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  • Writer's pictureJamie Clark

Picking the right type of early financing for your entrepreunerial idea

Updated: Jun 26, 2023

Many people perceive the term 'start-up' to just equal a technology company with unicorn ambitions.


This is not true - most often the best entrepreneurs are closer to home than you think.




The local farmers' shop, the coffee shop, and the tech startup are ALL examples of entrepreneurship.


"Entrepreneurship is the engine fuelling innovation, employment generation and economic growth" - Klaus Schwab


Now - how to select which financing vehicle makes the most sense for your business idea - and the long-term ramifications of selecting such financing. In no particular order:


1. Personal Savings


Bootstrapping your business is always a solid option if you can budget well, and not have this investment into your business compromise your overall quality of life.


2. Crowdfunding


Crowdfunding is a process of funding businesses or projects by raising money from around the globe by leveraging the internet. Over the last decade, it has become extremely popular and more sophisticated. By 2028 it is estimated the Crowdfunding market size will be nearly USD $29B. The average transaction for crowdfunding campaigns in 2022 was USD $7.26K.


There are three types of crowdfunding:

  • Non-Equity - You receive money without selling any % of the company. Donors give money because they want to support the project with no strings attached. You typically need a compelling story to make this work.

  • Equity - Receiving money and selling part of the company to crowdfunding investors. Ie. allocating a percentage of the business and giving it to the investors.

  • Gift Equity - Receiving money in exchange for gifts from your business (like free tokens on your platform, or a taste tester of your product etc.).

Recently, plant-based meat company Heura Foods raised USD $5M in less than 4 hours on the Crowdcube platform.

Heura Foods crowdfunding


Best for:

- Businesses with a growing brand / compelling story

- Any business willing to spend time on marketing


Long-term impact:

- Crowdfunding within the Venture Capital (VC) industry can sometimes still be perceived as an unprofessional way of financing a business - and it can deter some potential venture capital firms. This sentiment is changing fast but it is important to remember to always syndicate all the individual investors to keep a tidy cap table and to put valuations that are in keeping with what VCs are willing to pay. But outside of that, Crowdfunding I suspect will only get more popular in the future as more individual investors are looking for projects that they can support.


3. Accelerator Programs


A startup accelerator, sometimes referred to as a seed accelerator, is a business program that supports early-stage, growth-driven companies through education, mentorship, and financing. Startups typically enter accelerators for a fixed period of time and as part of a cohort of companies.


Two well-known examples of accelerator programs include Y-Combinator and Techstars.


The pros of accelerators are that they give structure and organisation to the development of your business. They often create a more straightforward pathway to receiving investment from VCs. Programs like the ones listed above are associated with high quality and thus when you enter the program you typically are perceived as a desirable young business.


Keep in mind many of these accelerators are not all that they lived up to be and cannot support the business's growth. Accelerators are also known to buy into the business at a very cheap rate (you need to sell approx. 6-10% of the company to participate). Accelerators are also extremely time-consuming so only recommended to if you believe that you need the structure and guidelines.


Best for:

- Tech startups with high growth ambitions


Long-term impact:

- Valuations. Accelerators get in at a cheap rate, so it's important to be able to quickly jump up from the valuation you let the accelerator buy in at and the future rounds you hope to raise.


4. Angel Investors


An angel investor is an individual who provides capital for a business, usually in exchange for convertible debt or ownership equity.


These individuals are typically high net-worth individuals and ex-entrepreneurs who are willing to sponsor a business from the early get-go. While it is indeed an investment on their part, due to the risk factor being so high at that stage, these people first tend to have an emotional connection with the business and just want to be involved.


Best for:

- All businesses


Long-term impact:

- Having angels on board offers initial capital and flexibility to move the business in any direction you see fit. These angels are also typically highly connected people and get help to connect the business with financiers at a later stage.


5. Venture Capital


VC funds are for startups and emerging companies that have been deemed to have high growth potential or which have already demonstrated high growth.


When it comes to the fund itself, it only has a lifespan of 10 years, and limited partners (the people who invested in the funds) are eager to get their investment earnings back. Because of this underlying dynamic, VCs only select businesses that have the ambition to grow quickly, and oftentimes, irrationally fast.


This financing choice is popular for high-growth tech companies because the size of cheques can be quite high - meaning, you can have an injection of capital that implies fast development.


However, once on this pathway, there is high pressure to succeed from the fund, as they are trying to force an outcome (acquisition or IPO) so that they can return the money to their limited partners. Companies that embark on this financing journey have a growth at all costs mindset.


Below is a graph from the 50,000 startups how many turn out to reach 'unicorn' status ($1B+ valuation).









Best for:

- High-growth and ambitious companies


Long-term impact:

- Once you have VCs on your cap table, this tends to be an irreversible dynamic. You will need to grow quite fast. However, with a solid reputable VC and the support they give, this often can be one of the key reasons the business succeeds.


6. Venture Debt


Venture debt is a type of loan offered by banks and nonbank lenders that are designed specifically for early-stage, high-growth companies with venture capital backing.


For most lenders, startups are considered too high risk and therefore prefer to issue a loan with an interest rate attached. This mechanism works similarly to a bank, but this instrument is angled towards startups. Some firms will do a combination of debt and equity ie. $500,000 USD in debt and $200,000 USD in equity (typically at a lower valuation) because of the debt component.


Best for:

- Companies that need quick runway extension

- Companies that are unable to raise at high valuations

- Companies that have all equity financing and want to have debt just as an extra boost of capital


Long-term impact:

- You need to pay back the debt at the interest rate applied. However, if the company does not succeed, you as a founder will have no personal liability for the debt.


7. Government Grants


A government grant is an equity-free instrument given to businesses that the government perceives as having a positive impact on society.


Typically when you become a recipient of a Government grant, the only work that needs to be carried out is supplying evidence that you are hitting the milestones you agreed to in the grant application.


Because this is equity (and debt) free money, it is widely considered the best money in the market. However, winning a grant is not easy, and therefore you'd need to assess whether you have the time resources to apply for it.


Best for:

- All businesses and in particular social impact businesses


Long-term impact:

- Only need to declare and present the results of project milestones that you set out in the grant proposal.


 

You will likely need to adopt a combination of these financing methods - but it is key to factor in what each of them implies to the business and to the lifestyle that you want next to your business.


The good news is, funding markets will grow as the economy expands. It has never been a better time to be an entrepreneur!

 

In this article, we are missing some other financial vehicles such as family and friends, CVCs, bank loans and private equity.

In short:

- Bank loan: I would avoid if it is possible

- Family and friends: I would avoid unless you are confident in your relationship with them

- CVCs: They come in at a later stage in the entrepreunerial journey

- Private Equity: They come in at a later stage in the entrepreunerial journey


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