With so many different funding options available, it can be difficult to know which type of investment is appropriate for your startup. Luckily, most forms of capital can be applicable to almost any particular stage of your startup.
Below is an image that highlights when you can use which type of capital for your startup, as well as detailed outlines of each of the investment opportunities.
For most entrepreneurs, it can be difficult to raise capital from an idea alone; intelligent investors look for more than just a concept before investing. That is why a large majority of entrepreneurs initially opt to self finance or ask friends and family for help – it’s easier, practical, and sometimes the only option.
Like all forms of funding, self financing/asking family for money can be both beneficial and potentially detrimental. Self financing is pretty straightforward – use whatever available funds you have to follow your dream, hopefully without going broke. Using family and friends for funding can also be straightforward, but there is more at stake than just money. For example, it can be extremely difficult to manage your family’s expectations and could put a strain on your relationships, and anything other than success could result in personal risk, if you’ve wagered your lifesavings. On the other hand, there may be low legal risk if the money is lost – you’d like to think your family would not sue you if your business doesn’t get off the ground.
Crowdfunding is a relatively recent funding phenomenon that involves crowdsourcing small investments from individuals. It can be a particularly effective method for funding your startup if you have a defined target market and know which site is the appropriate platform to promote your idea. While crowdfunding can be an effective way to raise capital, its main advantage for entrepreneurs is its ability to grow a community of backers who are engaged and committed to your idea.
Small businesses and startups alike can utilize crowdfunding, but executing a successful campaign can be an art. Our crowdfunding guide can help you learn more about how you can utilize crowdfunding to help you grow your business and turn your backers into long-term customers.
Once you have developed a business plan, created a prototype, identified a target market, and recruited a team, it can be time to seek funding from experienced entrepreneurs. These entrepreneurs, known as angel investors, are usually wealthy individuals who have successfully scaled a startup of their own. They are motivated to fund other entrepreneurs for a variety of reasons: they can gain profit from an exit, they find joy in helping other entrepreneurs, or they enjoy being involved in a growing business.
Whatever their incentives may be, angel investors can be a tremendous source of capital, and more importantly, guidance. Luckily, there are plenty of angel investors to go around, and numerous means to connect with them. First consider reaching out to a friend or networking to find someone who can help. If you do not know anyone, have no fear – there are multiple formal angel organizations that can help. Keiretsu Forum, Bay Angels, and Angel List are some of the many regional and global angel networks that connect entrepreneurs with angel investors.
Venture Capital (VC)
Once you have secured an Angel Investor, and are on track to release the first iteration of your product, it is time to consider the help of venture capitalists (if that is your goal, of course). Venture Capital or VC firms are formal financial intermediaries and are trusted with investing for a group of people or entities, and they can mean business.
All VC firms have a similar structure. They generally consist of Limited Partners, or investors, and General Partners, or the firm itself. General and Limited partners collectively own a Venture Capital fund, which is managed by the VC firm. The fund, in turn, owns a portfolio of investments and profits from initial public offerings or mergers and acquisitions.
Securing a meeting with a VC firm can be far more formal, and far more difficult, than securing a meeting with an Angel Investor. Venture Capital meetings almost always require a personal introduction to a partner, making networking essential – hopefully your Angel Investor can help, if you have one already. We have more information below in the “Stages of VC Investment” and “Meeting With VCs” sections on how VCs invest money and about how the VC presentation process works.
Venture Capital firms are also responsible for funding accelerators, which are becoming more and more popular in today’s entrepreneurial landscape. Accelerators, also known as incubators, are essentially bootcamps for startups where entrepreneurs can receive support and education to help grow their businesses. Hundreds of aspiring entrepreneurs apply to accelerators annually, and for elite programs like Y Combinator and Techstars, the application process can be highly competitive. Learn more about accelerators and to see if they are appropriate for your startup.
Traditional funding, or bank loans, can be hard for startups to obtain – banks are most likely not going to risk lending to an unestablished business that may default on a loan. That is why traditional funding is appropriate for businesses that have a history of sales, strong business credit, and are growing rapidly.
Like all forms of funding, obtaining a bank loan can have its pros and cons. On the plus side, bank loans allow for complete ownership (as opposed to Venture Capital), low interest rates, and some tax benefits. On the downside, business loans are not given usually given in amounts under $250,000, which means you will be paying off any loan for many years. If bank loans are out of the question, or if your business is not in good position to apply for one, there are plenty of alternative lending options.