What does capital cost?

The cost of capital in social investment is a topic that many of you may have questions about. In this post, we explore some new tools and information on the Good Finance website. 

Good Finance have launched a Cost of Capital calculator website to help you whilst you are looking for social investment. This is great news if you are looking for a loan, to understand the cost implications and to prepare yourselves from both a financial and business perspective.
 

What does the social investor want to know?

Over at Big Issue Invest (BII) we get requests for investment from across the country. It is always useful to have a chat to start the conversation off and to find out what the charity or social enterprise (VCSE) is looking for. In relation to the loan application we want to know how much the VCSE is looking for; what they want investment for; how they can repay the loan. 

Whilst all social investors are different and have unique priorities, most them will want to know the same things.
 

What does the potential social investee want to know?

More importantly, common questions from charities and social enterprises are ‘how much will this cost us?’ and ‘for how long?’ - this goes without saying of course.  Not asking would be a concern.

Charities and social enterprises support a range of beneficiaries in a variety of sectors, often they are time poor and have little in reserves. The common challenge they face is that they do not always have an in-house accountant. There is little experience of borrowing and it isn’t always easy to know where to go to ask questions connected to the cost of borrowing capital.

At BII, we ask if you have spoken to your bank and recommend that you check and compare rates, getting the best deal for your organisation. With this in mind, you might hear the following questions in those conversations: Will it be fixed or variable rate? Is it above base rate? What is a capital repayment holiday? Lots of jargon which again the Good Finance Jargon buster can help with if these terms are not familiar to you. How long is the loan for?  It is these questions that make it important to understand how the cost of capital works.

Not to make things even more confusing, two investors can offer the same rate, yet somehow the monthly repayments are different. This is because of the type of rate being offered – fixed or variable is just one factor.  So, do make sure that the question ‘what interest rate do you charge?’ is on your list for topics of conversation. This should be followed with, ‘can you tell me what the monthly repayments will be?’. Take note…

The importance of understanding the cost of capital

You will be asked to share your cash flow forecasts, an opportunity for you to show your board and your investor that you can afford to take on a loan alongside your usual business expenses. To do this you need to know what the monthly costs are. Calculators will highlight both capital and interest costs separately.

When using the calculator ensure you have the following information in advance:

• The amount of capital required 
• For a property purchase, have the actual property valuation to hand
• How much your organisation is contributing of its own capital (if it can)
• Know what your expense limitation is in advance, to help you to decide if it is affordable
• How much money you need to borrow, the value of the loan you need
• The term or the period you want to borrow for – check with the lender/investor the term they can offer you and 
• The rate of interest you expect to pay (again worth doing your homework on this) 

Don’t forget!

Finally, make sure that you know the full cost of borrowing.  There will be an arrangement fee, check when you will be charged.  Most are up-front charges. Ask if there are any other costs e.g. legal fees. 

Frontline perspective of the cost of capital calculator

‘We have recently taken investment from Big Issue Invest and they kindly explained the monthly costs in detail.  I manage the accounts for The Respite Association and the cost of capital calculator that Big Issue Invest has told us about would have been a useful tool to help us manage our financial modelling before taking on the loan.  We actually tried to find an online calculator when we first started looking at loans so we could calculate what the costs might be, so it would be a very useful thing indeed.’

Kate Turner, Finance Manager at The Respite Association, Devon