How To Get Startup Funding: 5 Types Of Funding For Startups & 5 Tips To Help You Get Started
You have a great idea, and you’re ready to take action and turn that idea into a thriving business. Maybe you have a new product that’s unlike anything on the market, or you’ve hashed out the details of a much-needed business in your area. No matter what type of business you have in mind, all startups have one thing in common: the need for capital.
Unfortunately, new businesses find it challenging to find funding. You can’t just walk into your local bank, produce a few financial statements, and get a business loan. A lack of revenue and business credit history works against you, as traditional lenders see you as a big risk.
However, this doesn’t mean you have to put your dreams on hold. It simply means that you need to get a little creative with your funding. Not sure where to start? You’re in the right place. This post is going to focus on startup funding.
This goes beyond just small business loans. We’ll look at a few unique types of funding for your business, as well as provide you with tips to get started. Use these ideas to get the money you need to get your business off the ground. Ready to get started? Let’s dive right in.
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Use Startup Funding To Take Your New Business To The Next Level
Before we delve into the different types of funding, let’s first evaluate why you need startup funding for your business.
Every business needs capital. The amount of capital you need varies based on a number of factors. Your type of business, specifically, influences your costs. If you’re creating a new product, your initial startup costs will differ from those of someone opening a store or restaurant. An online business will have different costs than a brick-and-mortar business. One of the first steps to launching your startup is to identify potential costs and then estimate how much capital you need to cover the costs to get your business off the ground.
When launching your business, some of the startup costs to keep in mind include:
- Rent or mortgage
- Supplies & inventory
- Research & development
Securing capital is the first step to launching a successful business. Just take a look at some of the businesses and products you may already be familiar with. The wildly successful card game Exploding Kittens had one of the biggest Kickstarter campaigns in history, raising over $8.7 million in 2015. Since its launch, its become a top-selling game across retailers such as Amazon and Target with over 9 million games sold. Expansion packs and other card games are also available, making this business even more successful.
Or perhaps you’ve heard of the food delivery service Grubhub. By 2011, the company had received five rounds of investment funding, transforming the company from one that simply offered online restaurant menus to a food delivery service in cities across the nation. Grubhub was just sold to Dutch company Just Eat Takeaway.com for a cool $7.3 billion.
Maybe you want to grow your business this large … or maybe you just want to kick your 9-to-5 to the curb, make your own money, and be your own boss. Whatever your ultimate goal is, securing funds can help you get there.
How Does Startup Funding Work?
There are two main types of startup funding to consider: debt financing and equity financing. There are a number of funding sources that fall under each umbrella, but for now, let’s focus on the general meaning of each.
Debt financing means that you receive a lump sum of money that is paid back over a period of time. In addition to paying the principal (in other words, what you borrowed), you’ll also pay interest to the lender. You may also be required to pay fees, such as an application fee or origination fee.
Lenders look at several things when determining whether you qualify for funding, the amount you qualify for, and the rates and terms. This may include your personal and/or business credit history, revenue or personal income, and personal or professional references.
There are several types of debt financing to fund your startup, including:
- Loans: You receive a lump sum of cash that is paid back over a period of time (anywhere from a few months to 20+ years).
- Business Credit Cards: A business credit card works like a personal card. You’re assigned a credit limit by the lender. You can use your card as often as needed provided you haven’t hit your credit limit. Interest is charged only on borrowed funds. As you pay down your balance, funds are once again available to borrow.
- Lines Of Credit: Lines of credit are similar to credit cards. A lender approves you for a set amount, which can be used as needed. Interest is charged only on borrowed funds. As you repay your line of credit, funds may become available to use again.
Debt financing has its benefits. Paying back your lender helps build your credit so you can qualify for higher limits and lower rates in the future. Your lender also doesn’t have a stake in your business, so you retain ownership.
On the other side of the coin, there are a few drawbacks to consider. Interest rates and terms — particularly for startups — may be less-than-favorable. If your business doesn’t succeed or you’re otherwise unable to repay your loan as agreed, your credit score will plummet. Your business and/or personal assets may also be at risk if you put up collateral, signed a personal guarantee, or have a blanket lien attached to your loan.
You can also get startup capital through equity financing. Like debt financing, you receive capital to use for startup costs. However, equity financing is different in that you don’t have to repay the funds. Instead, your investor receives a stake in your business in exchange for this capital. In the reality TV series, “Shark Tank,” the sharks invest money in products in exchange for ownership in the company — this is classic equity financing.
The good news is that you won’t have to repay funds, even if your business isn’t a success. The bad news is that you do have to give up partial ownership of your business. Not only does this mean that you have to share the profits, but you may also have to consult with stakeholders before making big decisions, such as making a large purchase or expanding your business.
5 Ways To Get Funding For Your Startup
There are a few ways to get funding for your startup. You may even opt to try several different methods to get the capital you need. Read on to learn more about getting funds for your startup.
Think about a seed. It starts off small. But over time, that seed grows into a plant or tree. Now, think of this seed as your business. The seed money — money given by investors — helps start your business. Over time, your goal is to grow this seed (the investment) into a thriving business.
Because this is a type of equity financing, your investors have a stake in your business in exchange for their seed money. Once your business has grown, the investors may opt to sell their stakes and move on to another opportunity. They may sell it back to you or to other investors that are interested in being a part of your business.
- Access To More Capital: The sky is the limit when it comes to seed funding. Unlike loans and other more traditional forms of funding, you don’t have to worry about limitations being put on the amount of funding you receive — provided, of course, that you find the right investor.
- Requirements: No business credit history? Low personal credit score? No revenue from your business? No problem. While some investors may have their own requirements before investing their funds, many are simply looking for the next big idea that has a potential for profit.
- No Regular Payments: You won’t have to worry about making regularly scheduled payments and high interest rates and fees when scoring seed funding from investors.
- Additional Skills & Knowledge: It’s highly likely that your investor will at least have some experience with your industry and can provide valuable skills and knowledge to help you grow your business to its full potential.
- Giving Up Part Of Your Business: In exchange for funding, your investor will take a percentage of your business. This means that they have a right to some of your profits and, depending on their level of involvement, may be involved in making major business decisions.
- Finding An Investor: Finding an investor that is willing to invest in your product/business (and, ultimately, you) can be a challenge. Other sources of funding may be acquired in just a few days…finding an investor can take weeks, months, or even longer.
The internet has changed business funding for the better in many ways. One way is through crowdfunding. You most likely have heard of (or maybe even donated to) campaigns on sites like Kickstarter or GoFundMe. These crowdfunding platforms have opened up financial opportunities for many startup businesses, and yours could be next.
There are two main types of crowdfunding to consider: equity-based and rewards-based. Equity-based crowdfunding means that investors get a stake in your business in exchange for their financial contributions. Rewards-based crowdfunding provides each investor with a reward or perk — think, first dibs on a new product or a deeply discounted price at launch.
- Few Limitations: You won’t encounter maximum funding limits like you would with loans or traditional financing. Although some crowdfunding platforms do have limitations in place, ultimately you can find a platform that lets you raise as much capital as you need — no matter how much that is.
- Keep Your Equity: If you opt to run a rewards-based campaign, you don’t have to give up ownership in your business.
- Tests & Builds Your Market: In addition to drawing in interested investors, you’re also putting your name out there to others — even those that don’t contribute — to begin building interest in your business before you even launch.
- Requires A Lot Of Work: Crowdfunding isn’t as simple as starting a campaign and waiting for the money to roll in. Instead, you will need to promote your campaign through social media, email, your website, or through other means in order to successfully raise funds for your business.
- May Not Be Successful: Sure, you didn’t raise all the money you needed, but you raised some, so that’s okay, right? It depends on what platform you used. Some platforms require you to meet your goal in a set period of time in order to receive your funds. If you fall short, you’re back at square one.
Negotiate With Suppliers
Another way to get your startup off the ground is to negotiate with suppliers. If you need supplies to create a product or open your business, negotiating is a smart tactic you need to master.
First, start by estimating supply costs. Get quotes from suppliers, do your research, and understand what costs are associated with your supplies. Next, find reputable suppliers and begin negotiations. If their pricing is too high, for example, use the data from your research to get a better deal. You can also inquire about discounts — i.e., for bulk or recurring orders.
Next, consider the payment terms. If payment is due immediately, try to negotiate net-30 terms; in other words, your payment will be due in 30 days. If the supplier isn’t willing to extend terms this much, even net-10 or net-5 terms can be helpful as you try to secure financing, sell products, or find an investor. Some suppliers may even offer in-house credit programs that are easier to qualify for than bank loans or credit cards.
- Lenient Requirements: As a startup with no business credit or revenue, proving your creditworthiness is pretty much impossible. But when you work directly with a supplier to get a reduced cost or improved repayment terms, these requirements may not even be a consideration.
- Building Business Relationships: As you build relationships with your suppliers, it’s possible that you may get additional discounts, better terms, and other perks in the future.
- Doesn’t Always Work: Getting a supplier to come down on the price of products or offer longer repayment terms isn’t guaranteed. Any savings or credit options and the requirements that come with vary by supplier.
- Other Funding May Still Be Needed: Even if you get the cost of your supplies negotiated to a more reasonable rate or score longer terms, you’ll still need capital to pay the supplier. If you launch your business and start making cash, great! If not, you may be required to find some form of financing in order to pay for your supplies.
We can’t talk about funding your business without at least mentioning loans. Of course, obtaining a loan through traditional lenders may be difficult, but it isn’t impossible. The Small Business Administration (SBA) offers funding programs for small businesses, including startups and underserved communities. There are also a number of alternative lenders that may be able to help you now or just a few months after you begin bringing in revenue.
Another option to consider outside of small business loans is a personal loan. If you have steady income and a solid personal credit profile, you may be eligible for a personal loan to use toward startup expenses — a loan with longer terms and lower rates than you’ll find with many alternative lenders.
- No Hard Work Required: Getting a small business or personal loan is as simple as submitting an application with requested documentation. Lending marketplaces make it easier than ever to compare rates and terms by filling out just one application.
- Keep Your Equity: When you receive a loan, you don’t have to give up ownership in your company.
- Can Be Expensive: Depending on the lender you select and criteria such as your credit score and income, the interest rates and fees of loans can get pretty expensive.
- May Require Collateral: Many lenders require risky borrowers (including startups) to put up collateral for a loan. This could be a specific business asset or personal asset. Some lenders use blanket liens, which covers everything owned by your business. Failure to pay your loan as agreed could result in losing these assets — and putting your business underwater.
- Requirements Not Met: Your application may be rejected if you don’t meet the requirements of the lender, which may include business credit score and history, personal credit profile, time in business, revenue, personal income, or type of industry.
Small Business Grants
If you have an innovative business idea, you may qualify for a startup grant. Not only can you score the capital you need with a grant, but funds don’t have to be repaid. However, don’t just think that grants are an easy way to get free money. Most small business grants have pretty strict requirements, so finding ones you qualify to receive is difficult. Once you find grants that are a good fit, competition is pretty stiff — so be prepared.
Startup grants are available for tech companies, innovative new products, and even underserved communities like minority-owned businesses. In addition to submitting information about yourself and your business or product, you may also be required to create a video, write an essay, submit a business plan, or complete other steps before being considered for a grant.
- Grants Don’t Have To Be Repaid: You don’t have to worry about repaying a lender if you receive a small business grant. If you qualify and are awarded a grant, funds do not have to repaid.
- Not Just Monetary Awards: Depending on the grant that you’re awarded, money isn’t the only thing you’ll receive. Many grants also include access to resources, such as industry-specific workshops, training, and mentorships.
- Finding Grants Can Be Difficult: Most grants have requirements that your business may not meet. You also have to keep an eye out for application deadlines to ensure your application is received on time.
- Competition Is Tough: You aren’t the only aspiring business owner to seek out grants. Competition is tough, and most people that apply won’t receive a grant, so make sure you have a backup plan in place.
On a farm, an incubator is used to create the perfect environment for the successful hatching of eggs. In business, a startup incubator works in a similar way — metaphorically, of course.
A startup incubator is a program designed to foster the growth of new businesses. An incubator provides a number of resources to help startups grow into a successful business. A single company or organization may act as a startup incubator, but more commonly a number of businesses and organizations come together to provide the resources startups need to succeed.
These programs don’t just open up new opportunities for capital but also may provide your startup with resources including mentorships, office space, and training to ensure your business starts on the right path.
Looking for a startup incubator? Start your search online or contact your local SBA office.
- More Than Just Funding: Your business needs funding, and a startup incubator can give you opportunities you couldn’t find on your own. In addition to just capital, though, you can also take advantage of the numerous resources and expertise offered through these programs.
- Find Your Focus: The benefits you’ll receive from a startup incubator can help you become more structured and focused on launching and growing your business.
- Finding & Being Accepted To A Program: Unfortunately, startup incubators won’t just flock to you. It’s your job to do the research and find incubator programs, learn more about joining, and ensuring you meet all requirements. Once you do find suitable programs, actually being accepted over competing startups is another challenge.
- Requires Commitment: Your program may require you to attend training, workshops, or meetings with investors or mentors. This time commitment may prove to be too much if you have other obligations, such as a full-time job.
Tips To Get The Startup Funding You Need
Once you’ve determined the method (or methods) you’ll use to acquire your startup funding, there are a few things you can do now to improve your odds for success. Before reaching out to that lender, investor, or supplier, keep these tips in mind.
Understand The 5 Cs Of Credit
Whether you plan to apply for a business loan now or in the future, it’s important to understand what lenders look for — specifically, the five Cs of credit. Those are:
- Character: Lenders want to work with borrowers with good character traits. This may include personal work experience, industry experience, and personal credit history.
- Conditions: Are the conditions favorable for lending? Lenders will consider this, looking at things such as industry trends, the state of the economy, and even pending legislation to determine if lending to your business is a smart move.
- Collateral: Do you have collateral to secure your loan in the event that you default on your loan agreement? Equipment, real estate, and even accounts receiveable can be used as collateral.
- Capital: Have you invested in your business? If so, you have skin in the game and will have something to lose if your business goes under. Lenders will consider how much capital has been invested in your business when determining if you qualify for funding.
- Capacity: Does your business have the capacity to take on a loan payment? Lenders will consider factors such as your debt-to-income ratio (DTI), debt service coverage ratio (DSCR), and cash flow to determine if your business is financially prepared to take on additional debt.
Is your business falling short in one of these areas? Learn more about the 5 Cs of credit and how you can make sure your startup is prepared before approaching a lender.
Create A Business Plan
You have your business ideas in your head and maybe even jotted down in a notebook somewhere, but it’s important to have an actual business plan. Not only is this essential for drawing in investors or securing funding, but it also serves as a blueprint for your business. Think of your business plan as a road map, outlining the details of where you’re going (your goal) and how you will get there.
Since every business (and the goals of each business owner) is different, no two business plans are the same. However, there are a few common sections that each business plan shares. These include:
- Company Description
- Products & Services
- Management Team
- Marketing Plan
- Financial Projections
For some businesses, a one-page business plan may be sufficient. For others, however, a more comprehensive plan may be needed, particularly if you’re looking for investors or to obtain a small business loan.
Evaluate The Cost Of Borrowing
It may be tempting to jump on the first funding offer that comes your way, but it’s important to stop and weigh out the cost of funding.
For instance, if you get approved for a startup loan, look at factors such as fees and interest. Calculate how much you’ll pay to borrow funds, and determine if this is feasible or if it could potentially sink your business.
If you have an interested investor that wants equity in exchange for capital, consider how much of your business you have to give up. Are the funds you’ll receive today worth giving up a large portion of your profits in the future? Look at the cost of borrowing over the long-term to determine if you need to find another source of funding.
Don’t Be Afraid To Get Creative
When it comes to starting (and growing) a business, acquiring funding takes some creativity. Maybe you’ll use one (or more) of the methods suggested in this post to fund your startup. Or maybe you’ll do something else entirely. The key is to find what works best for you.
Don’t be afraid to get creative. Tap your friends and family that could be potential investors. Attend industry events and network with like-minded entrepreneurs. Keep an open mind, be flexible, and have a backup plan in place in the event that your
Hold Up Your End Of The Bargain
Once you do get funding, your work doesn’t stop there. Whether you agree to repay a lender each month or you’re using a supplier for recurring purchases, make sure that you always keep your promises (whether they’re on paper or not). Word travels fast among the small business community, and the last thing you want to do is burn your bridges. Repay your debts as agreed, hold up your end of every deal you make, and build a reputation as a business owner with integrity and strong character.
An added bonus? Paying your debts on time helps raise your credit score, making it easier to qualify for additional funding with better terms in the future.
Go Out & Get Funded
Now that you have a better idea of the funding opportunities open to you, it’s time to get out there and find that capital. Remember, it pays to be patient, do your research, and explore all funding options before making the giant leap into owning and operating your own business. Good luck!