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Hi, I'm Laura Huang, Professor of Management and
Entrepreneurship at the Wharton School.
And today, we're going to be financing pathways.
Early stage ventures often need extra cash to fund their expansion.
But it's tough to get this funding because they don't have enough of a track record.
Over half of all startup founders actually say that a lack of financing is
restricting their ability to grow and have growth opportunities.
So today we will take a look at the different ways that a business can raise
money from loans and crowdfunding to angel investors and venture capital.
What entrepreneurs want to do is explore all the funding options available to them.
To begin with,
you want to remember not to discount any options before exploring them.
For example, many entrepreneurs may assume that government grants
aren't actually an option to them.
And although government grants are indeed mostly for
nonprofit organizations, some are available for businesses, too.
For example, entrepreneurs can look at SBIR funding,
which provides lots of small grants to entrepreneurs.
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State and local governments also have a number of different programs.
So, if you check local government sites as well as the federal government site
You may have access to some grants that you didn't think were available to you.
You will also want to look within your own social networks.
Remember that 72% of small businesses have first raised money from family and
friends.
When you do so you want to make sure that you keep these arrangements as formal as
possible to avoid misunderstandings, even though these are your friends and family.
Sites like LoanBack.com can help you create these sorts of agreements,
which also include full repayment schedules, and other useful tools.
So, one financing pathway is to fund it yourself.
You can consider using your own personal resources.
Self funding is a great option if you do have the money available.
Many people do this and
fund the business themselves, both through savings or credit.
For example, Mark Zuckerberg and
Eduardo Saverin started Facebook with their own personal funds.
One good reason to consider self funding is that it can get the business to a point
where outside investors feel comfortable investing.
However, this is not always an option if you don't have the funds available.
And it's not always a great long term strategy.
The second financing pathway is to get a loan.
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Loans might be hard without a track record.
However, it's not impossible.
It happens often whether through banks, credit unions or Or other sources.
If you can afford repayments, debt or loans are a great way
of raising funds without giving up any ownership stake in your business.
The key to getting a loan is putting together an impressive proposal.
Here you want to anticipate the loan officer's questions and concerns and
what you're trying to do with the business.
You want to address them up front, presenting your business as a solid and
safe investment.
Make sure to give detailed views of your financing, strategy, and
your repayment plan.
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There are also a number of loan programs through organizations like the SBA, or
the Small Business Association, where you can get general loans or
more specific loans and they often support particular groups like veterans or women.
A third financing pathway is crowdfunding.
Although crowdfunding has been discussed a lot recently,
it is not an entirely new concept.
For example the pedestal for the Statue of Liberty
was largely crowdfunded by individual contributions from 125,000 people.
We've heard about it a lot more recently because technology has really helped to
enable Internet based crowdfunding as a viable source of funding.
The way that crowdfunding works is that you state how much funding you need and
what you need it for.
People view your concepts and your pitch, and can contribute money.
A couple of sites that you can do this through include Indiegogo, Kickstarter,
and Crowdfunder.com.
There are also a number of sites internationally
that you can do this as well.
One advantage of crowdfunding is that you can also win new fans for your business,
but you do need a compelling story and be able to offer great rewards.
Another financing pathway is through angel investors.
Angel investors are independently wealthy individuals who invest young promising
companies.
They're regular investors looking for profits.
There are number of angel investor that belong to local networks.
So, you can find them within the networks so also individually.
Angel investors invest anything from a few thousand dollars to a few million.
And some advantages of these angel investors are that they may invest when
others won't, especially at the early stages of your company.
And they are usually experienced business people who can help you with mentoring and
other resources.
Another financing pathway is venture capital.
Venture capital funding is money that is given by a company, not an individual.
And it is usually at a slightly later stage than angel investors.
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VC money can really fuel your business's growth and help you grow in scale, but
you will lose some control, as a VC likes to ensure the business is making
all possible choices to secure a return.
We also have private equity as a financing pathway.
Like VC firms, private equity companies will invest in your business in return for
a share of ownership.
These firms will invest in a wider range of businesses as well as older,
more mature, companies.
They tend to make larger investments as well as taking larger stakes and
they're usually orientated at turning around failing businesses, or
achieving rapid growth but they always take control.
Finally we have IPOs, when a company sells shares to the public.
The advantages are that with potentially millions of people to buy shares,
a business can raise serious amounts of cash.
Usually this is for businesses at a much later stage, and
there are disadvantages of going the IPO route.
These include a loss of autonomy, the cost of meeting regulatory requirements
as well as including a very complex process.
We're going to look at most of these financing options in a bit
more detail now.
As we look into these financing pathways it's important to keep in mind that
each option has its own advantages and disadvantages.
Let's take a closer look at first self-financing.
Self financing is often referred to as bootstrapping,
which refers to the famous saying about pulling yourself up by your bootstraps.
Some things about financing from your own pocket, or self-financing,
you want to think about a number of different options such as your savings,
personal debt, friends and family, as well as business cash flows.
Lets start with savings.
You want to make sure that you have a healthy savings account before you
go this route.
If you like to, you can tap your own retirement funds
if you're meeting certain criteria that will allow you to do so.
The pros are that there are no costs, except for loss interest.
However you're going to risk relying on your own savings, and
it may not be enough.
Then we have personal debt.
This can range from using credit cards, to refinancing your mortgage to
taking out a home equity line of credit and other forms of loans and debts.
Some of the pros are that it's easy if you have a good credit.
However you want to used this with caution as interest rates may rise and
you want to make sure that you can pay this debt.
Then let's takes friends and family.
This includes going into partnership with friends or family members and
relying on their funds to put into your own business.
The pros are that they trust you and
you trust them and they're people that you already know.
The cons are that it can put a strain on the relationship if things don't go
as planned.
Finally let's take business cash flows.
This can be a great way to put more money into your own company.
This includes profit and cash that have already been generated by your business.
Its low risk and low cost.
However it does require that your company is already profitable enough and
it may not be enough and it may not be enough to drive fast growth.
Next let's take a closer look at some of the strategies for doing so.
You want to make sure you're setting parameters and
thinking about your own salary, your own relationships with your friends and
family, and making it clear who owns what.
As we mentioned before, you want to make sure that there are formal agreements with
terms that everybody has signed.
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You want to also consider worst case scenarios,
such as longer product cycles and failures that you may not anticipate.
And finally, think about other creative strategies to stretch your resources as
long as possible.
There are lots of advantages to self-funding, but also some disadvantages.
So think about things such as personal risk, the network that you're going to and
the sorts of growth options that you might be facing.
Next let's move to debt and borrowing.
The four types of things you might want to consider with debt and
borrowing include bank loans, government batch loans, business credit cards,
business lines of credit and factoring.
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However it may be hard to get approval and it may be more timely than you anticipate
and the bank will often ask for personal collateral.
Next, government backed loans, such as SBA loans, can really help you get started.
You still borrow from banks and other private lenders, however,
the SPI guarantees these loans, making the credit extension process easier.
An important con, however, is that upon default, the bank will collect whatever it
can get and the government tries to help with the rest.
Third, you can try business credit cards.
This can be a convenient way of getting short-term access to funds and much more.
It's easier than bank loans, but it may be dangerous to let balance build up, and
you may be facing high interest rates.
There's also business lines of credit, where you're borrowing fixed amounts and
can access funds any time up to an agreed amount.
The rates are often better than credit cards, and business assets are used as
collateral, and you're also paying interest on money used.
However, it may be dangerous to let balances build up.
Finally, think about factoring, where you're leveraging your own sales
where revenue has not been realized as a way to advance your funds.
This can be a great short term solution, but you'll need to look
at other options if you want to fund your fund your business for the long term.
Some strategies to think about are to take a broad approach.
Approach different banks and see if you're eligible for SBA programs.
You may also want to go smaller and ask for smaller amounts first,
if you're not successful.
Also be careful what you commit to.
Most loans will require some sort of collateral guarantee and
you want to make sure you're comfortable with those sorts of collaterals.
Finally, don't go into a loan, take advantage of none profit groups.
Take advantage of other resources to help small business owners and
remember that this maybe difficult to acquire and costly to repay.
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Okay, now let's take a closer look at Crowdfunding.
Technology advancements have really created a viable funding
option to Crowdfunding.
With crowd funding you put your idea on a Crowdfunding site.
You explain how much money you need.
What the funds are for and what's your offer in return?
You are providing information and inspiration to people who will then pledge
money to the campaign and then you will receive those funds in return.
In terms of the pros and cons of the crowd funding, there are number to consider.
First, you'll be creating fans, this can help for
future customers as well as for funding.
This is both a funding and a marketing campaign rolled into one.
If you do it right, you're raising money and building awareness.
Unlike some of the other options,
Crowdfunding is also available via the crowd and to many different people.
You just need to invest the thought and time.
You're also able to get some information about your own social proof.
If you're able to convince thousands of people to invest,
perhaps you really are onto something.
And finally you're getting very quick feedback,
where as normally companies will spend lots of time and
money on focus groups and other testing, Crowdfunding provides immediate feedback.
However in terms on cons,
successful Crowdfunding campaigns will take a lot of time.
You'll be investing lots of time, thought and
energy that will take you away from your core business.
You may also be receiving limited funds.
Most campaigns raise less than $10,000 and very few raise more than $1,000,000.
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Crowdfunding is also limited to the type of idea, or product, or
service that you have.
It only works for some ideas, and not all ideas are great for Crowdfunding.
Finally, you're often going for broke.
Depending on the Crowdfunding site, you're usually setting a goal, and
you must raise the full amount or you get nothing.
In terms of Crowdfunding strategies first think about rewards or equity.
You'll be offering either rewards or equity to your funders.
Rewards are great if you have an offering that can really inspire your customers.
Equity however might give you more access to funds.
You also want to start early.
Get backers before you even sign onto your project so
that you can make sure you're offering things that people want.
Third, make sure you're setting modest goals so you get what you need, but
don't end up with nothing, and finally make sure you're around everywhere.
Good campaigns generate buzz and
you'll need a strong listing which means you're really putting in the effort,
especially for the first month to the first two months.
Next we'll take a closer look at Angel Investors.
Angels are people with money that invest in small businesses and
they are usually wealthy or successful prior entrepreneurs.
How it works, is that a angel investor will invest on agreed upon amounts and
they'll get a share of your business.
For angels, they are really looking for a significant profit.
Looking for things called home runs, which are in the order of 10x returns.
Because angels are investing and looking for high growth in young unproven
companies, they often invest in technology in high growth, high scale companies.
But they're also widening their net to look at things like,
healthcare, energy, and other sorts of businesses.
Angels take immense risk.
If the business fails, they risk losing all of their money.
They're located all over the country and outside the United States, too.
In terms of angel investors, they're widely available.
They often provide a step when others don't.
They want to get in at the early stages, they're also very flexible.
They're much more flexible with their investment amounts
as compared with Crowdfunding and other types of investments.
They also have extensive networks for
which to help with resources and other things that you may need.
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However, keep in mind that angels have high expectations and
that you may be giving up some sort of loss of control.
There also may be limited funds and
you'll have to continue doing fundraising in the future.
In terms of Angel Investor strategies in approaching angel investors,
first let's look at finding an angel.
One way to find angels is through web platforms such as angel list,
funder clubs, and others.
Angels invest locally for the most part.
They want to know the company they invest in, and
they'll often come in and physically be there.
Most cities have local angel networks where you can check out and
the Angel Capital Association has a lot of information on local angel networks.
You can also look for local business people and
network with people that might want to invest.
In terms of pitching to angels,
you really want to know what the angels are looking for.
Show strong growth prospects, but don't overdo it and
make sure you're being realistic.
Show how you think you can make the money and the best and worst case scenarios.
You can also provide lots of compelling information for
which to backup your assumptions and your data.
And also, think about providing an exit strategy, so
Angels know how they might exit.
Finally in terms of working with Angels,
you need to know how you're going to work with your Angel.
Think about how much face-to-face time you'd like to have with the Angel, and
how much face-to-face time the Angel would like to provide to you.
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We'll now move to VC funding.
Venture capital funding, or
VC funding, is similar to Angel investing with a few significant differences,
mainly that the VC is usually a company and not an individual person.
The funding amounts are much higher.
It can be anything from $2 million to $10 million and upwards.
And they're also looking for a 10x return over a small-time period,
usually around 5 to 8 years.
For VCs, they're typically raising money for a specific time period and
investing in a portfolio of companies.
Popular areas for VCs include software, Biotech, Energy and
Medical, and other industries that are looking for large infusions of cash.
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Let's take a closer look at VC funding and the pros and cons.
Some of the pros include high growth.
VCs are really looking to grow and help you grow your organizations.
It's also not a one-time investment.
There are often be follow-on rounds, and
you can raise larger amounts of money from VC's multiple times.
VC funding is also not a loan.
There's no repayment to VCs and there are no personal guarantees.
And finally, VCs have strong capabilities, and they can
provide a lot of resources and information to help you grow your business.
In terms of cons, it can be, especially, difficult to raise funds from VCs.
They'll often control spending.
They're writing very big checks, and
they want to make sure the money isn't spent on low value add activities.
You'll also have some degree of loss of control.
Due to the agreement that you sign,
you're usually giving the VC some sort of control of your company.
And finally, there may be conflict of interest.
So, you want to think about your own time tables and your own strategies for exits.
In terms of strategies and
finding a VC, you want to make sure you're approaching several funds.
Think about the fit between your own company and
the type of VCs that you're approaching.
As you're making the pitch, you want to remember that these VCs are often hearing
thousands of pitches, so make sure that you're tailoring your message to
the particular VC that you're pitching to.
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Working with the VC entails making sure that they're interested and
that they stay interested.
It's important to set the valuation correctly,
which we'll talk about in another course.
Once agreed, a term sheet is usually created, and
this lists the agreements key points.
A VC will also do due diligence where they investigate your company in detail to
check out that all the information you provided is accurate.
Money might also be divided into tranches,
which are portions of money that are gradually given to you depending
on whether you're meeting your targets and your milestones.
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Two other options that are relevant for
larger firms but not necessarily smaller firms are private equity and IPO.
So, we'll only touch upon this briefly.
Private equity firms focus on more mature firms, and they're typically large deals.
This option is structured differently, and
PE firms expect a large stake in the business that they are investing in.
IPOs refer to the process when a private company changes to a public company.
In terms of public, this means that anyone, people or companies,
can now buy shares via public means such as brokerage accounts.
IPOs also allow companies to raise money, but this time for a larger audience and
at a much later stage.
To summarize, there are many different financing pathways available to you.
You can look at self-funding, relying on debt, crowdfunding,
Angel investors, and VCs.
It's important to think about which might be the best match for your company and
consider how you'll find the type of financing you've chosen, the strategy for
managing this type of financing, and how you'll use it going forward.
Thank you for joining our session today.