When Should a Startup Seek Funding?
Funding for Startups: Is There a “Right Time” to Raise Capital?
Startup companies have a lot to consider, when it comes to getting funding. There are multiple stages, where it could make sense for a business owner to actively seek startup funding, but the truth is it’s never too early to start thinking about the process in general.
Some startup companies will try and obtain funding at a company’s earliest stages, with simply a business idea or an MVP and market research that shows that there is a need for their product/service. Others will wait until their business is running for a year or more, and they have a solid business plan, cash flow and sales to back them up.
If you’re a startup, it’s likely you’ll need more than one funding round. One of the main things that every entrepreneur should do before seeking startup business funding is decide how much money they need, what type of financing they want (e.g., debt or equity), and who their ideal investor would be.
There are many different ways to fund a new business and understanding the type of financing that will work best for your startup will give you an advantage, when you begin looking for outside investments.
How difficult is it to get funding for startups?
There’s no one-size-fits-all answer to this question, as the difficulty of getting startup funding varies based on your business, the stage of your business, its potential for future growth, and its specific needs.
One of the main challenges startup businesses in early stages face is getting investors to take a risk on their new business, as many investors want to make sure they’re minimizing potential losses if a business fails.
An investor may also feel a company is more risky if its founders don’t have solid experience in the field.
If you’re an early-stage company looking to obtain an angel investment or raise venture capital from a vc firm, be prepared to face some challenges. But you should also know there are startup funding options designed for you.
A startup accelerator, like DSH, for instance, is always on the lookout for early-stage startups to invest in and wants to be the first investor check that you receive.
What Are Some Things a Startup Should Be Aware of Before Seeking Funding?
Here are some simple things that every business owner should consider before seeking investment.
- Have a clear idea of what your business needs and how much money you require. You should also have a business model, and an established plan for how you’ll use the funds to develop your business. You should also be able to present this plan in an appealing way, in your pitch deck.
- This may seem like it goes without saying, but make sure your company actually qualifies as a startup. Your company may be a new business, but not defined as a startup. Learn more about what is a startup.
- Before seeking startup funding, make sure that your business website is current and offers potential investors enough information about your company. Have current contact details available at all times, as well as background info about yourself and what inspired you to start your company.
Add photos of full-time team members and other relevant staff (if applicable). Create a blog where you can share your progress with potential investors; this will help show that you’re serious about your business and are willing to put in the work to make it a success.
With a professional presentation, you’ll have a better chance of securing the startup funding you need.
When Should You Seek Startup Business Funding?
One of the most important considerations in determining if it’s an appropriate time to seek outside investment, is whether or not your company has achieved product/market fit with its current set up. If you’ve found success selling your products or services within one market niche, but you have the potential to expand, then this may be a good time to look for professional investors.
How Do You Get Funding for Your Startup?
There are numerous ways to obtain startup funding – each with its own set of pros and cons. Some of these options may be more appropriate than others, depending on the type of company you have and what stage it’s in.
This is often every small business owners first step. Self funding involves investing your own money into the business.
Initial funds might be money you’ve acquired through personal savings or personal loans.
Even though many potential investors will want to see that you have your own “skin in the game”, it’s important to be careful with self funding. There is a fine line, as no one wants to see that you’re going to drown yourself in debt with a personal loan or high business credit card debt if the business fails – remember, investors want to know that you have good business acumen and make wise financial decisions.
Friends and Family:
For many business owners, this will be their second stop. It isn’t uncommon for aspiring entrepreneurs to raise initial capital from their friends and family. However, this option involves having friends and family with the resources to make these investments, so it won’t be realistic for everyone.
This is when you receive money from private individuals or companies in exchange for shares in your business. An angel will typically invest smaller sums of money than a venture capitalist, and they’re often more interested in helping young businesses succeed.
Venture capitalists (VCs)
VCs are firms that invest large sums of money into startups in anticipation of future growth, and the hope of achieving high returns down the road. Venture capitalists usually want a significant ownership stake in the company and are sometimes less willing to take risks on businesses that haven’t achieved product/market fit.
Crowdfunding is when you collect multiple small investments from a large number of (typically) retail investors online to fund your service or product. This option has become increasingly popular in recent years, with platforms like Republic, Kickstarter and Indiegogo, among others, helping entrepreneurs to raise millions of dollars in startup funding.
If you do crowdfund, just remember that each platform has its own set of rules and regulations, so do plenty of research before choosing one. Some of the most common stipulations include a minimum age requirement, an upper limit on how much money you’re allowed to raise, the percentage the platform will take, and whether or not your business is required to have equity at stake for investors.
Startup Accelerators and Incubators
Accelerators and Incubators are more program-based, providing mentorship and other benefits to early-stage startups that may not be ready for larger capital investments. They intend to invest smaller sums of money, but can provide a lot of value to startups. Learn more about the differences between accelerators and incubators here.
Small Business Grants
Small business grants can be an option, though opportunities for these tend be very specific – providing grant money based on a situation (i.e. Covid grants) or your ethnicity, race, gender, etc.
What about Debt Financing?
There are two types of financing that are available to businesses: equity or debt financing.
The startup funding options mentioned in the last section involve equity financing. Equity financing is when you sell shares of your company to an investor or investors, in exchange for capital.
One of the best known examples of this is when a company undergoes an initial public offering (IPO), making a portion of its stock available for sale on the stock exchange. But equity financing also takes place at smaller levels. For instance, you would sell shares of your company to an angel investor, friends and family, venture capitalist firms, etc.
Debt financing is when you borrow money from a bank or take out a traditional business loan from a lending institution, such as the small business administration (SBA).
Business loans can be a good option for companies with a proven track record, as you won’t have to give up shares of your company. But you will have to pay interest on a business loan, so you’ll want to shop around for the best financing terms.
Although it’s less likely, sometimes investors will offer a debt financing option alongside equity financing, where they will expect you to pay a portion of their investment back with interest, and in return, they’ll take less ownership in the company.
In general, there are important differences between equity and debt financing. Since each of these options has its own benefits and drawbacks, it’s always good to do your research before making a decision on what type of startup funding you want to pursue.
Which Funding Is Best for Startups?
Some of your options may be limited by the stage of your company. The path you choose for financing may also be intertwined with what your goals are – for instance, whether or not you want to exit your company at a certain stage or how much funding you need.
Funding Rounds for Startups
There’s a reason early funding rounds include the word “seed”. When a company is in a pre-seed funding stage, the business has moved beyond ideation, but doesn’t have a full product, or huge amount (if any) sales data to support their business model.
Often the biggest investor(s) during this round will be the founder(s) of the company. Next might be friends and family, who the founders approach for capital in exchange for shares of their new business.
Although it can be difficult for companies to attract outside investors during this round, it’s not impossible.
Seed Funding for Your Startup
What Is Seed Funding?
During the seed round, a startup would usually begin seeking outside investment. You will have a product/market fit, and your business will have gotten off the ground.
Founders will typically be at a seed funding stage when they need the investment to grow their company. There are many different sources of seed funding, but this will usually involve seeking startup capital from institutional investors.
Institutional investors are entities, such as venture capitalists (VCs) or angels, who have the capital to invest in a wide range of businesses. They typically look for high-growth companies with a solid business plan and a team capable of executing on that plan.
VCs will often take a seat on the company’s board of directors to help provide advice and guidance, while an angel investor typically invests smaller sums of money, but may have more influence on the daily operations of the business.
No matter who you go with during the seed funding stage, remember that you’re giving up partial ownership of your business. Be diligent when researching a potential investor and understand what they expect from you in terms of milestones and timelines.
With the right partner, seed funding can be key to your startup’s success. With the wrong one, it could end in disaster. Read more about the differences between angel investors and VCs below.
Another option during seed funding rounds are crowdfunding platforms and startup accelerator programs. Both offer great alternatives for an early-stage startup.
Whereas an angel investor or VC may want your business to have more history, success and experience before making an investment, startup accelerators can provide you with the foundation that helps get you to that point.
What are Startup Accelerators?
Startup accelerators are entities that provide mentorship, startup funding and other resources to help early-stage startups grow their businesses. They typically offer a three-month program / bootcamp, where the startup founder or teams work out of the accelerator’s space and receive guidance from experienced entrepreneurs, investors and industry experts. Some, like DSH Accelerator, also provide housing during the program.
One of the biggest benefits of a startup accelerator is the access to funding. Startups that participate in an accelerator also have a higher success rate securing future Series A funding rounds, compared to those that don’t.
In addition to the funds you receive through the program, startup accelerators provide direct access to venture capitalists and networking opportunities with potential customers and partners.
Accelerators can be a phenomenal resource for early-stage startups, setting founders and their teams up with the tools they need for longevity and success. If you’re an early-stage founder, you may want to consider applying to a startup accelerator.
Series A Funding
When your company has proven success and a track record, as well as a solid revenue base, you may find it needs more investment to scale. A business will typically look to raise anywhere from $2 million to $20 million in investment capital during this stage.
Companies may also begin reaching out to traditional VC firms; some may also tap equity crowdfunding platforms as part of their Series A funding round.
Series B Funding
At this point, a company may need to grow to meet demand for their product or service. For instance, a startup may need to expand its business development, team, advertising/marketing, etc. To scale successfully, many startups will need additional funds.
Most Series B companies have valuations between $30-$60 million, though this can vary by startup and sometimes be much higher.
Investors from Series A can play a pivotal role in this process, helping a company to attract larger investors, as at this stage, they’ll be seeking a vc firm that specializes in later stage investing.
Series C Funding
When a company is ready for Series C funding, it is often in need of capital to develop new products, reach additional markets, and purchase other companies. Companies looking for Series C funding often have valuations of $120 million or more.
You may look to private equity firms, hedge funds, investment banks and even larger secondary market groups for capital.
Though it’s possible your business may seek additional rounds beyond Series C (i.e., a Series D funding round), most companies that need additional funding after this point will go through an IPO.
Important Differences Between Angel Investors and VCs
When your startup is in its earlier stages, it’s a good idea to have an understanding of the differences between these two types of institutional investors, so you know who is best for your company, and when and how they can be useful to your business.
The Role of Angel Investors
Angel investors are often wealthy individuals, who invest their own money into a company in exchange for ownership equity or convertible debt. This type of investment can be extremely helpful for startups, as it allows them to avoid having to take out an expensive business loan or give up a large percentage of their company.
An Angel investor will often have valuable experience and connections that they can share with the startup team. Because of this, an Angel may also seek out startup investments that are in line with their own experience.
Angels typically seek businesses with high potential growth rates that are able to generate a return on investment (ROI) within a few years. They also look for a well-developed business plan and evidence that the team has the ability to execute it. If you’re looking for this type of investor, here are a few tips:
- Do your research. Look for an Angel with experience and knowledge in your field. This will make them more likely to invest in your company, because they’ll understand how they can help you grow and avoid pitfalls associated with your industry.
- You should never give up more than 20% of your company’s equity (and give up less if you can).
- Be prepared for the possibility that you may not hear back from them after sending in your pitch, no matter how great your pitch deck or business plan is, or how perfect you thought they would be as an investor for your company. If this happens, just move on to the next one.
- When contacting an Angel, provide as much information about yourself and your business as possible. Include financial documents, such as balance sheets, profit/loss statements, personal resumes, and past investment history with other companies.
Angels can be a great source of startup funding, but keep in mind that they aren’t the only option. There are many other ways to raise money, so do your research in order to find the best funding option for your company.
What is Venture Capital?
Venture capital is a type of financing that provides startups and small businesses with equity financing, instead of debt financing. Venture capitalists often invest in companies by offering funding in return for an equity stake in the company, instead of taking on debt or being paid back over time through interest payments.
Venture capitalists typically seek investments with a high return potential and are willing to take on the higher risk associated with startups or businesses, who have yet to establish themselves, when they see a prospect for large rewards.
Although VCs don’t offer interest payments or receive repayment over time through interest, they do typically have a seat on the company’s board of directors and can provide valuable advice and mentorship to help the business grow.
Venture Capital Firms and Startup Funding
Venture capitalists are important for startups, as they provide the financial backing that’s often necessary to get a company off the ground. By investing in a startup, vc firms can take on a lot of risk, but they also stand to make a lot of money if the company is successful.
A good relationship with a venture capitalist can be helpful for a startup as it grows and scales, but remember that the VC is there to make money first and foremost, and they may seek partial ownership. Entrepreneurs seeking funding will have to decide whether raising capital from a variety of venture capital firms is the right end goal for their business.
Overcome Your Funding Fears
Getting startup funding for your company can be daunting. Especially when it’s a new business, or when your business is ahead of its time. But raising capital is also a necessary step for many companies to grow and scale.
When you run into obstacles, remember that every successful business started with someone who had faith in themselves and their product or service even when no one else did. Most investors are investing in you. So have confidence in your product or service, and always look for the right fit with an investor.