We all know the old adage: in business, you have to spend money to make money. While this isn’t always true (Rootstrap was a bootstrapped company, after all), it’s certainly the case that for many companies, it’s necessary to raise some initial capital to start a business. While some products and services can be sold out of the gate and generate a revenue stream that can be funneled back into the business, sometimes the only way to really get a new business off the ground is by raising capital. Unfortunately, that’s easier said than done.
If you’re considering raising capital for your own business or are wondering how the process of raising capital works, we sympathize with you – and we can help. Rootstrap has helped literally hundreds of startups raise funding for their idea through our Roadmapping workshops, and we’ve seen firsthand what investors look for when considering a new startup. In fact, our clients raise about $250,000 for their ideas on average. If you’re thinking about raising capital for your startup or small business, start here.
Startup Funding: 101
Before we dive into the specifics of raising startup funding, let’s talk about the different approaches you can use to get your business off the ground – both with and without outside capital. And while it may seem counterintuitive, we’d be remiss if we didn’t start with the time-honored tradition of bootstrapping.
Bootstrapping refers to starting and growing a business without seeking any outside capital. The term comes from the popular metaphor of “pulling yourself up by your own bootstraps” – in other words, selling something and using the revenue, combined with your own cost-cutting, as a “capital infusion.”
Now, this advice may seem out of place in an article about getting startup funding, but here’s our personal advice:
You should bootstrap your idea. If it is at all possible to get your business off the ground without outside investment, do that.
We’re not the only ones who think so. Fred Wilson, of Union Square Ventures, points out that “The fact is that the amount of money startups raise in their seed and Series A rounds is inversely correlated with success. Superstar billionaire Mark Cuban has similar advice, telling founders that “You should do everything possible not to raise funds. Sweat equity is the best equity.”
So why are we telling you not to raise money in an article that’s supposed to tell you how to raise money? A few reasons.
First of all, raising money means you’re always beholden to someone. And if that someone is an investment firm, you will always be pressured to place short-term profitability over the long-term growth and stability of your business. That is not a good incentive structure.
Second, you dilute your equity pool. This may seem like nothing in the beginning, but it really sucks to give away 50% of your business for $200,000 only to realize later that you were building a multi-billion dollar company. If you can keep ownership, you’ll reap much greater rewards.
And finally, bootstrapping changes your mindset. If you’re bootstrapped from the very beginning, you learn how to hustle. You learn to solve the inevitable crises through sweat equity, smarts, and innovation. Raising money, to a certain extent, teaches you that you can always solve problems with a check. That’s not a lesson you want to learn.
For a more in-depth look at this, check out our founder Ben Lee’s article on why raising money isn’t cool. But suffice it to say, we recommend that you bootstrap if it’s possible.
With that said, though, the truth is that bootstrapping a business isn’t always possible. Sometimes the startup capital costs are just too high, or taking a capital infusion will help you grow the business exponentially faster. In those, cases, what are your options for raising startup funding?
First things first: your first source of capital is your savings account. Saving up a small amount of money can be enough to give you the capital infusion to get your business off the ground and start generating revenue. This is almost always a part of bootstrapping, and we recommend you use money from your savings to start a business even if you raise other sources of capital. You should have skin in the game.
Perhaps the second most common funding source for entrepreneurs is friends and family money, or F&F money. This is what it sounds like: money you raise from close friends and family members. Usually, these investments are small, and they’re made both because your investors believe in the business and because they believe in you personally. F&F money is a good option for small initial startup costs like early product development costs, logistical and administrative costs, and the other things that go into getting a business off the ground.
A step up from F&F money is crowdsourcing. Using platforms like Kickstarter or Indiegogo, it’s possible to raise a very impressive sum of capital from a wide network of small-dollar donors. Running a crowdfunding campaign isn’t easy – it takes a lot of preparation, planning, and hard work. But with the right approach, crowdfunding is a powerful way to fund a new business.
Finally, you can raise money from outside, third-party investors. These investors may be individuals or professional investing firms. This option can give you access to much more capital than any of the others, but it comes with its own set of drawbacks. Remember: if you take money from investors, you’re beholden to them. Never forget that fact.
What Are Startup Rounds and How to Prepare?
If you do choose to take on money from outside investors, you should know the traditional funding rounds for a startup. If you’re only raising money from friends and family, these rounds aren’t as important. But if you’re raising institutional money from Silicon Valley investors, you’ll need to understand the progression of funding rounds and have a long-term plan for how you’ll raise and use capital.
Funding rounds are defined by the type of stock being sold, the chronological stage of the startup’s growth, and the intended purpose of the investment. While different investors may have different definitions, the generally-accepted model of startup funding rounds goes like this:
- Pre-Seed: This is a small funding round, usually pre-product, intended to help a startup hit some milestones before raising a true seed round. Pre-seed rounds are relatively new and emerged as a result of increasing competition for funding by startups.
- Seed: Seed rounds help a startup develop its product, hire new personnel, and potentially generate some revenue. The expectation here is that the seed round will help the startup prove traction and Product-Market Fit, paving the way for more investment and growth. Seed rounds are usually less than $1 million to a few million dollars.
- Series A: The Series A round is when it really gets real. At this point, the startup has demonstrated clear traction and Product-Market Fit (PMF), and there’s good evidence to believe that growth will continue. Series A is also when larger venture capital firms usually get involved, bringing institutional-sized money with them – Series A rounds can range from $10 million to dozens of millions of dollars.
- Series B: Once a company reaches Series B, they’ve hit a turning point in their trajectory. Series B isn’t about showing PMF or getting traction – by this point, that’s been proven. Series B is about making all this happen at scale. Series B funds are usually geared towards expansion, hiring, and conquering new geographic markets, and they usually range in the tens of millions of dollars.
- Series C & Beyond: Series C rounds, as well as subsequent rounds, usually serve to fuel international expansion, acquisition of other companies, or other major growth strategies. There’s theoretically no set cap for the number of funding rounds a startup can raise, and some companies do hold rounds to Series E or beyond. The size of these rounds varies on a case-by-case basis, ranging anywhere from tens to hundreds of millions of dollars.
What Are the Stages of Funding Your Startup?
In addition to different funding rounds, it’s often helpful to think about the different stages of growth that your startup will go through. These growth stages are also thought of as the life cycle of a business: similar to how a person grows up or has different stages of their career, a business will go through different phases as it grows and matures.
Usually, this life cycle is split into 4 or 5 stages. Each stage comes with its own unique milestones and challenges, and truthfully, the startup has a different goal at each stage. For the sake of explanation, we’ll outline the 5-stage model of the business life cycle:
- Stage 1 – Seed & Development: This stage begins even before you’ve started the business, when you first get the idea for your product. Often, you’re the only one working on the business at this point and you may not even have an MVP (minimum viable product) ready yet. The goal of this stage is to determine if your idea is viable. You need to get your idea in front of potential customers and assess whether or not there’s a market for the product – if anyone will buy it.
- Stage 2 – Startup: If you do think there’s a market, the next phase is about perfecting your product for that market and reaching it. During the startup phase, you may be working with a small founding team, have an official LLC, and have a first-iteration product or MVP in place. Your goal here is to reach your core customers and iterate your product until it’s something your core customers want enough to pay money for. The whole point is to reach product-market fit, and it usually takes many iterations of the product to do that.
- Stage 3 – Growth: The next phase begins when you reach product-market fit, and the goal here is to expand. At this point, you’ve iterated your product to the point that it’s more or less ready for the mass market. Your objective now is to penetrate that mass market. Your startup should be generating consistent, growing revenue, hiring new team members, and expanding your customer base.
- Stage 4 – Expansion: Once you reach this point, you have a fairly healthy, stable, and growing company. You’ve figured out your core product, your customers like that product, and you have a business model that works. Your goal now is scale. Entering new markets, expanding your employee base, and growing revenue.
- Stage 5 – Maturity: Truthfully, few businesses get to this stage – but if you’re one of the lucky ones, you have some questions to answer. Businesses at this stage are fairly stable and financially solvent. The question is whether or not to continue expanding, to keep the business stable, or to exit entirely. Often, continued expansion requires an entirely different skill set from that of a startup entrepreneur, so many entrepreneurs will choose to take an exit and install an experienced CEO who can better handle the challenges of a mature business.
Understanding these stages is important because your role changes with each stage. At any given point of your business, you should understand which stage you’re in, have a strategy for reaching the milestones of that stage, and have a plan for how you’ll conquer the next stage.
The Most Helpful Resources and Websites for Funding your Startup
No matter what stage you’re at, if you do decide to raise capital, there are plenty of resources out there.
Before we dive into them, we have to give a little plug. Our Roadmapping workshop has proven itself to be one of the most powerful resources for raising money on the market. 18% of Roadmapping alumni raise at least $250,000 in seed capital, and 8% raise over $1 million. This makes Roadmapping alumni 2,600% more likely to raise money than the average startup. If you’re really serious about raising money and getting your company off the ground, Roadmapping is one of the best ways to do it. Seriously.
Aside from Roadmapping, here are a few of the most valuable resources for raising startup capital:
- AngelList: One of the oldest platforms around, this lets startups make a public listing and search for investment opportunities that fit them.
- Kickstarter: The original crowdfunding website. A great option for tech and software products, with the added benefit that you can raise money without giving away equity.
- Fundable: Like Kickstarter for traditional investment. Instead of raising money by selling rewards, you give away small fractions of equity to small-scale investors.
What if You Have Bad Credit and Want to Fund Your Startup?
Finally, let’s cover a much-discussed topic: can you raise startup funding if you have bad credit?
The short answer here is yes. Investors aren’t quite like banks: if they see strong metrics for your company and believe in your product, they’re likely to provide capital even if your credit report is less than stellar. This is because they’re investing in your product and business as much as investing in you as a founder.
That said, it may be more difficult to raise funding if your credit is bad. It can be harder to get in the room with investors, and they may be more scrutinous if they see bad credit history.
Our advice? Bootstrap. If you can bootstrap the business enough to start generating revenue and sustain profitability, it doesn’t matter what your credit score is. A profitable business is a profitable business, and investors will always respect that.
Or, as another option, go in on a Roadmapping workshop. We don’t care about your credit score – we care about your idea. And if you have a good idea and the work ethic to make it happen, we can help you perfect your product and get you access to the resources to scale your company.
Ready to learn more? Talk to us about Roadmapping. We’ll help you see if it’s a good fit and discuss your potential next steps.