Funding Your Startup

There are several ways to fund a start-up that involve varying degrees of
risk and effort. When choosing a path, it is important to know your
options and evaluate which one is most suited to your needs and tolerance
for risk.
To help you get started, here are eight possible sources of capital to fund
a start-up business.

1. Fund It Yourself
Most start-ups, at least in the beginning, are self-financed. This may
involve using your savings, borrowing against a retirement account, or
taking out a home-equity loan. This is a good thing if your venture
succeeds, as you retain all of the ownership. But if things don't go so
well, you must consider and weigh the risks you're taking.

2. Friends and Family

People closest to you may be a good source of initial start-up funding.
After all, they already know you, your background, and your integrity.
They may be less concerned about your business plan and more willing to
invest or lend based on the strength of your character.
But there are risks that are different than from other funding sources.
Personal relationships can be at stake if problems or misunderstandings
arise.

3. Initiate a Crowd-Funding Campaign

In crowd-funding campaigns on sites like Kickstarter, anyone can make
online pledges to help fund your start-up. This usually involves pre-
ordering a product, or receiving rewards. This is an innovative way to
fund a smaller start-up.

4. Join a Start-up Incubator Group

What is an incubator group? An incubator group is a start-up accelerator
often associated with universities or large organizations. Their purpose is
to spur innovation. Most provide access to resources such as office space,
but some also provide seed funding. To learn more, visit Y Combinator or
National Business Incubation Association.

5. Apply for a Small Business Grant

There are lots of untapped government grants out there. Seek them out
and you could potentially walk away with a safe and reliable source of
money for your start-up.
A good place to start looking for small business grants is the US Small
Business Administration.

6. Apply for a Line of Credit or Loan

If your tolerance for risk is low, talk to your bank or credit union about
applying for a low-fee line of credit or personal loan. Your banker may
also be able to help you with an SBA loan.
Keep in mind, though, you will have to make monthly payments right off
the bat.

7. Seek Help from Angel Investors

Most cities have groups of high-net-worth individuals who are looking to
invest in interesting business opportunities in their communities. If
you’ve seen the television program, "Shark Tank," these are examples of
angel investors. They often want to see at least some track record of
success, but some will entertain start-ups. The downside is that you may
be giving up a considerable stake—often 10 to 50 percent—of your
company for the ange funding. On the other hand, you may gain valuable
expertise and contacts from someone who is motivated to help your
venture succeed.
A good place to start is the Overland Park, Kansas-based Angel Capital
Association, which offers a list of more than 12,000 accredited angel
investors.

8. Go After Venture Capital Investors

Venture capital investors are professional investors who look for big
ideas. For the majority of new start-ups, this isn't a viable alternative, as
VCs fund only about one or two percent of all business plans they review.
But for those with the right combination of concept and team resumes -
usually worth a few million dollars and supported by a team of proven
individuals - they can be a great resource. VCs can scale capital needs
quickly for fast-growing companies. If you’re a smaller company that
may not be ready for full-scale VC funding, check out Sequioia Capital, a
crowd-funded VC platform.
An overview of Start-up finance
The term “start-up finance” deals with some kind of initial infusion of
money needed to translate an idea (by starting a business) into reality.
Apparently, while starting out a new business venture, it is quite difficult
to obtain funds from big lenders such as banks, financial institutions, etc.
as they are generally reluctant in extending finance in start-up businesses
owing to risk concerns.

When a business or firm is at its initial stage and is still making strenuous
efforts to mark its footprints in the market and gain goodwill among its
stakeholders, it has not reached a point where a traditional lender or
investor would be interested in it. Thus, such start-up businesses have no
recourse left but to place reliance on options such as selling some assets,
borrowings against one’s home, obtaining loans from close family and
friends, etc. However, this too involves a lot of risks, including the risk of
bankruptcy and strained relationships with friends and family. A strong
business plan is needed to successfully launch a new business and get it
to a level where large investors are interested in investing their money.

Moreover, to attain enduring success in the field of entrepreneurship, it is

pertinent to speed up the initial set of business operations as quickly as
possible so as to reach to a point where outside investors can see and feel
the business venture. They must hold a sense of confidence in the firm
and value the level of risk that is put into by the entrepreneur to reach up
to such level.

Most common start-up finance options

Start-up finance is needed by every newly established business to gain
access to capital, whether it is for funding of product development,
acquisition of machinery and raw materials, or meeting administration
costs such as paying salaries to its workers. As banks are less likely to
give loans for start-up finance, most entrepreneurs go for innovative
measures to fund their business needs. Also, in the case where small
business’s capital needs do not qualify for a traditional bank loan, there
are a number of alternative financing methods which can bridge the gap
of funds in SMEs. Some of the most common sources used for funding a
start-up or SME include the following:

Self-funding or Personal savings

Peer to peer lending and family and friends
Crowd-funding
Vendor financing, Purchase order financing and Trade credit
Factoring
Angel Investment
Venture Capitalist and Venture Debt
Loan from banks/NBFCs and CGTMSE loans
External Commercial Borrowings (ECBs)
funding a start-up or SME
Let us have a look at each of these financing options while addressing
their peculiarities in brief:

1. Self-funding or Personal savings

Most budding entrepreneurs never thought of saving any money to start a
business or to propel their small businesses in the right direction.
However, personal financing can play a vital role. Some important points
to note here are:

Self-funding is all the more important because outside investors will not
put money into a deal if they see that the owner himself has not
contributed any money through personal sources.
Personal credit lines, such as credit cards can also play a crucial role.
But banks are quite cautious while offering personal credit lines to
entrepreneurs, and they provide this facility only when the business has
enough cash flow to repay the line of credit.
Bootstrapping: An individual is said to be bootstrapping his business
when he or she attempts to find, nurture and build a company from
personal finances or from the operating revenues of the new company. A
common mistake made by most new entrepreneurs is that they make
unnecessary expenses towards marketing, offices and equipment they
cannot really afford. So, it is true that more money at the inception of a
new business often leads to unwise and wasteful expenditure. On the
other hand, investment by startups from their own savings leads to a
cautious approach. It curbs wasteful expenditures and enables the
promoters to follow a well-planned approach all the time.

2. Peer to peer lending and family and friends

People in close family and friends who generally believe in you would
provide you help without even thinking that your business idea works or
not. Similarly, peer to peer lending has also been there for many years.
Some important points to note in this type of start-up finance are:

The loan obligations to friends and close relatives must always be in

writing as a promissory note or otherwise.
Under peer to peer lending, a group of people come together and lend
money to each other.
Many small and ethnic business groups having similar faith or interest
generally support each other in their start-up endeavours.
Loans availed through peer to peer lending should also be strictly
businesslike.
3. Crowd-funding
Lately, crowd-funding has emerged as one of the most popular start-up
finance techniques through which small amounts of capital from a large
number of individuals are raised to finance a new business initiative. It is
a technique that makes use of the easy accessibility of vast networks of
people through social media and crowd-funding websites to bring
potential investors and budding entrepreneurs together. Some important
points to note in this type of start-up finance are:

Crowd-funding allows anyone with a clear vision and strong business

plan, including entrepreneurs, to raise money for their project or venture.
Crowd-funding platforms allow businesses to pool small investments
from several investors instead of seeking out a single investment source.
The entrepreneur is required to share his business plan and objectives
with a large group of people hoping that enormous donations will
eventually lead to the generation of desired funds.
Some of the popular crowd-funding sites are Indiegogo, Wishberry,
Ketto, Fundlined, Kickstarter, RocketHub, DreamFunded, and
Catapooolt.
Marketing benefits also reap in along with the raising of a start-up loan
through crowd-funding. It provides validation of a business idea by many
potential future customers for the new business.
4. Vendor financing, Purchase order financing and Trade credit
Vendor financing or trade credit takes place when many manufacturers
and distributors are convinced to defer payment until the time the goods
are sold. It is a form of credit allowed to businesses from their vendors or
material suppliers so that they can make delayed payment to them. This
means extending the payment terms to a longer period for e.g. 30 days to
45 days or 60 days. Trade credit is one of the most important ways to
reduce the amount of working capital one needs.

The most common scaling problem faced by SMEs and startups is the
inability to secure a large new order. The reason is that they don’t have
the necessary cash required to produce and deliver the product. Here,
purchase order financing companies play a role and often advance the
required funds directly to the supplier. This allows the transaction
between the start-up and its supplier to complete and profit to flow up to
the new business.
Moreover, when a person is starting his business, suppliers are reluctant
to give trade credit. They will insist on payment of their goods supplied
either by cash or by credit card. However, a way out in this situation is to
present a well-crafted financial plan. The owner or the financial officer
has to be explained about the business and the need to get the first order
on credit in order to launch the venture.

5. Factoring
Factoring is a financing method where accounts receivables of a business
organization are sold to a commercial finance company (called the
‘factor’) at a discount with a view to raising capital. The factor then gets a
hold of the accounts receivables of the business organization and assumes
the responsibility of collecting the receivables as well as doing the
associated paperwork in receivables management. Some important points
in factoring are:

Factoring can be executed on a non-notification basis, which means that

the customers may not be told that their accounts have been sold.
The process of factoring may reduce the costs for a business organization,
associated with maintaining accounts receivable such as bookkeeping,
collections and credit verifications.
In addition to reducing internal costs of a start-up business, factoring also
frees up the money that would otherwise be tied in accounts receivables.
Factoring can be used as a tool for raising money for start-ups and
keeping their cash flowing.
Financing Options Available to Startups PDF
Financing Options Available to Startups
Crowd-funding
Angel Investment
Venture Capital
Loan from Banks/NBFCs
Download PDF
6. Angel Investment
Also known as informal investors, angel funders, private investors, seed
investors or business angels, angel investors aid in providing start-up
finance. They are affluent individuals who inject capital for budding start-
ups in exchange for ownership equity or convertible debt. Some of the
important features of the angel investment are:

Angel investors are more concerned with helping start-ups take their first
steps, rather than the possible profit they may get from the business.
Angel investors prefer to take more risks in investment for higher returns.
Most often, angel investors are among an entrepreneur’s family and
friends.
Angel investors typically use their own money.
They can also provide mentoring or advice alongside capital.
They may represent individuals, a limited liability company, a business, a
trust or an investment fund, among many other kinds of vehicles.
7. Venture Capitalists
Venture capital means professionally managed funds made available for
startup firms and small businesses with exceptional growth potential.
Venture capital is money provided by professionals who alongside
management, invest in young, rapidly growing companies that have the
potential to develop into significant economic contributors. Some of the
important features of venture capital are:

Venture capitalists usually finance new and rapidly growing companies,

purchase equity securities, assist in the development of new products or
services, and add value to the company through active participation.
The relationship one establishes with a VC can provide an abundance of
knowledge, industry connections and a clear direction for the business.
Venture capitalists take care of pooled money from many other investors
and place them in a strategically managed fund.
Venture capitalists are experienced in the process of preparing a company
for an initial public offering (IPO) of its shares onto the stock exchanges
or overseas stock exchange such as NASDAQ.
8. Loan from banks/NBFCs and CGTMSE loans
Some common loans available specifically for start-up finance include
Growth Capital and Equity Assistance Scheme by SIDBI, microloans,
equipment financing, MUDRA loan scheme, Bank Credit Facilitation
Scheme, etc. Banks and Non-Banking Finance Companies (NBFCs} are
different from angel investment and venture capital. They do not become
the owner after granting the loan. They provide loans to fulfil various
business needs, such as:

Inventory and equipment purchase

Arrange opening capital (working capital) to carry out functions smoothly
Fulfil fund requirement for the expansion purpose
On the flip side, there are some drawbacks of the funding option also like
there is a requirement of making payment of interest on loan periodically
irrespective of the growth of your business venture. Apart from this,
bankers may also ask for substantial collateral money and good credit
rating along with the fulfilment of prescribed terms & conditions.
CGTMSE Loans: In order to encourage entrepreneurs and start-ups, the
Ministry of Micro, Small & Medium Enterprises (MSME), Government
of India has launched the Credit Guarantee Trust for Micro & Small
Enterprises.

Without collateral or surety, the loan can be availed up to Rs. 1 crore.

Fresh as well as existing MSMEs can obtain a loan from all scheduled
commercial banks and specified Regional Rural Banks and those
authorities which entered into an agreement with the Credit Guarantee
Trust. For choosing this option, you have to check the eligibility criteria
first, however, under this scheme, both new and existing micro and small
enterprises including service enterprises are eligible for a maximum
credit cap of Rs. 200 lacs.

9. External Commercial Borrowings (ECBs)

The other main option for funding of start-up is External Commercial
Borrowings (ECB). Under this, funds can also be raised from non-
resident lenders in the form of External Commercial Borrowings. The
minimum average maturity period for the ECBs raised by start-ups shall
be 3 years. External Commercial Borrowings can be procured in the
below-mentioned forms:

Bank loans
Buyers’/Suppliers’ credit
Financial Lease
Foreign Currency Convertible Bonds (FCCBs)
Securitized instruments such as non-convertible, optionally convertible or
partially convertible preference shares, floating rate notes and fixed rate
bonds, etc.
In India, External Commercial Borrowings can be done from two routes,
namely, Automatic Route and Approval Route. It may be noted that
except FCEBs (permitted only under the approval route) all other forms
of ECB can be availed of both under the automatic and approval routes.
The ECB framework depends on factors like eligibility of borrower and
recognized lender, amount of ECB availed, average maturity period, etc.