How to fund a business idea is one of the top questions aspiring entrepreneurs ask themselves.
The implementation of some ideas requires no money at all, while others require a lot of it.
Depending on the idea, location, and willingness to share a business with investors, there’s a number of great funding opportunities. In this post, I briefly introduce the main sources of funding for new businesses.
Sources of entrepreneurial funding
The funding options are all different and they all have their own advantages and disadvantages.
For example, for some forms of funding you will have to give up equity of your business, which means losing not only a share of your company’s profit and its overall value but also power in decision making.
Yet, at the same time this kind of an investment might give your company the
necessary means for exponential growth. It all depends on your idea, goals and implementation.
Different ways to fund a new business are bootstrapping, friends, family and fools, awards, grants, crowdfunding, startup programs including incubators and accelerators, loans, and investors including business angels, venture capitalists and IPO. I elaborate on these below.
It’s called bootstrapping when you don’t use any external sources of funding but only your own savings and income. According to many statistics, about 80% of entrepreneurs rely on bootstrapping.
This, of course, is possible when you’re not developing a new artificial intelligence -based robot technology and expecting to revolutionize the domestic robot industry and aspiring for exponential growth.
Friends, Family and Fools
Friends, Family and Fools (FFF) is a common expression for funding that entrepreneurs receive from their family members and close friends. Fools are those acquaintances who provide entrepreneurs with a little amount of money for starting up or backing them up with securities.
This type of funding doesn’t usually include equity (re-)distribution. If it does, then it becomes an investment for which the investor expects returns, which is basically an angel investment or some sort of collaboration between the entrepreneur and the investor.
Funding through awards belongs to a category of so-called “
sweet money“, where the entrepreneur basically wins money and can use it for whatever they want and without having to give up equity.
Idea contests, pitching competitions and industry-related startup events are everywhere and they’re not rare at all. They usually accept almost anyone to participate in their competitions. What you typically need to have is a great idea that fits the theme, a business plan and a prototype.
Governments, regions and cities often provide new entrepreneurs with startup money in different forms. It can be $5,000 as a one-time payment or $12,000 spread over a year. They can also be based on milestones like full business plan, proof of concept, first sales, or something else.
This really depends on the country and region you are based in. But it’s definitely always worthwhile to check if you can receive any financial support. Government-based entrepreneurial facilitators often also provide with consulting and networking opportunities in addition to financial grants.
Crowdfunding means that entrepreneurs (or creators in any field) present their idea on a crowdfunding platform, like Kickstarter, to a great number of potential investors (crowd), who can then make small pledges in exchange for a reward, equity, interest, or nothing, depending on the platform and campaign type.
This has become a considerable option for entrepreneurial funding. The crowd consists of private individuals and the creators can apply for funding for any types of projects such as a business, social cause, movie, album or book.
Incubators and accelerators are startup programs that offer participants resources, consulting, networking and sometimes funding. Probably the most famous accelerator program is offered by Y Combinator in the USA. It gives the startups $125,000 for 7% equity. Examples of their previous participants include
Dropbox, Airbnb and Instacart.
While accelerators mostly focus on startups that are about to enter the market, incubators typically focus on teams that have just begun. All programs are different and they are typically offered by large companies, universities or private startup facilitators.
Banks and developmental institutes provide small loans for entrepreneurs. The advantages are that no equity needs to be given up and that the money can be used in any way the entrepreneur wants.
Yet, the disadvantage is that taking a loan for an entrepreneurial endeavor represents a high risk depending on the amount of money in question. Since most entrepreneurial ideas never take off or even completely fail, the loan requires a backup plan and most likely a good guarantor.
There are many types of investments that can be made in startups. Business angels and venture capital are the most common ones. These are serious investments that involve equity re-distribution and changes in the board of directors and maybe even executive team. The size of such investments is typically from $10,000 (angel investment) to several millions of US dollars depending on the funding round.
For an investment like this you need a full business plan, excellent team, fast growing sales, and often also a great pitch, or a good relationship to the investors. You’ll find business angels and venture capitalists in almost every startup event and conference, and they usually offer information with that regard on their websites.
Initial Public Offerings (IPO)
IPO is the event of when a company’s shares become publicly traded. In other words, it turns from a private into a public company.
Many growth-oriented companies want to become publicly traded, because in that way they can receive more funding, which they invest in R&D and marketing or just scaling their operations. Moreover, business angels and venture capitalists, or sometimes even the founders, get their returns for the initial investment at this point as they can now sell their share of the company to the public.
Just to clarify, IPO is not something you should be thinking about when you start a new business. It’s usually a long and painful way from the initial product development and market penetration to investor search and scaling to an IPO. Only a tiny proportion of all startups make it so far.
Startup funding is a tricky thing for new entrepreneurs. On the one hand, you kind of need money but you don’t want to take a loan or a stranger to be part of your business…
On the other hand, and more often than not, aspiring entrepreneurs tend to forget that it’s
up to their own creativity to solve problems in a way that doesn’t cost them a fortune. Money is sometimes not needed at all. Some businesses can be started as a side hustle. Marketing can often be done via social media that is free of charge. Most of the time money helps, like for living without income or hiring, but it has to be used wisely and economically.
Investors too appreciate entrepreneurs who can use bricolage and bootstrap their way to growth.
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