Since there are many startup funding options to choose from it can be difficult to determine which one is right and available for your startup. Each startup funding option has advantages and disadvantages. Thus it is always a question of what you qualify for, and what you are willing to give up in exchange for funding. The infographic below, from software vendor Wrike, presents 7 ways a startup can be funded from bootstrapping to Series B funding.
These days, with the cost of starting an Internet business at an all-time low, over 90% of startups are self-funded or bootstrapped. It may take a bit longer to save some money, borrow from the 401 (K) or secure other funds, such as credit cards, to build a prototype and grow organically, but the advantage is that you don’t have to give up any equity or control at this stage.
Crowdfunding has become the newest and most successful method to get seed funding for a startup or project. Crowdsourced funding utilizes crowdfunding sites like Kickstarter, online marketing and payment strategies to help solicit money from an online “crowd. There are actually two types of crowdfunding: traditional crowdfunding and equity crowdfunding.
Traditional crowdfunding. Traditional crowdfunding operates on a reward or donation basis, whereby “investors” essentially are pre-buying a product for later delivery, are offered a discount or qualify for a reward or enticement in exchange for monetary funding without giving up any equity in the business.
Equity crowdfunding. Equity crowdfunding, allows startups to raise up to $1 million in funding from the general public via online platforms in exchange of equity in the business. Equity crowdfunding is part of the 2012 JOBS Act. The SEC, which oversees the 2012 JOBS Act, was supposed to finalize equity crowdfunding rules by the end of 2012, but recently again delayed issuance of final rules, this time to October 2015 — which means that they would be unlikely to go into effect no earlier than January 2016.
Seed funding is early-stage funding that is raised from friends and family, traditional lenders, such as banks, angel investors and lately also more and more from Seed Venture Capitalists, including mega-funds Google Ventures, Andreesen Horowitz and NEA. Seed funding often requires a prototype product and detailed business plan to get investors interested in the startup.
Seed funding by friends and family is the primary source of non-personal funds for very early-stage startups. 38% of startups raise money from friends and family in the seeding stage.
Taking seed funding from angel investors and seed VC’s means that the startup has to give up equity in the business and must present a viable business plan with revenue projections and show a willingness to work towards an exit strategy via IPO or acquisition. Angel investors and seed VC’s are typically looking for a minimum 5x return of investment with an IPO or acquisition within 7 years.
Banks, and often friends and family, make a debt investment, which requires a pay back over time with interest. Banks loans also require a proven track record, established income stream, so that the bank can be confident that the loan will be paid back, and collateral for the bank to fall back on in case payment commitments cannot be met.
Series A Funding
Series A funding typically happens after the seeding stage to scale the business and an Angel investor groups, seeding VC’s and incubators/accelerators are pursued to provide funding and advice. Raising money from these investors requires giving up equity in the business and a detailed business plan with revenue projections. Funds are typically used for hiring more staff, extending the user base and generating more revenue. Angel investment groups of local high-net-worth individuals interested in local startups and willing to syndicate amounts up to a million dollars for qualified startups, can be found in most metropolitan areas.
Incubators and Accelerators. For early stage startups, incubators and accelerators offer great ways to grow their businesses in return for equity and fees. Accelerators and incubators both offer startups good opportunities early on. Startup founders get help to quickly grow their business and they often better their chances of attracting a top VC firm to invest in their startup at a later point.
The terms “accelerator” and “incubator” are often assumed to represent the same concept, but there are a few key distinctions that first-time founders should be aware of if they are planning on signing up. Accelerators “accelerate” growth of existing a startup, while incubators “incubate” disruptive ideas with the hope of building out a business model and company. So, accelerators focus on scaling a business while incubators are often more focused on innovation.
Accelerators typically give startups a small seed investment, free resources, including office facilities, and access to a large mentor network, in exchange for a small amount of equity. A mentor network, typically composed of startup executives and outside investors, is often the biggest value for prospective startups. Y Combinator, Techstars, and the Brandery are some of the most well-known accelerators.
Startup incubators begin with companies that may be earlier in the process and they do not operate on a set schedule. While there are some independent incubators, they can also be sponsored or run by VC firms, government entities, and major corporations, among others. In most cases, startups accepted into incubator programs relocate to a specific geographic area to work with other startups in the incubator. A typical incubator offers shared office space, communication facilities, conference rooms in a co-working environment, assistance with marketing and sales, a range of experts to guide the startup with major decisions, connection to the local community and a month-to-month lease program. A good example of an incubator is Idealab.
Series B Funding
These are professional investors who invest institutional money in qualified startups, with a good product/market fit and solid business model, ready to scale. They typically look for big opportunities, needing tenths of millions of dollars or more, with a proven management and development team. Since they have a major stake in the startup they typically require a large chunk of equity, will monitor the operations and progress of the business and get involved in all major decisions to insure the investment pays off. Series B funds are typically used to grow the business further, expand the customer base, hire marketing and sales people and acquire a competitor.