Tuesday, April 8, 2008

Startups: Primer on Raising Capital

By Chris Benjamin of Chris Benjamin Consulting LLC (www.chrisdbenjamin.com)

Two questions I hear often – “how much money should I try and raise” and “how easy will it be”. There’s no set answer to either, and it depends on a myriad of factors.

How much money should I try and raise?

It is a difficult question indeed. You are the brains behind the operation, and have images of where you are going to take your new venture. It all starts to add up though. Hiring good people, renting a space, keeping your site search engine optimized, marketing – quickly you have some hurdles to tackle, and the number one issue is money.

A good starting point is your business plan & financial forecast. If you haven’t done these, stop right here. You’ve jumped a few steps, and worrying about funding isn’t a high priority yet. If you have these done, become very familiar with the numbers.

How do they shake out? Things to consider are:

When do you start making a profit?

How long can you sustain the business before needing money?

What are you going to need money for? Funding operations, capital expenditures, launching? Other?

A few examples:

Company A is a manufacturing startup. They will sell online, and not have a storefront. They plan to rent a warehouse and invest heavily in capital equipment. They need money up front, because without the warehouse & equipment, there’s nothing to sell. It is an all or nothing situation.

Company A needs money, and for a specific purpose. Besides funding the capital, they need to think about the ramp up transition. Covering operational costs for a period of time until the revenues of the company can sustain the cash flow.

Company B is a dot.com service company. They run a resource online, and revenues come from ad revenue & affiliate revenue. They have a site up, receive a small amount of traffic, and are steadily growing. They have received lots of positive feedback, but need money to really market the company properly.

Company B is already operational, but needs the capital injection to get them to the next level. This one is a bit tougher. What amount is the right amount? Coming up with a solid list of the operational expenses and where the money will be spent is important. It’s a bit less tangible than Company A. You could spend $250K in Marketing, or $1 Million. How do you decide? It’s your company, come up with a justifiable plan.

How easy will it be?

Raising capital is not a scientific process. Nor is it the same process for all levels of funding. The general categories & where you should look are:

Under $100K

  • Friends & Family
  • Credit Cards
  • Home Equity Loan
  • Sell Assets
  • Borrow Against your 401K

$100K - $1 million

  • Angel Investors
  • Commercial Lenders
  • Small Business Association (SBA)

$1 million +

  • Venture Capital
  • Investment Banks
  • IPO
  • M&A

All of these warrant a lengthy discussion about the pros & cons, and if they are right for your specific situation. Just know there are options, ones beyond this list as well. Determining what level you are at, and then how to go about raising the funding is a process.

So how difficult is the process? Well, depends on your definition. Certainly no one will be coming to you handing you money. Time is your friend, and the more money you want, the longer it will take. It makes sense: if you lent a friend a $1, you’d just do it. But to lend them $1,000, you’d want to know they can pay you back.

If you are in the Under $100K category, it should be a somewhat simple process. A home equity loan takes about a week to get, as does borrowing against your $401K. Credit cards are of course not recommended, but many an entrepreneur have gone that route and funded their startup.

When you get into investors, they will be taking a position in your company. So at this point you are giving up a bit of ownership, but for a capital injection. This process can span a month to several, and includes:

  • Finding the investors
  • Due Diligence process
  • Filing with SEC
  • Funding

So how easy is all this? Well, it’s more a test of patience and being able to take rejection than anything. No one will ever be as passionate about your new company as you, so when someone says “no thank you”, it can be a tough blow. Finding the right investor is key, and from there it becomes a natural flow of moving through the due diligence.

In summary, decide how much funding you really need, within that range decide what method you want to look for capital, and begin the hunt. Keep your chin up, preserver, and if your idea is great, the money will be attracted to you once people know about you.

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