The world of start-up funding can be an absolute minefield and for many who have not yet had to contend with this, it will be difficult to know where to start.
For those who have trodden this path already, you may well be familiar with it and it may be the case that you are now looking to explore new avenues or would like to consider scaling your business.
Whilst there are a multitude of ways a founder can raise money, and some common ways are detailed below, it’s important to bear in mind that any one option may not be the best for your business or for what you’re looking to achieve; indeed one size does not fit all. It’s therefore important to carefully assess each option in light of its own pros and cons.
Bootstrapping means starting your business and building it up using your own money without the help of outside capital. This therefore means that you’ll be fuelling your business’s growth without the assistance of third parties or existing stakeholders.
Credit cards, savings, loans, income from your day job and any cash generated by your business are examples of how you may achieve this.
There are a number of benefits to bootstrapping. The main benefit will be the retention of control in your business. As you have used your own cash and not that of third parties, you’re unlikely to be at the mercy of anyone else.
Whilst having complete autonomy will be a draw for some founders, it can be hard work. You are reliant on your own savings and may not have the guidance or the ‘value ad’ of another interested or outside party who may be able to offer a different perspective or even expertise.
The ‘best for’ verdict? Founders who are able to generate their own income and who are not in need of immediate funding.
If you need external help, you may want to first consider tapping into your immediate support network; your friends and family.
Friends and family are practically often a fledging business’s first support base; if they trust you as the founder, they’re more likely to believe in your product. As they know you, and may already be familiar with the product, they may be willing to take a punt and support you in growing and developing your business. Some friends and family may be willing to give you an interest free loan or the more commercially savvy friends and family may have an expectation of getting shares in your company.
Whilst a friend or family member is going to be hopeful that they’ll see their cash again, it’s unlikely that they’re going to want weekly updates on how their cash has been used or be as focused on the potential return on their investment. After all, this is probably not their day job. The advantage of this option is that you’ll be dealing with known entities.
However, you should carefully consider how this may impact your relationships if the business takes a turn for the worst. More often than not, a wise founder will want to keep their business and personal life separate.
The ‘best for’ verdict? Founders with a network able to support them financially and who have carefully considered the pros and cons of getting personal contacts involved.
You may have heard of debt and equity financing. Equity financing is where you raise capital from a person in exchange for the issuance or transfer of shares in the capital of your company (this is detailed below in venture capital and private equity). Debt financing involves the borrowing of money and in this scenario, you give away no shares in your company.
A good example of debt financing is taking a bank loan.
Many banks now provide attractive start-up loans. A benefit of taking a bank loan versus another option is that you will not be expected to give away equity in your company (that’s the issue of shares). This therefore means that you retain absolute voting control in your company (assuming there are no other shareholders).
However, on the flip side, a bank is likely to impose several restrictions (or covenants) on how you can use the capital provided and how you run the business in order to safeguard their money. In addition, it’s important to remember that there are interest costs to be paid on debt funding and ultimately the lender could take control of your entire company under certain scenarios. A bank may also expect a personal guarantee to provide further protection against losing their money.
The ‘best for’ verdict? Founders who want to retain equity in the business and who are in a position to repay capital and interest within set parameters.
As a business owner, it may be possible to benefit from funding through grants, loans or, guarantees and support may be available either directly or through national programmes.
Grants are usually publicly-funded schemes which offer cash awards, free equipment and tools — or reduced costs for using business resources.
The cash awards can vary from hundreds of pounds to hundreds of thousands of pounds. However, in the vast majority of cases, the award may not be enough to achieve what you’re looking to do and the criteria for being awarded a grant is often strict.
If this is a consideration for you, as a starting point, take a look at your local borough’s small-business grants schemes as many local authorities offer funding to startups launching in their area.
The ‘best for’ verdict? Founders who are lucky enough to meet the criteria and need help.
Venture Capital / Private Equity
Having come some way from Bootstrapping now, venture capital is a form of equity finance that investors provide to start-up companies. For the purpose of this note, we will focus on venture capital firms (VC firms) (as opposed to other sources of private equity investment such as that from individual investors or other types of institutions).
VC firms invest in and mentor companies that are growing (often in the tech sector) in consideration for shares in the company they are investing in.
Given the early stages during which a VC firm may invest, they would often participate as part of a company’s ‘pre-seed’ or ‘seed’ round (these phrases simply represent an early stage of investment involving smaller investment amounts). As the company gets larger and becomes more mature, a larger venture capital investor may then provide funding for a company’s ‘series A’, ‘B’, ‘C’ round (with these terms indicating that a company has already had preceding rounds of investment).
Private equity firms (PE firms) are typically recognised as a different category of financial investor to venture capitalists with PE firms looking to invest in or acquire profitable companies generally with a lower risk profile. This often leads them to invest in more mature companies operating in more traditional industries. As with VC firms there are a wide range of private equity investors covering different sizes of company and different investment strategies (e.g. taking minority or majority positions or focusing on growing or declining businesses).
There are a plethora of VC firms and PE firms out there and it will be important to do your homework and to choose the right one for you and your business. Every VC/PE firm has its own personality and they’re likely to expect a range of rights and controls including to be provided with information about the business, be able to block certain business decisions (e.g. over raising more funding) and be able to appoint a representative to the Board.
The benefit of getting funding from an institutional investor is that you get the funding required and the expertise and advice of their investment professionals and wider networks who could help you make better decisions about operating your own business.
Stefan Laux has written a brilliant article on the four types of investors to avoid; Ant, shark, sloth and instant return-seeker. He explains how any of those could kill your start up so do have a read.
The downside to this type of funding is that you will be expected to give away equity to your investor along with some of the rights mentioned above. By giving away equity and these rights, you will diminish your overall control in your business and potentially your ability to make autonomous decisions.
As a cautionary note, the more funding rounds you undertake, the more equity you give away.
The ‘best for’ verdict? Founders who are able to attract external investment, are happy to give away equity and want or need the expertise and the support of professionals.
If you have any questions, please contact Mireille Turner at firstname.lastname@example.org.
This article was written by Mireille Turner, Corporate Senior Associate (@BeautyTechLawyer)