A good idea and planning are not all that is required to start a new business. Money and funding is vital to get things started. Because it is the money that makes things happen. Getting that money to make everything happen in the task right now. It is not all that simple to get in cash for the company especially if you are all new to business. Contrary to the popular belief there is no one is waiting at our door to jump in and throw money at you because you have a new interesting business idea. At the same time, it is no more true that new business only possible for born-wealthy proprietor or business leaders, as the funding has become more and more democratized these days. It is in the hands of the entrepreneur to look out for the right investors and convince them to invest in the company. Few startups get it quite right. Most of them are underfunded and few of them are over funded, which is like trying to start driving in third gear. Foremost step when looking out for funding is to find the right source of fund for the list of many. Let have a look into the various sources of funding, which may help one in deciding which one to opt for. The top common sources of funding are (they are not ranked):
1. Bank Loan:
It is not an easy task for a new startup to secure a bank loan unless he has an incredible credit history or valuable existing assets that he is ready to pledge and put at risk for collateral. In developing countries like India, Banks are one of the largest funders to startups that offers finance to thousands of new companies every year. In USA, there is SBA or Small Business Administration that can provide infusions of cash without normal backup requirements.
Banks lend to startups if they are convinced with the business model, projected returns from the business, the ability to pay back the loan, management experience and expertise in the field and other security provided. The entrepreneur should be all prepped with the business model, promoters background, revenue model, estimated sales, estimated profits, estimated growth rate and returns prior to meeting the banker. Return on investment is the core and so it is important for the promoters to gather, familiarize and compile the information in a readable and presentable format.
Why would a startup look for bank loan over venture capital in the initial stages? Below are the benefits:
* Return of investment expected by venture capital funds are very expensive with 5-10 times that actual amount. Whereas the same is very nominal when acquired through bank loans.
* Approaching a bank is much easier than approaching a Venture Capitalist or Angel Investor.
* Banks have better organized framework to process a request which quicken the process
* The business would belong to the owner and so is the company’s profit or loss.
2. Incubator or Accelerator:
Incubators have become extremely important part of the startup scene in the recent years. The reason behind it is the numerous startups that have emerged successfully from the programs encouraging more and more entrepreneurs to go for it. They have earned so much name and fame that one can see each day one new popping up in many cities. Also, they are specific to the field like education, manufacturing, food etc., They have become the new alternative to the MBAs. To be more clear, incubators usually target on jump starting economic development in a region and making small companies to work out of their office space. Whereas, accelerators are focused on mentoring and guiding companies to enhance their product’s customer/market fit.
Unlike the business assistance programs, business incubators do not serve any and all companies. Those who wish to enter a business incubation program must follow a series of process to apply for admission. It is more or less like a physical place where one can start the business under a collective roof. Also, these incubators and accelerators have potential capital to invest or links to potential funding sources. Apart from funding the entrepreneurs get access to services like accountants, lawyers and networking connections. Some may even provide seed funding. However, the same benefits can shift or damage the focus during the crucial initial stages of the business. Also, do not jump into the first incubator that come across. It is very important to look around and find the one that fits your needs.
The National Business Incubation Association has more than 1,400 members in the USA and more than 1900 members in 60 countries. It has a search engine and a directory to find the list of state business incubation associations. It is important to keep in mind the directory could be limited so it is best to keep the eyes wide open to find other incubators too. Y Combinator, TechStars, DreamIt Ventures, AngelPad, Launchpad LA, Kicklabs are some of the top incubators/accelerators in the country.
Venture capitalists are professional investors who invest institutional money in qualified startups, that have a good proven business model in hand ready to scale. According to statistics from Reuters, venture capital firms invested more than $10 billion in startups in 2014 and more than $1 billion in the first quarter of 2015. Though the potential with venture capital firms is more, one has to be careful in checking if it right for the company. As the firms take a lot of risk in investing their money in a company, they take a significant control over company’s decisions, apart from the portion of the company’s ownership. But venture capitals is surely an attractive options for those startups who are not able to acquire fund through bank loans or complete debt offering.
Venture capitals generally invest at the early stage of a start-up, unlike angels, very few are ready to back an idea at the concept stage. They are well-known to help startups organize the next round of funding as well. Arvind Modi, associate vice-president of an Indian venture capital company said, “We like ventures where the product or service is established and the start-up requires funding for commercialization or scaling up of operations.”
It is very important for a venture capital firm to know about your relationship with the business partners or the rapport with the team members. So do not be shocked if they ask question on it. Because when they are investing, the last thing they want to happen is the business to be affected by a silly feud between the partners. Also, it is important for an entrepreneur to have an exit strategy. The basic goal for any venture capital firm would be to sell off the stake for a profit after the business grows in around 4-5 years. Apart from the hefty first cheques and expert help, there are many drawbacks. So it is important for an entrepreneur to answer the questions below before receiving fund from a venture capital firms.
* Is your idea viable, rapid-growth and highly scalable?
* Is the size of the targeting market big enough for the startup?
* Are you ready to share control of your startup?
* Are you brave enough to cross the dark alley?
* Does your business suit the venture capital model?
* Do you know how to approach a venture capital firm?
* Can you get a VC excited with your startup idea?
If the answer to all the above is yes, then yes, venture capital funding is definitely for your startup. One can go ahead with it. Else, you know the answer already.
For startup founders, public crowdfunding is a way of pre-selling a product or service to test the market. The concept of crowdfunding is nothing but persuading individuals to give the company small donations of $10, $50, $100 or can be even more. Once the company gets thousands of donors, it can have some serious cash on hand. Credits to the proliferation of the websites that allow nonprofits, artists, musicians and other businesses to raise money. This a social media version of fundraising. There are more than 600 crowdfunding platforms globally and they raise billions of dollars every year.
Kickstarter and Indiegogo are most common sites for crowdfunding fund-raising, where donations are received on exchange for special rewards. Co-founder of Indiegogo Danae Ringelmann said, “We do not see crowd-funding and venture capital as mutually exclusive. Rather a successful crowdfunding campaign helps prove to VCs, angel investors and banks that there is a demand for a product in a marketplace, removing some of the risk from the equation.” Also, it is possible to use crowdfunding to secure loan and royalty financing. The idea of the royalty financing, though rare, is to connect the business owners with the investors who lend money for a guaranteed bundle of revenue for whatever the business is making.
The best part is to sell company shares or ownership stake in company on crowdfunding sites, because it could be like a mini-IPO without the traditional hurdles. Crowdfunding has many potential benefits like the prospect of developing an enthusiastic base of early adopters, even before the product hits the market.
However, the success of crowdfunding mainly depends on the execution of the entrepreneur and the industry. Also, it require right marketing strategy. Though it may look easy, there are chances for the whole thing to go wrong. This source of funding is not viable for the companies that are looking out for large amount as most of the crowdfunding campaigns raise less than $10,000. If the company does not deliver the product as promised, fulfill rewards or use the money donated for the right purpose, the company and the entrepreneur could be sued legally with criminal penalties.
Self-funding for your own product is a great way to learn practical business skills in a safe environment. It is the number one form of financing used by most business startups. This starts with looking into the assets that include savings account, equity in real estate, retirement accounts, vehicles, recreational equipment and collections. While some may consider a tight-budget a disadvantage, it can actually prove to be incredibly beneficial in the long run, especially if it’s their first venture into entrepreneurialism. Self-funding is also called bootstrapping which is from the famous saying about pulling yourself up by your bootstraps.
There are many advantages that come along with bootstrapping. They are certainty of the money available in hand. There is no need for flashy presentations or business models and there is no need to convince another person to fund to our company. Starting and running a business would be quicker through it. Self-funding a business means one can retain the complete ownership and control of the company and can take home 100% of its profit. If the money is raised through bank loans or debts, the repayments and interest can gobble away the hard-earned earnings.
However, the limited fund can shunt the growth and expansion of the company. It is not the short of ideas that affect the business, it is the short of money that holds back the business. If things work out fine in the business, it can be wonderful and take great heights but it could even be disastrous if they do not. External agents like venture capitalists, angel investors can bring in expert advice for the business. They could open up to networking, experience and expertise. But without all that the startup could be stuck in a small circle.
6.Angel Investor groups:
Angel Investors are high net worth individuals, who invest in a startup in return for a minority share in the business. They are generally serial entrepreneurs or heads of major multinational firms. They are somewhat similar to the venture capitalists but are much smaller operation, sometimes only one person. Though the funding is from an external source, it allows you to keep ownership and control over the business, earn mentorship as and when needed, and also make money as the company grows.
Angels are generally accredited investors, that means her/his net worth is more than $1 million. They come into picture at a start-up’s seed stage, when the business idea is just an idea. So the funding is mainly based on the business ideas or the person running it or the potential to generate revenue. Also, the base lies for the altruistic reasons. Since there are lots of risk involved, the angels don’t generally fund huge sum.
These angel investors are very patient and remain associated with the company for minimum of 7 to 8 years. They hold 49% of the stakes so though they do not own and control the business, they do take part in the reviews and take active participation in the betterment of the business. However, it is not simple to get the angel investors for the company. Right contacts and profession networks are needed to bag the funding apart from having the right credentials. It is very difficult to find one in developing countries like India. “India is no Silicon Valley, where a super angel like Mike Maples will invest in a product when it is no more than a blueprint sketched on a notepad, as in the case of Twitter,” warned Nishant Verman, associate of Canaan Partners.
Check the four questions below and find if you can attract an angel investor.
* Does your business have an attractive amount of potential growth in sales?
* Can you business be scaled for growth?
* Is your business model defensible?
* Is the management team incredible?
Answering yes to the above four questions qualifies you to apply for angel investors however, it does not assure as there are various factors to it.
7. Small-business grant:
Small-business grants are government allocated funds to support new technologies and important areas like education, medicine and social needs. However it is not very easy to secure them. As a matter of fact, the government grants are funded by the tax dollars and so there are very stringent rules about how the money is spent. It does not provide grants to start a business, paying off debt or to cover the operational expenses. They are more specific to the industry and the causes. State government is another source of potential grants called as ‘discretionary incentive grants.’ They are closely tied to government objectives and tend to be restricted to larger employers or to have strict eligibility requirements that often exclude small businesses.
All publicly funded schemes are designed to encourage new and growing business, to generate wealth and to create more job opportunities. To check if you are eligible for a government grant and want to check their terms and conditions, log in to Grants.gov, which is a searchable directory of more than 1000 federal grant programs. It has options to search on the basis of eligibility, by issuing agency or category. There are various programs through which the grants are provides. The government business grants are available through direct grant, soft loan, equity finance, free or subsidized consultancy, access to resources, technology and best practice transfer and cost sharing. It is up to you to decide which suits best for your company.
8. Fund from strategic partner or customer:
Find the major customer of your business or a complimentary business, who looks and understand the value behind the idea of the company and ready to give you an advance on royalty payments to get going with the work. Emily Reichert, executive director of Greentown Labs said, “People are interested in real strategic partner because they have the resources, knowledge and expertise and an understanding of the market that is very important for these startups moving to the next phase beyond prototyping.” This type of investment usually have longer investment timeframes than venture capital firms. They are capable of understanding supply chains, pricing and knows how to bring a product to market. Early licensing or white-labeling agreements also comes under this but are variations on the theme.
With strategic investors, the investment opportunities meet two criteria. They are financial and strategic. The first criteria is more or less similar to the traditional venture capitals which has its own return barriers, investment committees and view of the world. The latter one is more subjective. It is more or less like investing to fill the gaps, also to invest in complementary companies. But through the strategic investment the company can get the benefits of having an operating partnership and industry expertise. However, a strategic investor has the potential to have disproportionate influence to encourage a young entity to do things that may not be in the long-term best interest of the startup company.