whereas in a less developed economy, exchange is direct i.e. goods for
goods (which is referred as barter system).

The ease with which a particular resource can be converted back into ready cash is called
its liquidity: liquid resources are easily converted back, illiquid resources are converted
back only with difficulty.

7.4 CLASSIFICATION OF RESOURCES

7.4.1 Financial Resources

Financial resources are those which take a monetary form. Cash is the most liquid form of
resources because it can be used readily to buy other resources. The following are all financial
resources which have a role to pay in the entrepreneurial venture.
a) Cash in hand
This is money to which the business has immediate access. It may be held either as
money, i.e. petty cash, or it may be stored in a bank’s current account or other direct
access account.
b) Overdraft facilities
Such facilities represent an agreement with a bank to withdraw more than is actually held
in the venture’s current account. It is a short-term loan which the business can call upon
although overdrafts are normally quite expensive.
c) Loans
They represent money provided by backers, either institutional or private, which the
business arranges to pay back in an agreed way over a fixed period of time at an agreed

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 rate of interest. They may be secured against collaterals to reduce the risk of the loan to
the backer.

d) Outstanding debtors
This represents cash owed to the business by individuals and firms which have received
goods and services form it. Many debtors will expect a period of grace before paying and
it may not be easy to call in outstanding debt quickly. Outstanding debtors are one of the
main reasons why cash flow may be negative in the early stages of the venture’s life.
e) Investment capital
This is money provided to the business by investors in return for a part-ownership or
share in it. Investors are the true owners of the business. They are rewarded from the
profits the business generates. The return they receive will be dependent on the
performance of the business.
f) Investment in other businesses
Many businesses hold investments in other businesses. These investments may be in
unrelated businesses but they are more often in suppliers or customers. If more than half
a firm is owned, then it becomes a subsidiary of the holding firm. Investments can be
made through personal or institutional agreements, or via publicly traded shares. A firm
does not normally exist solely to make investments in other firms.

 All financial resources have a cost. This cost takes one of two forms. The cost of
capital is the cost encountered when obtaining the money:
i. Direct cost
It is the direct charge faced for having an overdraft, the interest on loans, the return
expected by investors, etc
ii. Opportunity cost
It is the potential return that is lost by not putting the money to some alternative
use. For example, cash in hand and outstanding debts lose the interest that might
be gained by putting the money into an interest-yielding account.
 Financial resources are the most liquid and thus the most flexible resources to which
the venture has access. However they are the least productive.
productive. Cash in itself, does not
create new value. Money is only valuable if it is put to work. This means it must be

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 converted to other, less liquid, resources. The entrepreneur must strick a balance
between the decisions how liquid the business is to be, how much flexibility it must
have to meet short-term and unexpected financial commitments and the extent to
which the firms financial resources are to be tied up in productive assets.

Such decisions are critical to the success of the venture. If insufficient investment is make
then the business will not be in a position to achieve its fall potential. If it becomes too liquid,
it may be knocked off-course by short-term financial problems which, in the long run, the
business would be more than able to solve. Managing the cash flow of the business is central
to maintaining this liquidity balance.

Raising the money to go into business is often a great barrier for many would be
entrepreneurs. It has never bean easy for small firms to attract debt and equity financing
because such ventures are risky to many potential lenders and investors. Lack of start-up
capital leaves the new business on a weak financial foundation, vulnerable to business failure.

 The money an entrepreneur needs to begin a business is called seed money, adventure
capital or injection capital or risk capital

A. Patterns of Enterprise Financing

The growth and development of small enterprises is constrained by inadequate access to

finance. In this regard, it has also been argued that lack of access to formal credit is one of the
major physical impairments to small enterprises and entrepreneurs to flourish. This constraint
is, however, mainly determined by policies and institutions external to the enterprises. Hence,
the financing and saving patterns of individuals and households are briefly discussed here
under.

B. Financing of Startup Capital

The important sources of startup capital open to entrepreneurial businesses in developing

countries are: personal (own) savings, formal financial institutions, and informal financial
institutions, which include loans form friends and relatives, the system of rotating savings,
local money lenders, and credit unions that could be described as semi-formal financial
institutions. Some of these sources of financing are discussed as follows:

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 i. Personal (own) savings: - Personal savings were the main sources of finance to start
new businesses, followed by borrowing from friends and relatives.
ii. Borrowing from friends and relatives: - The most important alternative source of
finance to own savings is borrowing from friends and relatives.
iii. Inheritance: - It ranked third as a source of startup capital; next to private savings and
borrowing from friends and relatives. This indicates the relative importance of bequest to
that of formal finance, specifically bank loans, to sort a business.
iv. Bank and supplier’s loans: - The contribution of bank and suppliers loans in financing
the initial investment of entrepreneurial businesses is insignificant as compared to the
other sources. There is a general consensus that small businesses in less developed
countries have little access of formal finance to start their businesses. As a result, most of
the enterprises depend upon personal savings and borrowing from friends and relatives
as alternative sources to the former in financing their startup capital. This implies the
relative importance of the informal sector as compared to the formal financial institutions
in financing micro and small enterprises in Ethiopia. The other important issue, which
needs to be addressed with respect to source of finance, is the relationship between firms’
access to formal and informal finance to start a business and their respective size. The
argument here is that firms based on borrowing from friends and relatives are unlikely to
be big. In contrast, access to formal external finance at the time of startup capital is
highly associated with larger size. However, it is difficult to reach at a conducive result
as the number of enterprises that used bank loans to finance their startup capital is too
small to provide a meaningful generalization for the analysis.

C. Capital – It is any form of wealth employed to produce more wealth for the firm. It is
commonly categorized into three groups: They are:
i. Fixed capital
It is needed to purchase the business’s permanent or fixed assets such as building
equipments, machinery etc.
ii. Working capital
It represents the business’s temporary funds; it is the capital used to support the business’s
normal short-term operation. It is current assets less current liabilities. It is used to buy

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 inventory, pay bills, finance credit sales, pay wages and salaries and take care of any
unexpected emergencies. It is used to offset the uneven flow cash into and out of the
business due to normal seasonal fluctuations.
iii. Growth capital
It is required when an existing business is expanding or changing its primary direction. In
order to expand an existing business, additional capital is needed to buy additional
facilities.

Sources of Capital
Generally, there are two types of financing available: external and internal funds.
External sources: They are funds generated from external to the firm. Alternative sources of
external financing needs to be evaluated in terms of length of time the funds are available, the
costs involved, and the amount of company control lost. Each type of external financing falls
into one of two categories – debt financing or equity financing.

Debt financing is a financing method involving an interest bearing loan instrument, the
payment for which is only indirectly related to the sales and profits of the new venture.
Typically, debt financing requires that some asset be available (such as a car, house, machine,
or land) as collateral. Equating financing,
financing, on the other hand, typically does not require
collateral and offers the investor some form of ownership position in the venture. The investor
shares in the profits of the venture, as well as any disposition of assets on a pro rate basis. Key
factors in the use of one type of financing over another are the availability of funds and the
prevailing interest rates. Frequently, an entrepreneur’s financial needs are met by employing a
combination of debt and equity financing.

Internal funds: - These are the type of financing most frequently and easily employed. They
can come from several sources: profits (in a form of retained earnings), sales of assets,
reduction in working capital, credit from suppliers and accounts receivable. In every new
venture, the startup years involve plowing all the profits back into the venture, with outside
equity investors not expecting any pay back in these early years. Sometimes, the needed funds
can be obtained by selling little used assets. Wherever possible in a startup situation, each
asset should be on a rental, not an ownership, basis as long as the terms are favorable. Another
short-term internal source of funds is obtained by reducing short-term assets inventory cash

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and other working capital items. Sometimes, an entrepreneur can generate the needed cash
through credit from suppliers. While care must be taken to ensure good supplier relations and
continuous sources of supply, taking a few more days before paying the bills can also generate
needed short-term funds. A final method for internally generating funds is by collecting bills
more quickly, allowing little aging in accounts receivable. Again, the entrepreneur must be
careful not to irritate key accounts in implementing this practice. Certain customers have
payment practices that cannot be altered by the entrepreneur or large business as well.

The debt financing and equity financing can also be presented as follows:

Sources of equity capital/financing

Equity financing represents the personal investment of the owner (owners) in business. It is
sometimes called risk capital because these investors assume the primary risk of losing their
funds if the business fails.

The advantages of equity capital are:

- It does not have to be repaid like a loan does.
- It guarantees the investor a voice in the operation of the business and a percentage of
any future earnings.
Some common sources are
1. Personal Savings – This is money that the entrepreneur saves.
It is the most common source of equity funds/capital. It gives absolute control over the
business operation. It offers the least ability to accumulate capital. As a general rule,
the entrepreneur should expect to provide at least half of the start-up funds in a form
of equity capital
2. Friends, Relatives and Angles
The entrepreneur should treat all loans and investments in a business like manner, no
matter how close the friendship or family relationship. It can avoid many problems
down the line. Angels are outsiders in search of tax shelters who are willing to invest
money in potentially profitable ventures.

3. Partners

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 Are those who contribute capital together and share profits or losses. There can be
general partners and limited partners
4. Public Stock Sales
The owner could elect to incorporate and go public by selling stock. This is an
effective method of raising needed capital, but it can be an expensive and time
consuming process filled with regulatory nightmares. Once a company makes a public
stock offering, nothing will ever be the same again. Before choosing to take a
company public the entrepreneur should consider carefully both the advantages and
disadvantages of making a public offering
Advantages
a. Ability to raise large amounts of capital
b. Improved access for future financing
c. Improved corporate image
d. Attracting and retaining key employees
e. Using stock for acquisition
f. Listing on a stock exchange

The disadvantages include

a. Dilution of founders ownership
b. Loss of privacy

Debt capital/Financing
Debt financing involves the funds that the entrepreneur has borrowed and must repay with
interest.

Sources of Debt capital

Not all of the sources of debt capital are equally favorable to the entrepreneur. Therefore, the
entrepreneur should understand the various sources and their characteristics in order to
increase the chance of obtaining a loan.

1. Commercial Banks

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 They are the very heart of the financial market, providing the greatest number and variety
of loans. They are second only to entrepreneurs personal savings as a source of capital for
launching business.
Types o loans granted
a. Short-term Loans
They are used to replenish the working capital amount to finance the purchase of more
inventories, boost output, finance credit sales to customers or take advantage of cash
discounts.
b. Intermediate and Long-term Loans
They are used to increase fixed and growth capital balances. It is granted for starting a
business, constructing a plant, purchasing real estate and equipment, and other long-
term investments. Loan repayments are normally made monthly or quarterly.
c. Unsecured Term Loans
They are granted primarily to those business with past operating experience indicating a
high probability of repayment. Term loans normally involve very specific terms that
may place restrictions and limitations on the firm’s financial decisions.
d. Installment Loans
Loans repayable on periodical payments of equal amount until the loan is fully covered.

2. Commercial Finance Companies:

They are institutions which finance consumers through companies. They lend to companies
so that they can sell on credit to consumers. But they do not directly finance consumers.
3. Savings and loan associations:
Are depository institutions established to encourage thrift among the public and create
loanable money to small businesspersons.
4. Stockbrokerage houses
They do not directly finance money but they mediate the financial institutions which are
ready to lend and individual business persons who need capital for investment with
commission.

5. Insurance companies

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 They take the risks associated with doing business. Besides, they give a financial guarantee
to business persons to undertake a business.
6. Zero coupon bonds
They are securities that have no coupon payment but promise a single payment at maturity.
The interest paid to the holder is the difference between the price paid for the security and
the amount received upon maturity (or price received when sold).

7.4.2 Operating Resources

They are those which are actually used by the business to deliver its outputs to the
marketplace. Key categories of operating resources include:
a. Premises: -
The buildings in which the business operates. This includes offices, production
facilities and the outlets through which services are provided.
b. Motor Vehicles: -
Any vehicle used by the organization to undertake its business such as cars for sales
representatives and vans and lorries used to transport goods, make deliveries and
provide services.
c. Production Machinery: -
Machinery which is used to manufacture the products which the business sells.
d. Raw Materials: -
The inputs that are converted into the products that the business sells.
e. Storage facilities: -
Premises and equipment used to store finished goods until they are sold.
f. Office equipment: -
Items used in the administration of the business such as office furniture, work
processors, information processing and communication equipment.

Operating resources represent the capacity of the business to offer its innovation to the
marketplace and its commitment to do that continuously.

They may be owned by the business or rented as they are needed. Liquid financial resources
are readily converted into operating resources, but operating resources are not easily

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converted back into money. The markets for second-hand business assets are not always well
developed. Even if they are, operating resources depreciate quickly and a loss may be made
on selling.

The type, amount, quality of operating resources must be determined in the light of expected
demand for the business’s offerings.

If capacity is insufficient, then business that might otherwise have been obtained will be lost.
If it is in excess of demand, then unnecessary and unprofitable, expenditure will be
undertaken. It is often difficult to alter operating capacity in the light of short-term
fluctuations in demand. This results in fixed costs, that is, costs which are independent of the
amount of outputs the firm offers. Critically, fixed costs must be faced whatever the business’s
sales. Fixed costs can have a debilitating effect on cash flow. The entrepreneur must make the
decision about commitment to operating capacity in the light of an assessment of the sales and
operating profits that will be generated by the business’s offering, that is, on the basis of all
accurate forecast of demand.

In order to use operating resources affectively it is important that entrepreneurs make

themselves fully conversant with any technical aspects relating to the sources; legal issues and
implications relating to their use (including health and safety regulations); suppliers and the
supply situation; and the applicable costs (both for outright purchase and for leasing). It is in
this area that partnerships with suppliers can be rewarding, especially if the operating
resources are technical or required ongoing support in their use.

7.4.3 Human Resources

This refers to people and their efforts, knowledge, skill and insights they contribute to the
success of the venture. Financial and operating resources are not unique and they cannot in
themselves, confer an advantage to the business. To do so they must be used in a unique and
innovative way by the people who make up the venture. The people who take part in the
venture offer their labor towards it. This can take a variety of forms.

a. Productive Labour: -

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 A direct contribution towards generating the outputs of the business, its physical
products or the service it offers.
b. Technical expertise: -
A contribution of knowledge specific to the product or service offered by the business.
This may be in support of existing products, or associated with the development of
new ones.
c. Provision of business services: -
A contribution of expertise in general business services, such as legal affairs,
accounting etc.
d. Functional organizational skills: -
The provision of decision making insights and organizing skills in functional areas
such as production, operations planning, marketing research and sales management.
e. Communication skills: -
Offering skills in communicating with, and gaining the commitment of external
organizations and individuals. This includes marketing and sales directed towards
customers and financial management directed towards investors.
f. Strategic and leadership skills
The contribution of insight and direction for the business as a whole. This involves
generating a vision for the business, converting this in to an effective strategy and plan
for action, communicating this to the organization and then leading the business in
pursuit of the vision.

The entrepreneur represents the starting point of the entrepreneurial venture. He or she is the
business’s first, and most valuable, human resource. Entrepreneurs, if they are to be
successful, must learn to use themselves as a resource and use themselves effectively. This
means analyzing what they are good at, and what they are not so good at, and identifying skill
gaps.

Human resources represent a source of fixed costs for the business. The possibility of taking
on, and letting go of, people in response to short-term demand fluctuation is limited by
contractual obligations, social responsibility, and the need to invest in training. Further,
motivation can only be built on the back of some sense of security. Hence, making a

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commitment to human resources involves the same type of decisions as making a
commitment to operating resources, namely: What will be needed, to what capacity, over what
period, must the resources be in-house or can it be hired when needed? However, people are
still people even if they are also resources and such decisions must be made with sensitivity.

7.5 RESOURCES, INVESTMENT AND RISK

In one sense, a business is ‘just’ the financial, operating and human resources that comprise it.
Only when these things are combined can the business generate new value and deliver it to
customers. Resources have a value and there is competition to get hold of them.

Resources are used to pursue opportunities and exploiting those opportunities creates new
value. The profit created by an entrepreneurial venture is the difference between the cost of
the resources that make it up and the value it creates. This is the return obtained from
investing the resources. Though profits are important for survival and growth the performance
of an entrepreneurial venture cannot be reduced to a simple consideration of the profits it
generates. Profits must be considered in relation to two other factors: opportunity cost and
risk.

Opportunity cost is a fundamental factor in measuring performance, this is because investors

are not concerned in the first instance with the profit made by a venture but with the return
they might get if they put their money to an alternative use.

The opportunity cost is the value of the opportunity missed because the resource is consumed
and so cannot be used in an alternative way. This is the true cost incurred when a resource is
used. If a resource is used in a most productive way possible, then the value created will be
higher than that which might have been generated by an alternative investment and so the
opportunity cost will be less than the value created and vice versa.

The second factor is considering how well an entrepreneur is using resources is risk. We
cannot predict the future with absolute accuracy so there is always a degree of uncertainty
about what will actually happen. This uncertainty creates risk.

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As risk is high the return expected by investors will be high and as the risk is low then
investors will be happy with a lower return. Consequently there is a pay-off between risk and
return.

In practice, institutional investors will aim to hold a portfolio, that is, a collection of
investments with different levels of risk and return. The objective here is to reduce the overall
level of risk for the portfolio.

Risk occurs because resources must be committed to a venture. Once money is converted into
operating and human resources, it is either too difficult or too expensive, or both to convert it
back. Therefore, once resources have been brought together and shaped to pursue a particular
opportunity there is no going back if a better opportunity demanding a different shaping of the
resources is identified later. In this way, entrepreneurial innovation demands an irreversible
commitment of resources. The opportunity cost must be faced and it is the investor in the
venture who must absorb this cost not the entrepreneur (although obviously the entrepreneur
may be an investor as well)

Resource commitment in the entrepreneurial venture

Financial
resources
Investment
Liquid financial Capital resources
resources are invested converted back to
in illiquid capital money with Risk
resources Operating difficulty
and human
resources Pursuit of opportunity

Innovation Resources combined

in innovative way

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Check Your Progress Exercises

1. What are resources?

……………………………………………………………………………………………
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2. Identify the main categories of organization /entrepreneurial/ resources.
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3. Which of these resources represent ability and commitment of an entrepreneur in
delivering its offerings?
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4. What are the different sources of capital?
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7.6 SUMMARY

Entrepreneurs must attract resources to their ventures in order to pursue business

opportunities. The main categories of resources are financial, operating and human resources
are valuable and are traded in markets. The entrepreneur must compete with other businesses
to get hold of resources by offering a good return from using them. Dedicating resources to a
particular venture exposes investors to risk, namely the possibility that the return gained will
be less than expected.

7.7 ANSWERS TO CHECK YOUR PROGRESS

1. Refer section 6.2

2. Refer section 6.2
3. Refer section 6.4.2
4. Refer section 6.4.1 (c)

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