The Cold Hard Truth About Funding Start-ups

Contrary to what a lot of people seem to believe, it is not that difficult to fund a start-up. Funding a start-up is a process.  It requires a plan and time, effort and money to execute the plan.  The process varies depending upon where you intend to procure the funds. That decision is most often determined by what sources of funding are or are not available .

More often than not the availability of funds depends upon the attributes of the company being funded.  Who you are, how far along your company is and the realistic chances for success are usually the determining factors.

If you believe the blather that successful start-ups must disrupt an existing market or must solve a problem that the market may not know it has, you are making it harder for yourself, not easier. Lenders want the loan principal returned with interest and investors want their capital returned and a return on their investment. You need to adopt that mindset if you want to attract funds.

A great many small businesses receive funds from the Small Business Administration (SBA) which has been making loans to start-ups and small businesses for decades. Like most lenders the SBA wants collateral for the loan and will review your business plan to satisfy itself that you will have the cash flow to make the payments.

The SBA will assist in the process and provides mentoring for businesses before they apply. There are also private SBA loan brokers in every major city in the US. Not every small business qualifies, but many of the SBA loan brokers will provide guidance and assistance if the company is close to the qualifying line.

Venture capital funds (VC) or angel investor groups seem to be the choice for most start-ups. VC’s can provide management and other assistance in addition to funding. The bulk of venture capital money goes into second round financing and many of the funds specialize in tech or bio-tech companies only.

Most venture funds are willing to take a calculated risk on young companies. That calculation includes their ability to recoup their funds with some type of post financing liquidity transaction, like a merger or IPO.  Consequently, a great many companies do not qualify.  In truth, VC’s only fund a very limited number of smaller start-up companies every year.

There are far more companies that are chasing venture capital than there are venture capitalists. Consequently, the VCs usually get to fund the best companies they see.

The world is full of stories of companies that pitched dozens of VCs before they got funded and even more companies who repeatedly pitched VCs and never got funded. There are a great many books and consultants who will tell you how to make your pitch better but the truth may be that your company is just not as attractive as the others competing for the same funds.

I would hope that it would be obvious that it is easier to find funding for a company with a well thought out and well prepared business plan than a for a company whose business plan looks like it was written on a napkin by a couple of drunken frat boys.

Investors will certainly want to know if your product works, whether or not it can be sourced, whether or not people will purchase it and at what price.  You can show them with spreadsheets and marketing studies or you can start selling your product and generate some revenue.  An operating company should always be easier to finance than a company that needs funding to begin operations.

This flies in the face of the idea that all an entrepreneur need do is develop a minimum viable prototype (MVP) and then shop it around to venture capitalists. I have known a lot of VC’s over the years and almost all would tell me that they fund businesses not prototypes.

Investors also legitimately want to know exactly what you intend to do with the funds that they give to you. They also want you to use their money efficiently.

Several years back I met with a young code writer who was working at one of the larger Silicon Valley companies. He and a few of his co-workers had an idea for an APP. They wanted my help to raise $1 million so that they could quit their jobs and spend a year working on it full time.  Once the APP was developed and tested they would have had no money left for marketing and no one with any marketing experience to help them.

I suggested to him that it might easier to raise the money if their plan was to have the code for the APP written in India for a lot less and use the difference to package and promote the finished product. That way he and his cohorts could keep their day jobs and they would have a sufficient monies to hire a real marketing pro to help sell the product once it was developed.

I might as well have suggested that they enlist in the Army. They wanted the entrepreneurial experience paid for by someone else.  A good VC will see through that attitude and as far as I know that particular group never got the funds they were seeking.

Crowdfunding`is the financing tool that is the foundation for my belief that funding any start-up is not that difficult. If you follow this blog you certainly know that I continue to be concerned about the absolute disregard for investors in this market. But executed correctly, a good crowdfunding campaign should obtain the funds it seeks almost every time.

I recently had a beer with a long time friend is a lot more cynical than I am.  His thought was that since you could fool some of the people some of the time, I should just embrace that fact and come around to the thinking that any start-up could get funded if it spent enough money advertising its offering in the right way.

My friend was thinking that a good advertising company could put lipstick on any “pig” of an offering and sell it to investors on a crowdfunding website because most investors in this market really had no idea what they were doing.  While I personally decline to assist bad companies looking for capital, many in the crowdfunding market will simply list any company that shows up on their website.

I have a little experience in advertising and a lot of respect for people who do it well.  Selling securities usually takes a different approach than selling a product but my friend was thinking in more generic terms.  The point here is that selling securities is often referred to as a “numbers” game.

Advertising is about “eyeballs”.  If you want to sell shares in your company to 500 people, then a lot more than 500 people need to see your advertisements for the offering.

When someone comes to me with the desire to crowdfund an offering, I always recommend that a good marketing company is essential.  Several marketing companies that work in the crowdfunding market are careful to follow the rules. Many more are not.

Whether you are selling a loan package to the SBA or equity to a VC, angel or crowdfunding audience the operable word is sell.  Selling is not free. The old saying that it takes money to make money is true here as well. It takes money to raise money.

If you want to fund a new business you should be prepared to spend money for a professionally prepared presentation. I know a company that sent e-mails and their presentation to a list of one thousand VCs and Angels six times before one responded. They then flew cross country, made a presentation and got nothing.

With crowdfunding, I again recommend that you hire someone to prepare a professional presentation, a good lawyer to help you prepare the paperwork and budget enough money to drive potential investors to your offering. If you want to raise funds for your business, it will cost you money to do so.

I speak with a lot of people who essentially bootstrap their business until they are ready to bring it to market and then seek funding. Many are stymied because they are essentially broke at this point and do not have the resources to pay for lawyers, business plans, videos and a marketing campaign.

A lot of people wring their hands and feel sorry for this group. I,however, am not among them.  I believe that any company good enough to seek funding from strangers, should be able to borrow enough from family, friends, neighbors and college roommates to pay for a campaign to raise more funds.  If your Uncle Fred who has known you since childhood is not willing to invest in you, why should you think that my Uncle Fred or anyone else’s would?

 

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