You have a business idea that cannot be beat. Clearly, anyone who examines the concept will jump on board with both feet, money in hand. You are certain that your enterprise has never been thought of before, and it is clear that you are going to be a millionaire in just a few months of hard work. This thought process is the fundamental component of many startups. Eager CEOs believe that their business is the one that will be successful and everyone who is introduced to it will fall in love with it. There are a number of ways for nascent startup owners to obtain the funds they need to finance their dreams. So how do startup entrepreneurs find the money they need, if they are unable to bootstrap the business on their own?
Equity funding is a finance method that a startup founder can secure by issuing stock shares in their company in exchange for money and at times guidance (Ehrenberg). There is no set percentage of the company that the investor will receive for his investment, because the ultimate number is always subject to negotiation. A startup owner can give away from 1 percent to 100 percent, though both extremes are less likely.
Seed Funding. Seed financing is generally a modest sum of money that a business owner might need in order to start his venture or continue it from the current point in time (Ehrenberg). The owner might need to initial capital to cover expenditures prior to earning revenue, it could be that the business has just started earning, but more inventory or resources are needed to ensure things go smoothly, the fledgling company might need some marketing so that they gain brand recognition and sales. Seed money can come from family, friends, acquaintances, small angel investors, or a combination of the four. Since more businesses fail than succeed, seed investments can be quite risky both for the investor and for the recipient owner. The investor can lose all of his investment and, on the other hand, the burgeoning entrepreneur can lose face, suffer emotional pain and embarrassment, and feel stressed in the face of losses for family and friends (Ehrenberg).
Angel Investors. Angel investors are individuals who help small businesses get started at a lower premium, as opposed to making a major profit from the ultimate success or sale of the business, like venture capitalists (Ehrenberg). In fact, an angel investor is the exact opposite of a venture capitalist. Angel investors are usually savvy investors, but the terminology can also apply to family and friends who invest. In order to be a true angel investor, the person must meet the Securities Exchange Commission's (SEC) requirements for being an accredited investor (“Angel Investors”). Securing an angel investor is primarily easier than securing a venture capital investment (Ehrenberg). The potential downside to dealing with angel investors is that a founder might have to work with numerous angels, requiring managing multiple relationships, personalities and expectations. But, if the startup is sound, and its proposition breeds confidence, then gaining the interest of an angel investor can be fairly easy to accomplish, if the proper steps are performed (Ehrenberg).
Venture Capitalist. A venture capitalist, often referred to as a VC, is a disciplined investor who gives money to a startup company that needs capital and does not have connections to equity markets (“Venture Capitalist”). Venture capitalist make large investments in companies, and seek ownership of equitable stakes in the company. VCs expect to recoup their initial investment and make a substantial return on their investment. Sometimes VCs win and sometimes they lose, but they are often wealthy enough that the loss is one they can bear. Generally, VCs invest in so many companies at the same time, their risk is often offset by the enormous rewards they receive when several of their startup companies are acquired. Similar to angel investors, VCs have to meet certain requirements established by the Securities Exchange Commission and perform certain reporting documentation prerequisites. Venture capitalist perform due diligence on any company they intend to invest in (“Venture Capitalist”). Due diligence is a thorough examination of a company, its owner, executive team, its management and to a lesser degree its employees (“Due Diligence”). Financial records are investigated along with substantiation of important declarations made by those seeking the investment. In addition to examination of the company, its owner and team, an investigation might also be conducted into the reputation of the company, those involved in the company, and the subject matter of the business (“Due Diligence”). Venture capitalists seek several important components when unearthing a potential investment (“Venture Capitalist”). They want the owners and their team to have strong management skills; a strong market with a product that solves a problem that many potential customers need resolved; a company with a distinct competitive advantage; a business that they feel passionate about; a subject matter with which they are familiar and feel they can contribute to advancing in some manner other than financing alone; and enough potential ‘skin in the game’ so that they are excited to participate and the investment of money and their expertise feels worthwhile (“Venture Capitalist”).
Series A. A Series A investment is an early stage round of stock given to investors in exchange for their monetary infusion (Ehrenberg). Generally, Series A rounds are set between $1 million and $5 million and investors usually seek 20%-40% of the business. The investors involved are usually venture capitalists from more traditional firms, like Sequoia Capital or Benchmark who specialize in this phase of funding. Angel investors who may have contributed to the company’s seed round generally play a less important role at this juncture, although the investors can be composed of strong angel investors (Ehrenberg).
Series B. Series B is the next stage of financing for a company (Ehrenberg). At this stage, the company has usually been around for a time and has been able to demonstrate its success in the marketplace. The objective of Series B funding is to take the business to new heights, beyond the developmental stage. Series B is also referred to as the venture round because this is the stage where venture capitalists generally make their entry. The value of venture capitalist is that an enterprise can often go back to the VCs and secure future rounds of funding. A good VC not only offers investment, but also has connections in the business world that can advance the company and provide a competitive advantage, and offers mentorship to owners and executives who are often fairly new at the functions they are performing (Ehrenberg).
Series C. Series C and potential additional rounds are alphabetically labeled serially (Ehrenberg). A company that has demonstrated success over time, may have need for additional equity funding to finance expansion, or leveraged buyouts, for example. These rounds are easier to obtain because the company has a history that can be reviewed, and those involved have established strong relationships and greater understanding of next steps and who can perform those next steps (Ehrenberg).
Debt funding is another method of financing the needs of a business (Ehrenberg). In the case of debt funding, the owner will borrow cash that must be repaid despite the circumstances and condition of the business. Similar to equity funding, debt funding can be obtained from family and friends, but there are a number of options available in the event that family and friends are not able to provide debt funding or do not want to take the risk (Ehrenberg).
Venture Debt. Venture debt is an infusion of money into a company that must be repaid at some time in the future, according to express terms (Ehrenberg). Terms are often expressed requiring payment within three years or within one year, although other terms can be negotiated. The biggest risk for the owner is that the payment is required even if the company fails due to an earthquake or tornado (Ehrenberg).
Account Receivable Lines. Some companies have accounts receivables, where, for example, another company makes their payments to you monthly ("Accounts Receivable Financing"). Some investors and lenders will finance your account receivables, particularly if the companies from which you receive payments are high quality companies with great credit ratings. By financing a company’s account receivables, the company increases their working capital and can fulfill their own commitments easier ("Accounts Receivable Financing").
Asset Loans. Asset loans use a business’ equipment to offer collateral to the lender ("Asset Based Lending"). The money received can be used to get more equipment or to fund other aspects of the business. This is a less popular form of debt funding ("Asset Based Lending").
SBA Loans. The Small Business Administration, or SBA, guarantees loans that are secured though banks. The government agency provides the loans at a lower interest rate than loans obtained through other means. The SBA does require the business to pay back the loan even if the company goes out of business. When the SBA guarantees a loan, banks are more likely to approve the loan because they do not suffer any financial risk. There are several types of SBA loans (Martin). There is the 7(a) Loan which helps startups and mature small businesses to obtain debt funding. This loan program is SBA’s most flexible and most common form of financing. This loan can be utilized for equipment, fixtures and furniture, working capital, renovations, debt refinancing and leasehold improvements. The repayment period can be up to 10 years for working capital or 25 years for fixed assets. Another SBA loan is the CDC/504 Loan which is generally for property, such as land or buildings. These loans can also be used for purchasing, constructing or renovating buildings. The company must have a net worth of $15 million. The Microloan program provides small loans to startups and recently established small businesses. Working capital, machinery, equipment, fixtures, furniture, inventory and supplies can all be purchased with the proceeds of the microloan. The final type of SBA loan is the disaster loan, which as its name implies, provides low interest loans to help businesses that have been impacted by declared disasters (Martin).
Shark Tank. The ABC television reality investment program Shark Tank is another way that businesses can obtain investment, networking opportunities, exposure and expert guidance to grow their businesses into nationally recognized brands (Feloni). If a business is lucky enough to make it on to the program, and most do not, at the very least, they get national exposure for their brand. If they are successful at getting a deal, they usually can scale their business and often increase their financial success on a grand scale. One of the most successful enterprises ever to appear on the show was Scrub Daddy, a simple yellow sponge with a happy face that has taken the industry by storm (Dawson). The company has made over $75 million in revenue and the product line has extended beyond the original Scrub Daddy to include the Scrub Mommy and Sponge Daddy. Aaron Krause, from Philadelphia, Pennsylvania, the highly motivated and especially likeable entrepreneur, received three potential offers while he was on the show. Robert Herjavec and Marc Cuban declined to invest, and are probably now beating themselves over the head with a brick. Daymond, Kevin and Lori made offers in a very competitive shark bidding war, but in the end, Lori won out by telling Aaron that she could make him a millionaire within the year, a fact that actually came true (Dawson).
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