When it comes to startups, one of the most important things that you need is money. You will have to spend a lot on getting your product ready and then marketing it so that people know about it, who are willing to buy it. This is where funding can come in handy. Funding can help your startup by financing its growth. There are different types of funding available for every business depending upon their financial requirements, so no two businesses or startups will have the same type of sources for making finance available to them.
Before we move forward though the article here’s a piece of useful information on pro rata marketing for every startup owner.
Pro rata is a marketing strategy that allocates small bits of your marketing budget to new opportunities as they arise. This gives you the chance to experiment with various types of marketing and distribution channels without having to invest too much in any one area. It also allows you to adjust your messaging and marketing tactics on the fly, so you can quickly tweak your strategy when it isn’t working well.
There are primarily three types of sources that offer funds for startups – they are Debt Financing, Venture Capital Financing and Equity Financing. Here’s all you need to know about these sources:
Debt Financing is a financial transaction in which an organization receives money from a lender now and promises to repay the funds along with interest by a specified time period. In debt financing, you need not give any ownership or claim of ownership to lenders as debt is an unsecured form of finance. A good example of debt financing is bank loans.
How does debt financing work
Suppose you need $2 million to grow your startup. It is usually hard to get loans, especially for startups as banks don’t consider them risk-worthy. So, if you are able to secure a bank loan of $1 million, then the bank will give that money after verifying all your financial records and assessing your business plan. You will have to pay them back within a fixed period with interest.
Banks can be both cooperative and uncooperative in this case depending upon how well they understand your business model and what kind of management team you have in place. Banks like startups which could bring about employment opportunities for people because these businesses create jobs which help the economy grow further; the other hand there are also banks who don’t like to finance startups as they are considered higher risk and might not benefit the economy.
Advantage and Disadvantages of Debt Financing
Although debt financing can be a great way to help your startup, there are some disadvantages as well. Here’s how it affects you:
An organization has more control over its finances and can make changes on their own. It can pay off loans at any time without waiting for the lender to agree. If the company gets into any crisis and requires money immediately, then it can take out loans from somewhere else or sell off assets or shareholdings to raise cash.
The interest rates that organizations will have to pay towards loan is high and might become difficult if repayment isn’t made on time. This could result in companies shutting down, especially those who rely solely on debt finance without having another source of income such as equity or venture capital funding.
Interest rates also increase depending on the business’s age, its cash flow and other factors.
Debt financing can be used for almost any type of business. If you are planning to start your own company, then it is highly recommended that you check out loan requirements by your bank before approaching venture capitalists or equity investors for finance.
Venture Capital Financing
Venture Capital Financing is a type of funding that provides capital for startups and small businesses. Venture capitalists invest their own money in different types of projects with the hope that they will make a lot more return on investment than what they have invested. For this reason, venture capitalists do thorough research before investing anything in any company. Equity financing entails the sale of equity stakes i.e., shares of your business to investors. This is the most preferred method for funding startups because it gives the investor the right to give suggestions for company growth, future expansion plans and so on. These are some of the different types of funding sources that can help your startup grow.
How does Venture Capital Fund work?
Venture capital is a source of funding that comes from private investors. Venture capitalists do not give funds to any startup randomly; they usually look at the management team and also the business plan vigorously before investing anything. As far as venture capital financing is concerned, if your company makes it through to pitch day and impresses all the potential investors, then you will be given money for further growth of your business.
Advantage and Disadvantages of Venture Capital Fund
VCs invest in high-growth businesses and usually expect a return of more than three times their investment. The plus point is that if your company makes it big, then they will be able to get a substantial amount of cash from the sale. On the other hand, venture capital financing can be difficult to obtain because investors have very stringent requirements on businesses looking for funding. These include:
A sound business plan which must demonstrate how you are going to make a profit
Management team with experience related to the industry you are in
Experts recommend that before pitching VCs, entrepreneurs should have already raised some funds from friends and family so as not to overload VCs with too many requests for money at one time.
- Expansion of business opportunities
- Faster rate of growth for companies
- Difficulty in obtaining funds because investors have very stringent requirements.
- Investors usually expect a return of more than 3x their investment.
Equity financing entails selling equity stakes in your company to investors. This is the most preferred method for funding startups because it gives the investor a right to give suggestions for company growth, future expansion plans and so on.
How does equity financing work?
Equity financing entails selling off shares of your business to several investors which gives them partial ownership over your company and its income/losses. Since the investor now has stakes in your business, he or she should be interested enough to help it grow by offering advice on future plans and growth opportunities. This way you can increase your overall revenue. Thus ,equity financing is the most preferred method of funding for startups because it gives them more power over their company’s future and growth.
Advantage and Disadvantages of equity financing
- Gives the investor a right to give suggestions for company growth, future expansion plans and so on.
- The major disadvantage of equity financing is that you have to give up a certain percentage of your company’s ownership.
- You also lose a degree of control over your business because investors can play an important role in determining the focus and direction of your company.
Which Type Of Funding is Best For Your Startup
In this way, it does not really matter whether you choose venture capital financing or equity financing because both have their own advantages and disadvantages. In order to decide which type of funding is best for your startup, you need to consider a number of different factors such as how many investors are willing to invest in your company, what is the amount they want to invest, what percent of ownership will they be aiming for etc.
For example, if you are looking for large amounts of money then venture capital financing might be more suitable but on the other hand , if you only want a few investors who won’t play an active role in running your business then equity financing would work better.
The bottom line
Financing entails selling off shares of your business to several investors which gives them partial ownership over your company and its income/losses. Since the investor now has stakes in your business, he or she should be interested enough to help it grow by offering advice on future plans and growth opportunities. This way you can increase your overall revenue. Thus ,equity financing is the most preferred method of funding for startups because it gives them more power over their company’s future and growth.