17 June 2022
Any startup takes hundreds of hours and a lot of effort to put the idea into practice. And, of course, it requires having sufficient funds to develop a project of any scale.
But there is good news for startup founders: the global venture capital investment level continues to skyrocket. For instance, in 2021, this figure reached $628 billion. Therefore, you should learn more about ways to gather funding for startup businesses and who can put the money into your project.
How Does Startup Funding Work?
A company’s representatives or founders go to a specific individual (or group of people) to obtain funds for new business development. When someone invests in a small business, they expect to make a significant profit in the long term. In return, this person or group receives shares and the right to decide on actions that can affect the company’s performance.
Startup Funding Rounds
Searching for extra capital can be a confusing process. Let’s look at all funding rounds explained and their meaning for all stakeholders.
Pre-Seed
During such a crucial investment round, founders aim to build their companies. Founders and investors sometimes refer to it as a “friends and family” round because you can get funds from native and close. The pre-seed stage also includes money from personal savings and other entrepreneurs.
The duration of this round depends on the interest in the initial business idea (from several months to several years), and the total amount of attracted investments can reach $100,000.
Seed
When you reach this stage, you have an actual business with customers interested in your product or service. Then, the company offers shares in exchange for large seed investments. Raised funds are usually allocated for:
- Product launch.
- Marketing activities.
- Hiring new employees.
- Market research on product/market fit.
This funding round is available to businesses with capitalisation up to $6 million. Investors are ready to take risks, so they put money into several companies. If successful, you can gather additional startup capital for a small business.
Series A
When preparing for this investment stage, you need to have an MVP (minimum viable product) and an initial client database. Plus, venture capitalists (VCs) come into play here. It is noteworthy that some of them invest at the previous stage ($100,000-$250,000), but often VCs decide to invest even more money in Series A. The reason is simple: it guarantees a massive profit. Angel investors also participate in Series A but have less power than during the seed round.
During Series A, investors get the company’s preferred shares. It means that stock gives benefits over common holders (e.g., priority for payment of dividends). Preferred equity also involves an asset protection system in case of a decrease in the stock value and specific approval/veto rights over the following investment rounds.
Equity is the remaining value divided into many equal parts owned by the shareholders.
Series B
Aside from the alphabetical component, B means “building.” Thus, Series B takes the startup to the next market level.
When the project reaches this round, each investor has a far greater view of startup prospects, so they put money to help it expand in marketing, sales, development pace, maintenance and human resources to realise that vision.
Besides, venture capitalists from previous investment rounds often invest more (optionally), and the later-stage investors might also join the game.
Series C and beyond
The Series C investment round aims to achieve a specific goal in the project development process. They allow startups to increase capitalisation, enter new markets or acquire other companies.
All individual VCs and venture funds participate in this stage because the project has a more stable market position. Venture capitalists expect to make a massive profit and put money into another company or group of them.
Mezzanine Financing & Bridge Loans
During this investment round, founders look to expand their project significantly and keep the regular income. Investors expect to look at the clear roadmap of getting revenue in the shortest possible time.
As with Series C, the funds acquired will be used to expand the product to new markets, buy new companies/businesses or prepare for IPO. For instance, mezzanine financing can cover the VC’s expenses for going public. When the project becomes profitable from the initial public offering, the mezzanine investor can get the return on investments with interest.
Mezzanine financing is an option that places between (less risky) senior debt and (more risky) equity and has both debt and equity features. A bridge loan is a form of short-term collateralised financing that allows companies to borrow funds for up to 12 months.
IPO (Initial Public Offering)
Not every startup has this as the end goal. But if startups looking for funding have successfully gathered money during the previous investment stages, the IPO allows your business to grow further. The funds received will be used to attract highly qualified talents and turn the startup into a full-fledged company.
Each investor who received the company’s shares during the previous rounds will be able to sell shares at the beginning to recoup their investment even further. However, some people can keep their equity and wait for a higher price.
When you decide to realise your business vision, it would be better to look for sound advice. Learn more about the actual and profitable business niches here.
Startup Funding Sources
Every startup has an innovative idea that can make the world better, but each founder has to be resourceful to finance the project. Let’s consider five investment sources for startup financing.
Personal Savings
When you decide to put your hard-earned money into a small business, you should answer two questions:
- How much money do you currently have?
- How much savings are you ready to risk?
But not every entrepreneur has sufficient funds, so they prefer OPM (other people’s money) options. The following sources belong to them.
Business Loans
This type of financing is also widespread among startup founders. They ask financial institutions for money and agree to pay the interest and the principal. In this case, business owners can choose from the three following loan options:
- Personal loan.
- Business loan.
- Loans for the property buying (real estate, hardware, etc.).
Your main task is to prove your solvency and the project’s innovativeness. Moreover, the financial organisation checks your compliance with the requirements (documents, collateral, credit history, etc.). If the bank or credit institution approves your loan, you can add this money to your startup capital.
Friends & Family
This option is also referred to as “love money” since you gather funds from your loved ones. Your friends and family can finance your project in three possible ways:
- Debt.
- Equity.
- Hybrid option (for instance, sales interest).
Moreover, convincing your nearest and dearest is much easier since they trust you. But you have to weigh the risks regarding the possible loss of money.
Angel Investors
We are talking about the people of extreme means who invest in startups for equity. As of now, there are over 250,000 individuals in America who put their money into 30,000 small companies yearly.
Such investors are mostly entrepreneurs, senior managers and other big-time people who can finance ideas they believe are prospective. When looking for an angel investor, you should have high networking skills.
Venture Capital
This excellent funding option for startups is suitable for companies that expect to grow even more. Individual capitalists and funds have extensive expertise in business management. Therefore, they play a massive role in defining clear objectives to turn the former startup into a successful company.
VCs put money on small and medium businesses that are ready for the IPO or acquisition by a strategic partner. In particular, they look for companies that have all the necessary to become unicorns in the following years. Further, VC firms conduct a lengthy (up to 3 months) process of picking the most prospective businesses to invest in.
Unicorns are companies with capitalisation of $1 billion and more without going public.
Conclusion
There are no standard ways to gather money for startups. Some founders have to attract outside startup financing, while others need a business loan to achieve higher income and ensure continual growth. Therefore, it would be better to look for qualified assistance. At Rocketech, we share our business expertise, in addition to building cutting-edge projects. If you have an idea and want to turn it into software, we can help you in this case. Our dedicated team will create a digital product that can make money and lead your business to new heights. And if you are ready to get the best working experience, contact us now.