3 Alternatives to Venture Capital Funding for Startups Here are three alternatives to venture capital funding for your startup.
By Roy Dekel Edited by Chelsea Brown
Opinions expressed by Entrepreneur contributors are their own.
Whether you want to change the world or just be your own boss, the entrepreneur bug is spreading fast. Bootstrapping is a noble cause, but an infusion of capital in any business venture will help a company scale, gain credibility and even tap into resources beyond money. It is no secret that startups and small businesses have difficulty accessing venture capital funding. Even though venture capital funding is seen as an early-stage investment opportunity for small businesses, it's not generally recommended as an option, since the expectations of venture capital businesses don't naturally align with those of the startup's founders — due to the "burn and turn" model I'll touch on later. In this article, we are going to explore other avenues any startup business can utilize when beginning its business venture.
Related: Why Small Businesses Should Look for Alternative Capital Financing
Why the VC mindset doesn't work for new businesses
I want to start by stating that I am not against venture capital funding. For the right business, a VC brings a tremendous amount of resources through finances, marketing, and sometimes, a supporting team. The issue lies in the difference between the mindset, which creates challenges that most startup entrepreneurs are not prepared to face.
VC investments come with many challenges which revolve around the idea that your company hasn't yet proven its business concept. The VC ideology is "burn nine companies to win with the tenth." They tend to buy companies with little-to-no care about how they grow them and take a lot of equity all while abusing the founders. Even with all the benefits a venture capital organization brings, due to its ideology, you'll most likely fall into the group of nine. That's how venture funds look at it. Putting in $1 and getting $1,000 out of it excites them. Their expectations are misaligned with their founders' because you need to be conservative with your growth.
Venture capital funding is a traditional method of financing new companies, but there are many alternative ways you can raise capital for your company. Here are three options for raising venture capital funding:
1. Friends and family
One alternative for venture funds is through friends and families. We call this the triple F: "friends, family and foolish money." It's the most basic form of crowdsourcing. Friends and family bring money with a level of care, and in most instances, they give you the independence to grow your business. They don't expect to be involved in business operations. They generally want to support your business because they have a vested interest in your success.
You also don't need to go through any form of review process or due diligence like you would with other sources of funding. However, there is the small caveat of getting rewarded for trusting you with their money.
2. Debt financing
The second option is debt, debt financing or debt partners. You can have different scenarios of debt financing, including secure or unsecured debt. There are many options here, and each has its own set of benefits. Whether a credit card or structured debt, this option generally becomes available when you have some revenue as the loan and interest are expected to be paid back directly through the business's revenue stream.
The advantage of debt financing is that you preserve your company's ownership and continue to be the decision-maker when it comes to operations. Once the debt is paid off, the business owner is released of any obligations to the lender. Another advantage is that the interest payments are considered business write-offs and are therefore considered tax-deductible.
The most common option is a bank loan. It's fairly simple to understand. Similar to a mortgage loan, the higher the amount borrowed and the longer the payback period is, the higher the interest rate you're going to have to pay. Banks will assess your business's financial situation and provide loan amounts accordingly.
3. Financing through clients
The third option is to finance your business through your clients. Be profitable by identifying your founding clients who are going to fund your business. It's a bit more conservative, but you hold the most control this way. You can always structure your capital differently in the future. You can go to series A and find an investor with favorable terms when you have revenue. You can negotiate better terms when you have some revenue.
Related: You Can't Get VC Funding for Your Startup. Now, What?
The reality is this: If you want to get your company off the ground, there are better alternatives to VC funding. Most businesses don't initially need venture capital funding to succeed. Now that lean startup concepts have taken hold, many entrepreneurs and startups are finding ways to do just fine without it. So, before you spend any time researching venture capitalists or writing your business plan, consider these alternative funding sources first.
