By Denis Jakuc
You’ve come up with a great product or service to launch your new business or expand your existing one. You’ve done all your homework: you have a great vision, business plan, and pitch. You know how much funding you need and why you need it. But until you get that funding, you cannot start.
There are five groups of small business funding sources: early-stage, investor, bank, government, and fintech. This Expert Summary will look at early-stage funding from sources which do not involve the direct participation of financial institutions or governments. But do seek the advice of financial and tax advisors when considering any funding option.
Note: If you’re going to offer equity in the company in exchange for funding, determine how much of your ownership you’ll dilute. Keep an equity level that maintains your control both now and if you offer equity again to raise more funds.
Bootstrapping is financing your business with your own money. Entrepreneurs typically collect these funds from: personal savings; selling stocks, vehicles, jewelry, or other possessions; drawing on retirement funds; or tapping home equity. Some may take advances from their personal credit cards, but these come with high interest rates.
Bootstrapping maintains your control of the company and eliminates the need for the business to cover loan repayments and interest. Plus, bootstrapping a portion of your financial needs shows other funding sources your level of support for the business: your own money is going into it!
The bad news is you are putting personal finances at risk, so be cautious. You may not have enough to meet a financial emergency in the future. Your retirement account might charge penalties andearly withdrawal fees. If you tap into home equity and don’t pay it back, you’ll see less profit when you sell the home.
Use your own money to fund things that have a multiplier effect on the business, such as a marketing campaign to attract business, or development costs for a new product. These efforts have a higher return on investment (ROI) than funding that covers overhead, such as lease payments.
You can contribute your money as an investment that lets you draw on the business’s equity later on, or you can make it a loan. Just be sure you document the equity arrangement or loan terms, confirming you’ll be repaid from company revenue.
Note: Consult with tax and accounting professionals to decide which approach works best for you.
Investors do like to know you have invested your own money. This gives them confidence that you are truly committed to the success of your venture.
Friends and family
There are advantages if friends or family members can help fund your business. They’re more supportive than traditional investors or lenders, and they may offer more generous repayment terms. Plus, once you repay these loans, it demonstrates to other lenders your ability to manage debt.
The downside is borrowing from friends or family can hurt relationships if the business can’t repay them. If you take this route, it’s a good idea to bootstrap some of the funding to show you also have a stake in the venture’s success.
Some relatives and friends may give you funding as an outright gift (lucky you!), but most will want to loan you the money. Instead of taking on a loan, you could offer them stock in the company, a good idea if you’d like them involved in your operations. However you go, put the terms of the loan, equity purchase, or gift in writing to head off later disputes.
For loans, friends and family may be willing to tie repayment to a percentage of the business’s cash flow, instead of to a fixed payout schedule. Terms should also specify what happens if you need to skip a payment, or need more time to make a payment.
Establishing strategic partnerships can be a great way to raise capital and get to work with a larger entity. Each business brings something to the alliance. For example, one may invest in the other to gain access to products and services more quickly than if it developed them in-house. This is often done in the pharmaceutical and medical device industries where there are long development cycles. Be sure to consult with your own financial advisor and business attorney.
This approach looks for small contributions from a large group of people who then receive a small amount of equity in the company. You can also offer donors discounts, products, or other perks, so it’s best suited to businesses offering creative and retail products to the consumer. Crowdfunding is a debt-free way to raise capital, can get you more funding than you could with a loan, and gives your brand and product free exposure.
However, you’re giving up pieces of ownership in your business, so it’s regulated by the SEC with paperwork to complete and financial audits to pay for, and mistakes can be expensive. There are limits to how much you can raise in a year, and as a crowdfunded business, it might be harder to raise money from traditional sources.
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InnovatorsLINK Business Writer and Brand Strategist
A business writer his entire career and successful businessman. He was a partner in a top-10 Boston ad agency, a senior level executive at Young & Rubicam NY and Interpublic Group, and, since 2003, an independent consultant for companies from startups to global leaders, positioning their brands and writing all forms of content to promote their growth.
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