Finding the money
The circles of financing diagram illustrates the way many entrepreneurial ventures are funded, starting small in the center with small amounts of funding from savings, family, and friends, and growing to larger funding amounts from IPOs and venture capitalists. Let's discuss each option starting from the center.
Concentric Circle of Financing
Many entrepreneurial ventures start small, using personal savings, perhaps even as a hobby where intrinsic reward is the main goal. Family and friends sometimes see potential in an idea or product and want to help with financing, either by lending or investing. But when the entrepreneurial effort reaches a point where capital investment is necessary beyond these sources, where do you go for funding?
"The money...to get started is often people's big road block."
Peggy Hart Earle describes how she started her childrenswear company, Hartstrings, with a small amount of money that she used for fabric.
Establishing a line of credit for your business is a good idea. This separates your business expenses and profits from your personal assets. Even before you choose and set up the legal form of your business, you can establish a business bank account and credit card using the business name. This is an important first step for accounting purposes and for eventual business loans and lines of credit.
Look for a local bank that is committed to small business development. You can build a relationship with a bank through a business account and demonstrate the timely payment of your credit card accounts.
As your business grows and you are ready to pursue a business loan (a set amount of money) or a line of credit (borrow money as you need it to a set maximum), your financial relationship is already established. Some local banks and credit unions have micro-loan programs for new entrepreneurs, with good rates and payment policies.
The U.S. Small Business Administration (www.sba.gov ) offers a variety of small business loan programs that target specific potential business owners, such as women, minorities, and special industry sectors. Its Small Business Innovation Research and Small Business Technology Transfer programs (www.sba.gov/sbir) support research and development of technology innovations with strong potential for successful commercialization.
Some communities have economic development grants and support systems that help small businesses begin and grow. The local chamber of commerce or the mayor's office are good places to start identifying these programs.
Angel investors are usually identified through business networks. They are often wealthy people who give entrepreneurs money based on their belief in the idea. They almost always want their money back, usually with interest or partial ownership in the business. Inc. magazine published an article on how to find angel investors and available online directories.
Venture investors can be individuals, institutions, or corporations and their investments can vary from $5,000 to millions of dollars. Venture capital firms pool the investments of a number of members and then invest in a number of high risk, potentially high-growth start-ups. Only 10% of their investments are expected to be successful, but these are expected to make 40% or more interest on the firm's investment, usually within 3 to 8 years. Venture capitalists negotiate a contract based on interest and share of the business. The potential for big sales and high growth are necessary to be competitive for these investments, making this a viable alternative for later-stage entrepreneurial projects.
Going public (IPO - initial public offering) by selling stock is another approach often used after establishing a solid relationship in the market. Business owners usually retain majority shares of the stock after an IPO. In this way, the original owners can take some of the capital out of the business, but they give up some autonomy in the transaction. A public company is held accountable to and must report to its investors or stockholders about the company's successes and challenges.
There is no one answer to the question of funding.
- First, decide how much money you need for your business idea.
- Then, conduct thorough research about your funding options and the specifics about investors' requirements.
- Finally, consider which of your funding options is compatible with your personal and business goals.
1. When should you set up an account for your business separate from your personal assets?
2. What are some differences between a credit card, a bank loan, and a line of credit?
3. Compare the advantages of angel investors and venture capitalists.