For years, launching a startup meant a lot, including the undisputed fact that entrepreneurs were entering the world of venture capital (VC). Venture capital financing has long been touted as the primary, if not the only, route to business growth, with few other options on the table.
But, especially in the early stages of a startup, this path is not the only option or the best.
This one-option landscape is also not conducive to a large portion of the founding population who have limited access to venture capital funding. The foundresses received just over 2 percent venture capital allocations in the United States in recent years (and that decreased in the last half of 2020). Latin and black women are much worse off, receiving 0.32% and 0.0006% of venture capital funding, respectively. And FPeople from disadvantaged socio-economic backgrounds often do not have access to a network to fuel the tour of friends and family that often leads to larger venture capital dollars.
Fortunately, there are many other financing opportunities to consider when starting your business.
Crowdfunding and crowdfunding in equity are on the rise, allowing people with a large network to raise smaller amounts in large volumes while demonstrating demand for products. Existing and new debt-based vehicles are rethinking risk assessment, opening the door for many profitable business owners to access debt and credit. For businesses with a good sales history, invoice factoring is a good option to populate individual purchase orders.
One of the most important first steps a founder can take is to learn about these and other financing options. With an understanding of the broader capital market, you are better equipped to identify what is right for your business. short and long term and develop a plan of attack.
How to start
Before starting this process, entrepreneurs should make sure that they have developed a six to 12 month perspective from a projection point of view and know what they have and what they need in terms of capital ( it’s something the founders should do anyway).
From there, the following questions can be used to approximate a fundraising match.
What are the growth opportunities?
Is your business growth potential 25 times or closer to three to five times? This could mean the difference between targeting angel investors and venture capitalists, as many angel investors seek lower rates of return. There are also business schools that have never taken dilutive financing and have made tens, sometimes hundreds of millions of dollars in revenue.
Is the opportunity for growth fast or will it take longer? Some investors want or need faster returns. Likewise, some debt financing options may not be conducive to long-term income growth.
Ask yourself how your business is growing and use this timeline to determine what kind of capital injection can facilitate growth.
What is the size of the market (or the market you want)?
In the venture capital world, an often-used number (and, for some companies, this is one of the biggest investment influencers) is total addressable market, or TAM. Many investment teams want to see this in the billions.
But what if your product has significant regional or local potential but perhaps lower national or global potential?
More importantly, what if you only want to focus on a smaller number of users? For example, only 5,000 users. There may be a quality versus quantity argument to serve. If those 5,000 users each pay an annual membership fee of $ 6,000, that’s $ 30 million in annual revenue, which is entirely satisfactory for many founders and funded very differently than if it were a goal of 1,000,000 users.
A founder of a low growth company that generates millions of dollars and is able to take in all the profits or has a “small” exit is certainly always a winner.
How and when does your income arrive?
Do you have recurring income or do you have to sell contracts repeatedly? Predictable recurring income puts a smile on the face of the venture capital space, while large contracts on a less regular schedule can be attractive while securing a bank loan.
Are your income seasonal? Income-based financing, where a loan repayment period is based on incoming income, could be a great option if this is the case. This allows the founders to breathe in the off-season and catch up when the revenues kick in.
What are some of the triggers in your business that make money? Is it a freemium to paid model? Is it business-to-business (B2B) where you have a long sales process? What areas of your business do you need resources to achieve these sales? (A sales team? A digital marketing budget?)
How much money do you need
It’s an interesting question, and I usually see founders falling on both sides of the line: either thinking they need too much or too little.
When a founder overestimates the amount of financing he needs, he risks everything from giving up too much equity to not being able to honor a loan.
But there is also a risk of underestimation, which I have noticed more frequently in early stage transactions recently, whether they are property based or frugal. In this case, entrepreneurs may have to seek additional funding (in any form) sooner than expected.
The answer to this question also allows the founders to be strategic in setting up a 12 to 24 month financing plan that involves several types of capital. For Example, using non-dilutive funding to kickstart six months of revenue growth, followed by a round of funding at a higher valuation.
How much of your business do you want to give up?
This sounds like an obvious question, but it’s important to think about it from the early stages of your business. Once you start investing in stocks, you will be divesting more of your business, potentially over the course of several turns.
By taking a nuanced look at the stake you have and want to have, developing an idea of the gains and sacrifices that come with adding shareholders and dilution, you can find the resource options that support you. best as a founder in this journey.
Relinquishing ownership of your business is not a bad thing – it can often lead to faster and bigger returns – but being clear about this process early on will help you avoid unintentional and disadvantageous ownership situations.
Do you have a product that people could evangelize around?
Having access to a large community of potential clients or funders could play an important role in your funding decision. Crowdfunding or equity crowdfunding requires much smaller checks than, for example, angel investing or venture capital, and can be very beneficial for people with a large personal or community network, as well as for those who do not have access to a individual high net worth (HNWI).
If you’re a startup founder, you know that efforts to capitalize on business growth and identify the right kind of funding have become more important in the startup journey.
Fortunately, there is a vast world of corporate finance that founders have at their fingertips. Being strategic about the kind of capital you take can not only reduce the risk of stunting or forfeiting ownership, but also offers huge benefits for long-term success.