Imagine you have a stellar business idea that can translate into huge profits. You have your business plan ready, the goals in order, and every abstract requirement in place. What is the next most important thing you need? Funding. Yes, no business can get to the next level if there is not enough capital to run the show. There have been several business funding models we have seen evolve in recent years. However, it is crucial to determine the right financial funding type according to your business. Although it can be a challenging process, you have many ways to acquire the money you need to establish your startup.
What is startup funding?
Startup funding is a process through which you raise enough capital to set up and keep your startup business running. Just like any business process, funding has its risks involved. You can gather money through friends, family, or reputed business connections according to your networks and marketing strategies. The recent trends in funding evolution can be summed up by categorizing them into three types namely, Crowdfunding, Angel Investment, and Venture Capital. If you want to be involved in a business that is still an idea or concept, you can approach the Venture Capital model. For, a company that is in its earlier phase of the operation would require an Angel Investment and crowdfunding applies to almost any stage of a business.
Why do you need startup funding?
Gathering funds for a business is beyond money. Your startup requires a community to rely on. Your products need mediums to reach their target audience. Fundings can help you widen your professional network and gain access to thousands of connections that can translate into profits. Investors who are not affected by potential risks in a business are assets for your business. So, it is important to analyze your company's needs and pitch to the right investors that can fund and accelerate your business.
Read on to understand what type of fund acquisitions help scale your business and what you should consider while analyzing your perfect investing partner.
What is crowdfunding?
Crowdfunding happens when individuals or groups of people come forward to provide financial resources to launch and develop your business. In companies backed by crowdfunding, the investors expect rewards in return for the funding. For example, your company gets an investor on board, and your business starts picking up after some time. A part of your company's profit or rewards like offering products for free or subscription-based issues every month are offered. Since the investors are not shareholders, you can ensure equity when you raise funds.
Risk is inevitable in any type of business funding but crowdfunding causes less risks for the founders and also investors because there are limitations on how much one can invest in and who can invest. If the investors meet the criteria and carefully consider the potential of the startup, heavy losses can be prevented.
You can also consider Equity crowdfunding, as it is a recently evolving funding setup where you can gather money from different sources without transferring ownership to anyone. Another popular setup is Public Crowdfunding, where you expose your products to public awareness and usage before the launch and raise capital. Crowdfunding is an effective way to benefit from Angel Investment or Venture Capital at a later stage when it needs more fund base.
How does Crowdfunding work?
You can raise funds through crowdfunding by taking up offers from as many investors as possible. There are platforms like Kickstarter and Indiegogo to begin the process of raising funds online. You either post your project online through one of these platforms or social media and then market or promote them enough to gather funds from people who believe in the potential of your business. Through the networks you build from your funding, you can launch more projects and develop your business. Crowdfunding works only for a short period, after which the investor's exit claiming their rewards.
If you choose to crowdfund to raise capital for your business, you will have the following benefits:
Since there can be many people coming forward to offer money, the risk is equally diluted. Fewer risks make you feel better about the business.
You will have access to an evolving community. The networks can be of great help when your business gets to the next stages of growth.
Finding investors is probably the easiest with Crowdfunding as you may have most of your friends and family in the circle who support your decisions.
The following disadvantages can also be observed in a few cases where crowdfunding is the means of raising capital:
There may be several idea thefts in the process since this involves the exposure of your products to the public in its earlier phase.
Your test audience may not represent your entire target audience community. What works for the former may not be sufficient for the latter. So, you should look for a better feedback mechanism.
Crowdfunding may not serve you in the long run. You need to look for other funding options when your business grows.
The usage of some online platforms to promote your projects can be a bit expensive because of the fees they charge.
What is Angel Investment?
Angel Investment is a condition where a wealthy bunch of investors comes forward to invest in your business expecting equity in return. This can be done both individually or as syndicates. Although you get to gather quick funds through these investors, they go through more risks as the businesses they fund are mostly startups. They are more involved in your business than those in crowdfunding but are not anxious about the metrics. The investor must own $1 million or must prove receipt of income of $200,000 for the past few years. If the investors are partners, then a combined income of $300,000 is necessary.
The Securities and Exchange Commission (SEC) limits the number of accredited investors to 99 to avoid unfavorable financial situations in the future. So, carefully examine the portfolio of the investors before getting them onboard. The investors are eligible to sell their shares once the company becomes successful and generates profits.
How does angel Investment work?
You can use angel investors by reaching out to real-time connections from your professional circle or approaching affluent entrepreneurs and pitching your business idea. There are groups for angel investors on Facebook that can make your work simpler. You can even try out the traditional cold-calling way to get your investors to fund the business. They usually invest in your concepts or ideas at the earlier (seed) stage of your business and show mediocre involvement in the process. The term of angel investments is 7 to 10 years after which you may approach VCs to raise more capital.
Raising funds through angel investment can provide you with the following benefits.
The investment is more than just capital. The investors offer their knowledge and suggestions using their expertise which may help uplift your business standards.
The funds are not offered as loans. You do not have to pay them back but use them to build a successful business. The focus here is to increase the value of your company in the future.
Angel Investment is the best way to garner quick funds. As the investors are mostly wealthy entrepreneurs, they can afford immediate assistance in terms of financial requirements.
Raising funds through angel investments have a few disadvantages, as mentioned here.
The investors may face risks as there is no need to repay the investment. They may have worries about the business potential in the future.
There is much pressure for business owners to nail it since the beginning of the company set up because of the expectations from the angel investors.
What is Venture Capital?
Venture Capital is the most popular funding setup and offers a capital base before you establish your company. Although they require potential business models before they invest in your projects, their financial and networking support can help your projects reach many prominent people in the market and evolve. The investments in this scenario demand high risk but also yield high returns. The VC funds can be offered at all the stages like seed capital, early-stage capital, and expansion stage. You can expect more involvement from the capitalists in your business and that also means they will do anything to help you generate profits. Since the capital is funded by external investors, the pool size is enough to fund huge business needs for the long term.
How does Venture Capital work?
A simple Google search would suffice to find your potential VC investor. You can find their investment portfolio and analyze if that suits your business. If all goes well, you can pitch in your project idea, and they can invest in the business in exchange for high returns. A typical Venture Capital investment holds a 5-year period after which they exit with returns.
The following are some advantages of venture capital:
The advantages of the Venture Capital model include having a large capital pool to fund your periodic business needs.
The investors work in such a way that your company enjoys quick growth in a limited time frame.
The networks that venture capitalists have can help your projects reach and be recommended by many professionals quickly.
The security that VC investments provide over your finances is the best among every other funding setup.
Below are some disadvantages of VCs:
The disadvantages of securing funds through VC investments include a longer time frame to approve your idea. Since there is risk involved, the investors may take more time to analyze the potential of your products.
The period of gaining returns is also longer because these companies are funded at a very early stage, and their development takes more time to yield the expected returns.
It isn't easy to attract the right investor for your business. Your ideas and concepts must be exceptional for any investor to be involved in risks.
Key differences between Crowdfunding, Angel Investment, and Venture Capital
While all three are mainly to provide your company with funding, there are key differences between crowdfunding, an angel investment, and venture capital. These differences are:
Time to raise capital - While an Angel Investment promises quick decision-making processes, the Venture Capital model is more complex and makes the decision-making process slow. Conversely, crowdfunding ensures funding is done in a minimum of 2 weeks, depending on the targets and campaigns.
Stages of Investment - A Crowdfunding model allows investment in all company stages, while the Angel Investment is more driven towards the early stage of business. However, Venture Capital investment can take place in any startup and seed stage by showing proven models for approval.
Investment amount - While a Venture Capital investment can provide anywhere between $250,000 and $70,000,000 as they involve funds collected from external investors, the angel Investment offers capital between $15,000 and $70,000 from personal finances.
Role of Investors - The involvement of crowdfunding investors can be too low because of the huge shareholder base. But an Angel investor can sometimes play advisor and be involved to an extent passively. Venture capitalists have more involvement as they can even demand to be part of board meetings.
Conclusion
Founders should also assess what stage their business is at and how much money they actually need to raise. For example, if you’re a startup with a minimal viable product (MVP) in hand, crowdfunding could be the best option as you can use platforms like Kickstarter or Indiegogo to drum up interest and momentum for your product. However, if you already have some traction and are looking to scale quickly, then taking on angel investors or going down the VC route might make more sense. Of course, there are pros and cons associated with each of these funding options which is why it’s important that founders do their homework before making any decisions.
Hopefully, this blog post has helped shed some light on the differences between crowdfunding, angel investment, and venture capital so that you can decide which one is right for your business.