Most businesses need raise money sometime during their life cycle. The two most common places are:
- During the launch of the company, where money may be needed for prototyping, construction, equipment, inventory, etc. If you want to open a new restaurant, you need money to buy a building, the kitchen equipment, the furnishings, etc. In the Dor example, $800K was needed at the start to fund a small staff of engineers during prototype development.
- During a scaling cycle, where the company has proven traction at one level and now wants to move to a new level. This “new level” could involve taking a restaurant chain from one city to 10 cities, or taking a product from a test market to nationwide roll-out.
These three articles can help you understand the value and reasons for rasing money:
- How Startup Stock Creates Transcendental Wealth
- Prototyping a $1 billion startup
- How to Think Big about Your Startup
Sometimes money raising happens in a very small way (e.g. – two college students need $40,000 to pay the rent while they finish a piece of prototype software for their startup idea). Other times the amounts are staggering. Take the case of Tesla as it ramped up Model S production:
Tesla Motors is preparing an initial public offering it hopes will raise as much as $100 million… The announcement, widely anticipated and frequently rumored, comes just a week after the Department of Energy closed a $465 million loan to help the Silicon Valley automaker build the Model S sedan. The company has put 937 Roadsters in driveways since starting production two years ago, but that hasn’t kept it from losing money. A lot of money. [ref]
Where can money come from?
If your startup needs to raise money, where might the money come from? Here are several common places:
- Your personal savings and/or income. You save up enough money to allow you to take time off to develop and launch your startup. Or you grow a side project at night while you are working during the day.
- A spouse’s income. Joe Colopy at Bronto has a good story about how his wife’s income allowed him to stay at home to write Bronto’s initial software. In this case it paid off – Bronto eventually was acquired for $200 million.
- Although it can be a risky strategy, a number of ventures have been initially funded by credit cards. Here are several examples.
- Business plan competitions can be a nice source of funding. At the high end, Trifusuion devices took home $400,000 in 2016 from the business plan competition at Rice university. The city of Buffalo, NY became famous for a business plan competition with a grand prize of $1 million. There are also hundreds of smaller competitions around the country every year.
- Grants from government agencies and independent foundations can be a great source of funding. In North Carolina, the NC IDEA grants give away $50,000 checks every year. Look for different grant databases to find opportunities.
- There are now Accelerator programs all over the country that provide money and education in return for a small slice of stock. Y Combinator is the seminal example, and a quick search can yield dozens of others.
- Friends and family. If you have a rich uncle or a well-off neighbor who likes your idea, he/she may be willing to invest. A convertible note can make this process fairly painless and relatively safe for the investor (keeping in mind that “funding startups” is not a particularly safe way to invest money).
- Crowdfunding places like Kickstarter and IndieGoGo have provided millions of dollars for startups, and the process is relatively easy.
- Bank loans can be helpful in some situations. For example, if you are opening a restaurant, you can often obtain a bank loan for a percentage of a building you purchase. This is a fairly standard kind of real estate transaction where the building acts as collateral to protect the bank from loss. If there is nothing to collateralize the loan, then you probably cannot get a loan from a bank, especially as a new startup.
- Angel investors and venture capital firms are the most common source of funding for startups that plan to exit for $20 million and up.
- At the high end, a company can raise a large amount of money by going public in an Initial Public Offering (IPO). The company sells shares in the public markets in return for cash. As seen above, Tesla did this to raise $100 million to scale up production.
- Organic growth out of income/profit. If your startup becomes profitable, and especially if your startup can be profitable from day 1 or 2, then your startup can self-fund its growth using its profit. This tends to be a slower growth path than, say, taking in a big chunk of money from a VC. But not always. If you have a highly resonant product that is profitable, there may be little or no need for outside funding.
Generally speaking, when most entrepreneurs think about funding their startups, they think about accelerators, angel investors and venture capital firms as the source of funding. In that order. So a startup goes to an accelerator and receives, for example, $100,000 and 3 to 6 months of intense education. The accelerator helps the startup connect with angel investors to raise the next $500,000 to $1 million in investment. The angel investors connect the startup to VCs, and the next round of funding might be $3 million to $10 million. Although much larger amounts are possible from VCs in special situations, as seen in these three examples:
- A Secret Startup In Silicon Valley Is Raising $120 Million To Make The Freshest Juice You’ve Ever Tasted
- YouTube star Michelle Phan’s beauty startup Ipsy raises $100 million
- Zume scores $48 million in funding to expand its robotic pizza empire
Let’s dive deeper into the accelerator/angel/VC pipeline >>>