Having a great idea for a business is one thing. Getting the financial backing to grow, scale and make it a success is quite another.
Most entrepreneurs approach funding in stages, starting by dipping into their own savings, going cap-in-hand to friends and family, taking advantage of government grants, crowdfunding and potentially seeking angel and venture capital.
The best funding option depends on the business, its track record and growth plans. Some companies stay self-funded forever, while others need the capital injection and expertise from outsiders. Getting the right investment, in the right sums at the right time can often make the different between a startup’s success or failure.
Techvibes has put together a list of common investment options for startups, and pros and cons for each. It will cover the following:
- Bootstrapping
- Government grants
- Angel investing
- Crowdfunding
- Equity Crowdfunding
- Venture Capital
BOOTSTRAPPING
Bootstrapping is a term used in startup circles for companies that aim to grow the business using their own money — either from savings, getting a loan or line of credit, or using credit cards — instead of bringing in outside investors. The term stems from the old saying “pull yourself up by your bootstraps,” and reflects the grit and self determination it takes to start your own company.
Most entrepreneurs begin with bootstrapping to prove their business model and get it off the ground. A few examples include Toronto-based fintech Overbond, Vancouver-based digital production firm Thinkingbox, and Toronto-based real estate listing website BuzzBuzzHome.
“We really believed that if we took funding too early we’d be selling ourselves short,” BuzzBuzzHome cofounder Matthew Slutsky told the Globe and Mail.
Some investors remain self-funded, while others eventually need the cash injection to fuel growth and potentially tap into expertise from entrepreneurs and investors who have been in their, um, boots before.
Below are the pros and cons of bootstrapping your business.
Pros
You call the shots: “By self-funding, you answer only to yourself,” Chen Levanon, CEO of bootstrapped startup ClicksMob wrote in an article for Women 2.0.“This provides a wonderful ‘foundation of freedom,’ allowing your leadership to set your agenda autonomously, choosing everything from your direction to when to be acquired… to if you want to be acquired at all.” Bootrapping also allows you to preserve value in your business and build it in your own time.
Focus: With other peoples’ money often comes a need to focus on their needs and expectations. When you self-fund the business, you can focus on which direction you want the business to go, and what your customers want — because they’re usually right.
Frugality: “You can’t waste what you don’t have,” says Karl Ulrich, vice dean of entrepreneurship and innovation at the Wharton School of the University of Pennsylvania, notes in this video. The more focus you have on the bottom line in the beginning, the better chance you have of retaining strong margins in future.
Motivation: When your own money is on the line, chances are you’ll work harder, longer and do just about anything to make your business work. The reward can be sweet, Jack Horton, founder and CEO of UK-based Whites Group, wrote in BusinessZone. “Without investors as partners, every ounce of blood, sweat and tears put into a business in order to make it excel, can be realized in profits once the business hits its stride,” Horton says. What’s more, if you sell, that means more profit in your own pocket.
Cons
Less money to work with: Assuming you business is good enough to attract investors, you may be missing out on opportunities to scale with an extra cash injection. That includes money to advance research and development, boost marketing efforts or hire top talent.
Smaller network: We’ve all heard the saying, “It’s not what you know, but who you know.” This is especially important for entrepreneurs looking to build their business. By going out and raising money you’re automatically broadening your network. Even if an investor says no, they may turn out to be invaluable advisor to the business, or better yet, they might know other investors willing to bet on your company.
More street cred: Who’s behind your company could be just as important as the product or service you provide. For example, a company like robo-advisor Wealthsimple, may be more attractive to some investors (and consumers) because they’re backed by big-name investors like Joe Canavan and financial services giant Power Financial Corp.
“Not having outside investors may hurt your company’s credibility in the beginning,” says Levanon of ClicksMob. “Who are these new kids on the block and why do they think their product will be better than others in the same space? Backing by well-respected, credible investors gives many potential customers the confidence to buy in. Self-funding may also highlight a company’s lack of resources and business experience.”
Takeaway
Some businesses can’t be bootstrapped, notes Ulrich. He cites examples of drug companies that need to fund research to advance products. Other may never need an outside investor.
For most businesses, Ulrich recommends a hybrid approach.
“Get as far as you can on your own. It’s amazing what an resourceful entrepreneur can do with nights, weekends and a credit card,” Ulrich says. “Once you’re confident you can productively invest capital to grow you business. Then and only then, seek outside investment and hit the gas on marketing for growth.”
GOVERNMENT FUNDING
The nice thing about having a startup is that governments want to help. You can argue with that statement all you want, but how else can you get free money to start your company?
Government funding can come as a grant, which you don’t have to repay, or tax incentives, which are a deduction to help encourage spending and investment.
In the U.S., startups can apply for the Small Business Innovation Research (SBIR) program, which supports technological innovation and R&D. There are also funding options as part of the White House’s “Startup America” initiative, which expands access to capital for high-growth startups. This site helps you search for federal grants, based on your industry and/or market.
There are a number of grants and tax incentives available for startups across Canada. Here’s another list here. The most cited include the Scientific Research & Experimental Development (SR&ED), which promotes research & development, as well as the Industrial Research Assistance Program (IRAP). Others include the Futurpreneur Canada Start-Up Program, the Western Innovation (WINN) Initiative in Western Canada, the Investing in Business Innovation fund in Ontario and the Atlantic Innovation Fund in Eastern Canada, to name just a few.
Of course nothing in business is really free, so below are the pros and cons to consider when looking at government grants and other funding sources to help grow your startup:
Pros
Free money: Enough said. “In principle, it’s an amazing thing,” says Yuri Navarro CEO and executive director at the National Angel Capital Organization.
Less pressure: Unlike money you might get from your parents, friends or big-name investors, the government isn’t looking for a return on their money – at least not on paper. It can take some pressure off of your business, while still knowing someone is willing to make a bet on your success. “They’re able to take a risk a bank or maybe an investor wouldn’t … especially in the early stage,” Navarro says of the government grants.
Money attracts more money: If the government is giving you money, you must be doing something right, right? That’s at least the impression from potential investors. Receiving government funding is a good thing to have on your business resume.
Foreign investors in particular are familiar with grants such as SR&ED and IRAP, which could mean more outside money and even connections to international markets. You might even get more money from the government. “Once you are granted money from one government source, it’s not uncommon to receive further funding from the source if you meet program requirements,” BDC says on its website.
Cons
Narrow focus: Most government grants have very specific criteria. So while there may be a lot of them out there to choose from, your startup may not qualify either because of where you’re based or your product or services. You may be too early stage, or even too far along in your business to qualify for a grant. Read the fine print before wasting your time applying.
Strings attached. Just because you have the money doesn’t mean you can spend it however you want. Some grants and other incentives are specifically for R&D or to hire employees. Startups may also be forced to pay back the money, or could lose a tax incentive under certain circumstance.
Take a grant for example: “Technically, a grant is a sum of money conditionally given to your business that you don’t have to repay,” BDC says. “However, you’re bound legally to use it under the terms of the grant, or otherwise you may be asked to repay it.” An example could be if you sell the company to a buyer outside of Canada. Know what you’re getting into before you take the government’s money.
It can suck up a lot of time, energy and patience: If you thought getting into university or finding a daycare space for your kid took perseverance, you might want to brace yourself for the government grant process. Think paperwork, interviews and more paperwork. Then plan to wait for what might seem like forever to hear back on whether you get the money.
It’s not that it’s not worth it, but startup founders should consider how much time and energy the want to put into applying for grants against how much it would take away from the job of growing the business. Time, after all, is money.
Takeaway
Government grants are a great way to get money to grow your business. However, be strategic about which grants to apply for, how much time you’ll spend on the process (and outside of your daily operations) and what the consequences might be if your business backfires, changes course or even if becomes wildly successful.
ANGEL INVESTING
The term “angel” was first associated with funding decades back when, as the story goes, it was used to describe wealthy people who provided financial backing for Broadway theatre productions. Then, in the late 1970s, professor William Wetzel, founder of the Center for Venture Research in the U.S., used the term in a pioneering study on entrepreneurship to describe investors that gave seed capital to startups.
Angel investors remain a godsend for many startup founders to this day. These are private and by law accredited investors who invest their own money into a company in exchange for ownership equity or convertible debt. The accredited investor exemption allows startups to raise any amount from qualified investors (see accredited investors link above). “In addition to the accredited investor exemption, there is a separate exemption that is specific to non-arms length relationships (family and friends),” says Yuri Navarro, CEO and executive director at the National Angel Capital Organization (NACO). “This means it’s not illegal to take money from your dad if…