You did it. You set up a company and now you’re thinking about getting investment. But the question is, should you really do it? It sounds like a great idea and all, but what type of model is best for you? How much control and equity will you have to give up? Or, should you just fund your company on your own?
First of all, getting investment isn’t the right solution for every business. And many founders seek opportunities before fully understanding what they’re getting themselves into; giving up control of their company too early, or making other mistakes like premature scaling, or overspending. Others argue it’s an important step, which will take their business to the next level – even if it means having a smaller slice of the pie. The answer to whether or not it’s for you depends mainly on your business model.
Before trying to get a meeting with any investor, do your research and make sure they’re a good fit for your business. Find a way in through referrals wherever possible – the best approach is to go through one of their existing portfolio companies and try to convince their CEO what you’re doing is worth the investors’ time.
Make sure you pick your sources of referrals wisely, as not all are created equal. Events are also a good place to connect with an investor, but make sure not to pitch right there and then. It’s important to build up a relationship before you start to pitch.
And in order to become pitch perfect, be prepared to be able to answer these basic questions about your company:
- What is your product and is there a market for it?
- Do you have a prototype of your product?
- List your competitors and how your idea is better/solves a different problem
- Is your product scalable? How?
- How are the investors going to get their money back?
- What is your revenue or monetisation strategy?
- Are you ready to hire key personnel, rent office space, launch marketing campaigns?
- Are you ready to give up a stake in your company, along with full control over things?
Still with us? Great! Let’s summarise the key characteristics of each way you can get funding for your business.
Friends and family
Usually the first investment in a business comes from members of the founder’s friends and family. These types of investments are based on personal relationships, rather than an accurate assessment of a business plan. The loans are received quickly, and terms are more flexible. However, it can put a serious strain on personal relationships, especially if the business doesn’t develop at the right pace.
Crowdfunding comes in the form of a pre-order, loan or contribution from multiple people at the same time (think Kickstarter, Indiegogo and Crowdcube). They come in different forms; you can either take a loan, sell equity or pre-sell your product depending on your needs. This type of funding can generate more money than you’re expecting, along with interest in your product, making it a good way to test the water for demand with pre-orders. It’s great, but not suitable for all types of products.
Bank loans are the most frequently sought-after source of financing. However, they are very difficult to obtain, and must be paid back (along with interest), whether the business succeeds or not – which means you could personally be liable for the borrowed money. The process is time consuming, and there are an awful lot of documents needed. Without the right knowledge, you could be landing an unfavourable deal with bad payment terms. But, on the other hand, you won’t have to give up equity in your company.
Accelerators started popping up not too long ago, causing a stir in the startup world. They provide initial financing to entrepreneurs with a space to work and guidance to help you succeed – while introducing you to potential investors. Many of these accelerators give you a specific time frame (usually 3-6 months), where you are expected to show results. But not all accelerators are the same and some startups are expected to give up a big chunk of their company.
The biggest advantage of the incubator program is the network of people you can connect with. And even though the program is only a few months long, the effect it has can last for a lifetime.
These wealthy individuals – usually established entrepreneurs themselves – can bring years of expertise to the table, funding new entrepreneurs in exchange for a share of equity in the company (we’ve all seen Dragon’s Den, right?). Investment sizes range, but it’s usually less than $1 million.
Angels can also offer guidance, an introduction to their network and as entrepreneurs themselves, they understand the level of risk they’re taking. Plus, they may be able to offer you money (or more money than banks) if they believe in the potential of your business.
However, here comes the ‘but’ – they usually have higher expectations. It isn’t unusual for angel investors to expect a 10x return rate on their original investment within 5-7 years (although, if your business fails, they won’t expect you to pay back the offered funds). They also expect to take an active part in the business, so it’s vital you make sure to team up with someone who’s familiar with your industry.
These are investor firms who are willing to invest a larger amount of money in exchange for equity. They only get their investment back once the company is acquired by another business, or it goes public, and are normally firms looking to get 5-6x their investment – so they’re all about the money. But there are huge success stories that come from VC funding, like Girlboss and Reformation, for example, who have recently made headlines.
They can provide you with expertise, open doors to their network and bring instant credibility to your company. On the other hand, they can steer the business in a direction which might not be aligned with your vision.
In some cases, you can agree to revenue-based financing (RBF), meaning you give up a percentage of your future revenue instead of equity. RBF investors tend to take on higher than average returns, as their risk is greater, making this type of investment more expensive (but potentially more accessible) than bank loans.
At the end of the day, getting a good investor on board is a lot like dating. In any personal relationship, not everyone will be a good fit, and you have to spend time finding the right partner to make sure your goals and values align, to create a match made in investor heaven.