If expanding internationally is part of a company’s growth plan, business owners and directors will likely already have some idea about what markets are targeted for expansion and when.
However, funding an overseas venture can be very different to funding a business in the UK, and business owners and directors need to consider a range of issues to ensure success.
In the UK, businesses generally raise funds via one of two pathways; equity or debt, both of which have different characteristics that may be attractive to different types of businesses.
Raising funding through private equity can take many different forms, including the tax-efficient HMRC venture capital schemes, however, there are downsides to consider.
For example, some owners may feel protective of the stake they own in the business and might not wish to have this reduced by bringing investors on board who will likely require a return on their capital.
Raising funding through debt typically means borrowing from an external source, for example, shareholders or third-party lenders – usually banks.
Whilst this method of raising funding means that the ownership structure of the business remains intact, there are other considerations to consider such as the current increased cost of debt finance, which means it is more expensive to borrow and service the debt.
Funding approaches tend to differ across territories, and business owners should be aware that it can be difficult to raise funding overseas if the business does not already have a significant presence or track record in the target country.
Usually, therefore, funding will have to come from the business’ UK headquarters, and business owners should explore different models to find the one that best suits their market approach.
Finding the right cross-border approach
It is helpful to start the process by performing a CAGE analysis, which is a structured method that looks at culture, administration, geography and economy – four vital aspects that will help business owners or directors to assess the complexity of the overseas expansion and the ‘distance’ between the target market and the UK.
This will help to identify the most suitable business model for operating in the new market, how the local operations will generate income and profit, and the likely timing of the costs of doing business overseas, such as taking office space, hiring employees and navigating local legislation.
This should lead to budget forecasts linked to the strategic objectives for the expansion and will highlight the cashflow timelines and how they impact on the local funding requirements.
This approach should be coupled with taking professional advice to understand the requirements of the chosen market, assess the different funding alternatives, and, crucially, the legal and tax implications that follow.
For example, if seeking to expand a business into Germany, a minimum level of €25,000 in share capital is required to set up a GmbH – the equivalent to a UK limited company. In China, however, businesses are required to put together a detailed business plan for the local tax authority that demonstrates what the intentions are for the market, what level of funding will be required and how current registered capital will finance the new venture and its operations.
Consequences of getting it wrong
Common mistakes that businesses make when using debt to fund an overseas venture often occur when the business assumes that rules and legislation overseas will remain similar to or the same as those in the UK. However, there may be restrictions around maximum interest deduction levels or ratios that need to be taken into account when calculating the taxable profits, as well as different rules that apply to withholding tax.
One benefit to using debt to fund the overseas operations, is that the money can usually be more easily extracted, whereas there may be more rules and regulations around extracting equity finance from an overseas venture as it is often ‘locked in’ to the business.
Ultimately, those businesses that undertake the proper preparation and seek professional advice where necessary will be the ones to make successes of their overseas expansions and ensuring that the venture is properly funded from the start is a crucial piece of the jigsaw.
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