Finding The Right Financing Option For Startup
Almost all startups need extra capital at different stages in their business lifecycle. From paying vendors and doing marketing activities to growing your business and developing your product further, you need capital. And for that, various financing options are available today.
But the thing is, while all these solutions might seem similar at first glance when you dig deeper, there are vast differences in repayment cycles, terms, and conditions, provisions, etc. Therefore, it is essential to evaluate all options objectively before you make the decision. In this blog, we explain what are the different financing options for startups available to you at different stages of your growth journey and tips on how to choose the right one. Read on!
Availability of Financing Solutions As Per Your Startup’s Lifecycle
There are various financing options available in the market depending upon your startup’s lifecycle and financial performance. So, knowing where your startup fits within the lifecycle will help you identify what types of financing you are most likely to qualify for? (Refer to the image below)
To choose the right kind of financing for your startup, it is important to first understand the basics of debt and equity financing.
Understanding Key Types of Financing Solutions: Debt vs Equity
Debt financing is when a financier provides you with the capital you need and over time, you repay that amount with the interest charged. The financier will consider a few factors such as your credit score, business credit score, and annual revenue to determine if you qualify for financing. However, unlike equity financing, the financier will not hold any stake in your business.
With equity financing, you can receive the capital you require for your business but the investor provides funds in exchange for ownership (equity/shares) in the business.
Here are some pros and cons of both debt and equity financing for better understanding:
Types of Debt Financing Options
- Funds from friends and family – Most startup founders reach out to their friends and family in case they need immediate capital. Once the sales are done they repay the amount along with some interest. However, only a limited amount can be raised by friends or family.
- Loans – While often difficult to obtain, a loan is a lump sum amount of money you get that has to be returned in an agreed, set period of time. The bank offers short-term and long-term loans to businesses. A long-term loan can be paid back over several years. Here, the interest rates are quite high meaning more money out of your pocket.
- Credit cards – Many business owners also use their credit cards to cover short-term obligations and repay the charges at the end of the month at a small interest rate. Even though credit cards are an easy way to get quick money, it usually attracts high-interest rates, especially when you miss the monthly payments and can’t pay the minimum
- Merchant cash advances – While it might seem like a lucrative short-term financing option the aggressive repayment cycle can harm your business’s cash flow and future growth capability
- Line of credit – Various individual and institutional lenders offer a line of credit, where you can draw the agreed capital as needed to take care of your regular operational needs. As you repay the interest or fee, the funds become available to use again. They are usually useful for emergency expenses
- Venture Debt – It is the financing option available to already funded early and growth-stage startups where the VC funds offer extra capital apart from the equity funding they have already provided. Designed typically as a 3-4 year term loan with interest rates, most hyper-growth startups opt for Venture Debt
Types of Equity Financing Solutions
- Venture capitalists – VCs usually provide large funding amounts to startups to help them with their long-term obligations like – R&D, expansion into a new geography or a new product line launch, etc. In the long run, the venture capitalist may look to buy the company or, if it’s public, a substantial portion of its shares.
- Angel investors – Angel investors, like VCs, invest money in your startup in exchange for equity – a share in the company – or convertible debt for their money.
- Equity crowdfunding – Equity crowdfunding is when you sell small shares of the company to numerous investors via crowdfunding platforms. But this way, you not only end up reducing your share of profit but also giving them the power to interfere in your business operations
How To Choose Between So Many Financing Options?
The financing option you choose depends upon the specific financial needs of your startup. It is important to consider the tradeoffs you are willing to take as you evaluate the financing options. Ask yourself:
- Do you have immediate, short-term (payroll in three days) or long-term needs (hiring, product development, etc.)?
- Are you willing to let go of your company’s equity and control in exchange for capital?
- How much time do you have to raise the required capital?
- Are you looking for more than money?
Apart from these, you should also consider factors such as:
- Time Value of the Money (TMV): TMV is the concept that the money you get today has a higher value than the money earned in the future. You can invest or earn interest on the cash that you have in hand rather than waiting for the one you don’t have. Simply put, getting the capital sooner is always better than waiting indefinitely for it.
- Opportunity Cost: Raising funds is a time-consuming and frustrating process. You get so involved in the long and tiring process of fund-raising that you sometimes lose sight of your business growth. In the absence of active participation, your business may incur losses. Calculate risk-benefit analysis of your time invested in seeking funds vs time spent on running your business and then take the final decision.
The best way to fund your DTC business
In all the options we discussed above, the terms aren’t fair to founders, especially those who are running healthy sustainable businesses and need working capital to grow on their own terms.
We, at Velocity, offer an exciting new alternative to traditional financing – revenue-based financing. It is a founder-friendly form of financing that offers flexible repayments based on your monthly revenue stream. This means you pay only when you make money and have full control of your business.
If you are a DTC/Ecommerce business with healthy revenue streams and need growth capital, apply here and get funded within 7 days.