Entrepreneurs can save time and angst by looking beyond banks and other mythical sources of startup capital.
One of the major obstacles entrepreneurs face in starting a business is raising the money they need. It can be the most time-consuming, frustrating and disheartening factor in launching a new venture. Save yourself some energy and angst by not looking to sources that conventional wisdom would suggest as logical places to find startup capital. Instead, focus on more realistic prospects.
Here is a list of places you shouldn’t be looking for money, followed by where you’re more likely to find it.
At first blush, bypassing banks may sound crazy — that’s where the cash is. Banks also offer one of the least-costly sources of funding. But banks generally are not interested in lending to start-ups. They seek out established borrowers with a credit history that can help them determine their risk and the probability of being paid back.
No matter their lending criteria, which can vary, banks won’t lend to a start-up in most cases unless the principals sign a personal guarantee and have assets to back up the loan in case of default. Bankers focus on the negative side of new ventures: How can I recoup my money if the business fails? Their depositors do not expect them to risk their money. For this safe approach, depositors are satisfied to receive a lower return on their money.
Venture Capital Firms
VC investors can receive tremendous publicity about their big hits with famous high-profit companies. But they expect that most of their investments will fail. Perhaps two out of 1,000 plans a VC looks at will be chosen for investment. VC investors focus on how fast the company can grow and how big it can get.
Before investing in a company, venture capitalists generally want to see:
Proven successful owners
- A team of experienced people
- A business plan whose idea is likely to win out against strong competition
- The potential for high growth and profit within five years
What’s more, VCs typically insist on a large equity position and the ability to take over your company if you can’t make your projections.
The media can tend to glorify the rare individual who starts a company on credit cards. It is a route I would not recommend. Credit cards are debt, not an investment. If you are a start-up or small business not yet earning a profit, it’s important to think through how you would pay off the credit-card debt. The odds are good that you won’t, and you will end up with a poor personal credit rating and a frayed relationship with family members you are supporting.
But if you earn a profit and need only a seasonal infusion of capital, then credit-card debt might be a feasible option. One caution: Their interest rates are typically very high.
Keep tomorrow in mind. Starting a business that fails is not fatal to your future. It can be a learning experience that future potential investors usually don’t hold against you. But a spotty personal credit rating can damage your prospects.
Those closest to you can be a good source of money for start-ups. They know you, are on your side, and aren’t as likely to scrutinize your plan like outsiders would. But think twice before accepting family money if you feel the family member cannot afford to lose it and also does not fully understand the risks.
If you don’t look for startup funding from banks, venture capitalists, credit cards and family, you’ll save a lot of time and aggravation. Of course, with some success behind you, these sources may one day be perfect sources of financing.
Where to Look for Startup Funding
Here are some places where you may be more likely to secure the money you need for a new venture.
- Creative savings. Carefully analyze all your money needs and think creatively about how you can get things for nothing or at a lower cost. This review may not be as difficult as it sounds. For instance, consider bartering and ways to lower your overhead expenses. Look for ways to outsource tasks since this can convert a fixed expense into a variable one and you’ll pay for it only when you make a sale. Accomplishing things without using cash is the same as getting money — with the advantage of not paying interest or giving up equity.
- Angel investors. These backers tend to invest smaller sums and take less equity than venture capitalists and usually make a more meaningful noncash contribution to your survival and growth, such as advice and introductions to others who can help you.
- Partner suppliers and customers. No equity is involved in these deals, but your objectives are achieved without paying cash. For example, if you have a product that you sell through retailers or work with regular suppliers, make them an exclusive offer, such as a specific time period for free advertising or an agreement to purchase on extended payment terms.
- Reinvested profits. Scale back on your plans for quick growth and focus your efforts on organic growth where your profits are reinvested in the business as a substitute for raising capital. It is a slower approach, but it can be more profitable and less of a strain on you and your company’s well-being.
This is from my column for Entrepreneur.