Guide to Startup Funding
Securing startup funding is an essential part of launching and maintaining a successful company. Let's take a closer look at what startup funding is, how it works, and how to obtain it.
What Is Startup Funding?
Startup funding is the financial capital that you, as an entrepreneur, need to launch and grow your new business. These funds help cover costs for things like:
- Product Development: Includes research and development, prototyping, testing, and other costs associated with creating and refining the product or service the business is based on.
- Sales and Marketing: Advertising, public relations, sales team salaries, and other expenses related to acquiring customers are a major use of funds, especially for businesses in the growth stages.
- Technology: This can include everything from buying computers and software for employees to investing in major technological infrastructure.
- Hiring: Allows entrepreneurs to expand their teams by hiring skilled professionals, such as engineers, designers, marketers, and managers. This includes covering recruitment costs, salaries, and benefits.
- Business Operations: Includes costs associated with running the business on a day-to-day basis, like rent, utilities, and equipment.
Startup financing comes in various forms:
- Equity Financing: This is when investors provide funding in exchange for ownership of part of your startup.
- Debt Financing: This is when you borrow money and agree to pay it back with interest.
- Grants: These are non-repayable funds, often provided by government entities or foundations.
Startups typically go through several stages of funding:
- Pre-Seed and Seed: Very early funding to explore an idea.
- Series A, B, C, etc.: Funding rounds for startups that show high growth potential.
- Initial Public Offering (IPO): The company sells a portion of its ownership, represented by shares, to investors in the public market.
Types of Startup Funding
Startups can secure funding from several sources. The most common ones are:
Believe it or not, most startup entrepreneurs fund their own company using personal savings. Bootstrapping is definitely one of the harder ways to fund a business; however, it is entirely possible.
Essentially, bootstrapping is squirreling away money into savings, getting a side hustle, anything that will put some money in your pocket to put towards your new business venture. Once you’ve established yourself and gained some momentum, additional funding may be easier to come by.
Friends and Family
If you’ve got friends and family interested in funding your entrepreneurial goals, consider asking for a business loan to launch your startup. It is important to note with this funding source that ensuring you have a written agreement and a repayment plan is key. Otherwise, you can have a messy legal or personal situation on your hands.
Four steps to respectfully source funding from friends and family: Present your case, propose clear repayment terms, share your backup plan, then create a written agreement.
There are many platforms that offer entrepreneurs the opportunity to crowdfund their business. If you aren’t familiar with crowdfunding, it's when your business or project is funded by several individuals through donations typically made through a crowdfunding site such as GoFundMe or Indiegogo. While many people offer some type of compensation or gift for donating to fund their project, this money isn’t required to be paid back unless stated otherwise.
Venture Capital Firms
Venture capital (VC) firms invest in startups that they expect to see rapid growth, and therefore, a high return on investment. Startups that receive this type of funding are typically tech-focused. It is common for VC firms to join the board of directors, actively participate in business decisions, or be otherwise involved to protect their investment.
Learn more about how to secure venture capital funding with our comprehensive guide.
Angel investors are similar to venture capitalists in that they invest in companies that they expect to see a high ROI. However, unlike venture capitalists, angel investors don’t typically take an active role in the startup’s operation. Often, an angel investor is someone with an excess of money to spend on risky investments such as potentially lucrative startups. Companies that receive this type of funding are typically tech-focused startups that are poised for rapid growth.
Startup accelerator programs provide not only funding but also a myriad of additional benefits for startups such as mentorship and business development tools. A few examples of successful startups that have used accelerator programs are AirBnb and PillPack. The goal of these programs is to provide entrepreneurs with the tools, information, community, and funding they need to launch a successful startup.
Similar to a startup accelerator, startup incubators are designed to provide entrepreneurs with resources during the early stages of their startup, such as funding and mentorship. In contrast, startup incubator programs are centered around developing a community of support for entrepreneurs. This means that incubators are typically housed in a shared space that members pay a month-to-month lease to access; this space allows access to training, business tools, and the opportunity to develop connections with other entrepreneurs.
A startup grant, essentially, is free money to launch, grow, or maintain your startup. With startup grants, the money you’ve provided doesn’t have to be repaid. However, they often come with stipulations. By accepting the money, you agree to the terms and conditions of how the money is spent. For example, if your grant is meant to fund technological support, you cannot use it to cover payroll or other business expenses.
Unlike startup grants, startup loans are money that has to be repaid to the lender. Startup loans are typically acquired via application to a business lender such as a bank or other lending institution.
One of the most popular programs is the Small Business Administration (SBA) loan program which offers startup business loans for a wide range of purposes, including working capital, equipment, and real estate.
Another option to explore is a microlender, which is a financial institution or organization that specializes in providing small loans, known as microloans, to entrepreneurs and individuals with limited access to capital. This business loan is typically used to start or expand small businesses, cover operational expenses, or purchase equipment or inventory.
Startup Business Line of Credit
For startups that already have some revenue coming in, a startup business line of credit (LOC) is a revolving line of credit that can be used for business expenses. This is typically available only for startups that have been in business for at least six months (if not more) and currently have sustainable revenue streams. For example, if you started by bootstrapping your business, a LOC can be a great way to maintain your startup’s funding as your business grows.
Business Credit Cards
A business credit card can be used as a source of startup funding, but it is typically more suitable for short-term financing needs rather than long-term or substantial funding. It's important to carefully consider all the implications and potential risks before using a credit card for startup funding. Consulting with a financial advisor or doing thorough research can be very helpful in making this decision.
How to Get Startup Funding
Now that we know what startup funding is and the various types, let's talk about how to secure it. Keep in mind that startup funding is not a one-size-fits-all process. It's unique to each business and depends on numerous factors like your industry, business model, and personal networks. Below, we share a simplified look at the typical process:
Step 1: Calculate How Much Startup Funding You Need
Before you can look for startup funding, you need to know how much funding you’ll need. That requires breaking down all of the costs you will potentially have to start and operate your business.
Startup costs range from office supplies and inventory to formation fees and employment taxes. Every startup will have different costs depending on its type of business, location, and other factors. Be sure to verify your state and federal requirements in terms of fees required to operate your business legally.
Generally, costs are divided into two categories: fixed costs that are continuous and variable costs that change in amount and frequency.
Fixed costs generally involve:
- Other unchanging costs
Variable costs can be:
- Other expenses that will fluctuate depending on your startup’s sales.
Not only does being aware of your expenses confirm the amount of funding you’ll need to secure, it also impacts your ability to pick the right funding choice.
Recommended: Use our free Startup Costs Calculator to help you estimate the cost of launching your startup.
Step 2: Write a Business Plan for Your Startup
Your startup’s business plan is essentially the roadmap to the first three to five years of your startup’s life. Not only does creating one help you strategize and manage your company, it is essential to securing funding.
There are two types of business plans that are common for startups: traditional business plans and lean canvas business plans. Each serves a different purpose while providing similar information about your startup’s goals and intentions.
A traditional business plan is a thorough, in-depth look at what your startup is, who you are, what milestones you hope to achieve, and how you’re planning to achieve them. In addition, a traditional business plan will include financial projections, market research, and more to give you an idea of how your business will operate, as well as communicate to a funding source why they should choose to invest in your startup.
Comparatively, a lean startup canvas is a general overview of the startup’s DNA, goals, and intentions. A lean startup canvas can be just one page with concise information to give investors the basic information they need to know about your startup and why they should invest.
Step 3: Gather Required Documents
Securing startup funding, regardless of the source, typically requires several essential documents in addition to your business plan. These might vary slightly depending on the type of funding you're pursuing, but generally include:
- Financial Statements: Documents like projected revenue, balance sheets, and cash flow statements offer a look at your startup's financial situation.
- Legal Documents: This may include your business license, permits, contracts with suppliers or customers, and your Articles of Incorporation if you have formed a corporation.
- Personal Financial Information: Especially important for first-time entrepreneurs, this includes documents like your credit report, personal bank statements, and other information that can provide funders with a picture of your financial responsibility.
Step 4: Prepare Your Pitch
When looking for startup funding, having a well-prepared pitch is crucial. This is your opportunity to showcase your business to potential investors.
- Perfect Your Startup Story: Your pitch should tell a compelling story. Explain how you came up with your business idea, the problems you're solving, and how your product or service makes a difference. Investors love a good story - it can make your startup stand out from the crowd.
- Create a Pitch Deck: A pitch deck is a presentation that gives an overview of your startup. It should cover your business model, your team, your target market, and how you plan to make money. It's important to keep it simple and straightforward, highlighting what sets your startup apart.
- Hone Your Speaking Skills: Practice your pitch until you can deliver it smoothly and confidently. Remember, it's not just about what you say but also how you say it.
- Expand Your Network: Attending networking events, startup meetups, and industry conferences can give you opportunities to practice your pitch and get valuable feedback. It also increases the chances of meeting potential investors. We recommend reading our guide on building a strong VC network.
Remember, confidence and clarity are key. Investors want to see that you believe in your business and have a clear plan for success.
Step 5: Choose the Right Funding Source
When choosing a funding source, consider the following factors:
- Control: How much control are you willing to give up? Some funding sources like VCs may demand a say in your business decisions.
- Risk: Consider the level of risk involved. For instance, taking out a loan involves the risk of going into debt.
- Scale: Think about the scale of your business. If you plan to grow quickly and globally, venture capital might be a good fit.
- Stage of Business: The stage of your business can affect your funding options. Early-stage startups might rely on bootstrapping or friends and family, while more established startups might attract VCs or angel investors. Learn more about when to raise outside funding.
Choosing the right funding source is an integral part of your entrepreneurial journey. While it's not always a straightforward process, with research and patience, you can find the source that best aligns with your startup's needs.
Startup Funding Summary
Whether you’re launching a startup or looking for ways to fund a growing business, securing funding for your startup can be a stressful process. However, with an extensive list of startup funding sources available, finding the right funding is a manageable aspect of starting or maintaining your company and working toward achieving your entrepreneurial goals.
Startup Funding FAQ
What is startup funding?
Startup funding is the money used to launch, grow, or maintain your startup company. There are a variety of sources available such as small business grants, business loans, investors, and more.
How does startup funding work?
Depending on the type of startup funding (e.g., investor or bank loan) you receive, you may be required to pay the money back incrementally, or for startups geared towards rapid growth, to simply provide a high return on investment for your investors. Most often, you will need a detailed business plan and to complete an application process of some kind to obtain funding.
How do startups get funding?
The process of obtaining funding varies depending on the source of funding. For example, startup grants have different steps and qualifications to receive funding than venture capitalists will require. There are, however, two things you’ll need to do to gain startup funding: write a well-crafted business plan and research the applicable funding options for your startup.
Can you get funding with just a business idea?
There are certain grants and other funding opportunities that fund startups solely based on an idea or concept. However, more often than not, you will need to develop a business plan before applying for funding.
How do you calculate startup costs?
You’ll need to make a list of all of the expenses you can expect to pay to start and operate your new business. These can range from office supplies and inventory to formation fees and employment taxes. To make it easier, we recommend using our Startup Costs Calculator to calculate your startup costs for free.