Types of Start-up Funding
So you think you have the next great idea! A sure-fire business success waiting to happen and you know if you can just get that idea before someone with money that you’ll be on your way, right? Sorry, but no, it’s not that simple; there are many types of funding vehicles and as many different investor personalities as there are ideas.
Because a business is a start-up, doesn’t by itself identify the type of funding sources that may or may not be available for it. What is more relevant is the type of business you are — or intend to be. So before you can begin raising money for your start-up you need to do some homework to ascertain what type of investors might be interested in your business concept.
Is your start-up a service or product-based business? Will you be first to market to fulfill a void, or use what you believe to be a new and better mouse-trap to compete in an existing marketplace? Is your product or service patentable? Do you have an experienced management team? — Investors bet not only on the horse, but on the jockey as well!
For a start-up business there are essentially five primary sources of funding:
1. Loans from a bank(s) or the Small Business Association is an inexpensive source of capital, provided that, in regard to the former you have good strong personal credit to back up the loan, or, in regard to the later you can present a strong business plan that is deemed by their review team to have a good chance to succeed. It is also an advantage with SBA if you’re a minority owned business.
2. Venture Capital firms (or VCs) tend to work with start-ups that lend themselves to patentable business processes or products — or exclusive access to emerging trends, and will invest millions (or tens of millions) of dollars to develop them. Bio, communication and green technologies are a favorite amongst VCs, but they (VCs) have a core skill to recognize novel technologies or businesses trends that have huge profit potential: FedEx, Starbucks, Google, Microsoft, and eBay are examples. With start-ups they not only provide funding, but many times may recruit and place strong executives in key positions within your business, such as CEO or CFO. They provide funding and other services in exchange for equity ownership – usually substantial ownership — which they will realize profits from when they convert it into tradable public stock (through an Initial Public Offering – IPO) or outright sale of the business at a later date: the exit strategy.
There are many online directories and online communities for VCs, such as the Geabler Directory, Funding Post and many others. There are also investor related conferences and summits (The New York Venture Summit and New York Entrepreneur Week., for example) and investor associations (such as the National Venture Capital Association, Visiting as many sites as possible will get you acquainted with their motives, interests and expectations. (I will post a comprehensive list of VCs and events, as well as interviews with many of them, in a subsequent article).
3. Angel investors, like VCs, are not an easy sell. According to AngelSoft, a website that pairs entrepreneurs seeking funding with Angel groups, searchable by zip code, only about twenty-five percent of entrepreneurs get past the initial screening process, and overall only about one percent get funded. However, Angels will provide funding in more traditional areas – like real estate, for example — that VCs tend to not consider. You can see of list of Angel Investment Groups here.
4. Friends and family and/or Private Investors are more suitable if you’re looking to open a small café, bar, store, or even offer a service or sell a product (anything from music to T-shirts). Private investors are all around if you know where to look and how to spot them: I will address in a forthcoming article.
5. Reverse Merger. Working with the same concept that a VC does, there are those that specialize in reverse mergers – finding a public company with no operating units (referred to as a “Public Shell”) and then merging the “shell” with an exciting start-up or existing small business. The merger specialist will – in some cases — raise seed capital in exchange for equity in the merged entity to get you operating, usually in the range of $5,000 to $100,000. The public vehicle will often trade on the OTC (over-the-counter) market, often referred to as the “pink sheets.” If additional operating funds are needed, the deal-maker will assist in preparing an Offering Circular, Form 1-A — the penny stock equivalent of an S-1 IPO, to raise additional development and expansion funding from the public; usually ranging between $100,000 to $500,000 for small businesses.
These are but the most common traditional methods of raising startup capital, but certainly not the only sources. If you’re an operating business you can access cash through receivable financing. If your a product based company with a unique product or brand, in some cases you can obtain distributor advances.
But before you can begin to seek out money you need to have a clear business plan. Based on that plan you can then begin to identify the most likely candidates that would interested in providing funding.
Next time I will present some ideas about key ingredients to insert into your business plan and overall presentation.
Written by Brie Austin, A columnist and reporter for a variety of magazines in the areas of music, lifestyle, nightlife, travel and business, a technical writer for business documents and websites, and co-author of I’d Do It Again.
(Reprinted with permission by the author: from Examiner.com 2009)