How to Raise Capital for a Startup: 10 Options
Though many entrepreneurs choose to bootstrap their businesses by leveraging their personal assets, there are various ways to raise capital without putting your personal finances at risk. Here’s how to raise capital for a startup:
1. Friends and Family
One way owners can raise money for a business is by asking friends and family members.
- Receiving funding from your network can take several forms: debt capital where money is provided as a loan, an investment in exchange for owning a share of your business, and gifts that don’t require repayment.
- Some view asking friends and family for funding as a risky choice because it could endanger your relationships. To prevent conflicts, make sure to have written agreements in place that define investment terms in detail.
Another way to generate startup costs is through crowdfunding where business owners request donations from site visitors.
- The most popular crowdfunding platforms include Kickstarter, GoFundMe, Indiegogo, FundRazr, and Crowdfunder. These platforms are open to practically any type of fundraiser and aren’t limited to business investments
- These sites often require business owners to offer rewards or a physical product in exchange for investments. For example, a coffee shop might offer free drinks or a mug with the company logo in exchange for funding.
- For business-specific crowdfunding platforms, try SeedInvest or StartEngine. Keep in mind that these platforms have a stringent vetting process and not all campaigns will be approved.
- Even if your campaign gets approved, it can still be difficult to generate enough interest to completely fund your startup costs; fewer than 25% of campaigns reach their goal. That means you’ll need to leverage your network and market your idea if you want your fundraiser to succeed.
- Crowdfunding can serve as a test of consumer interest; if few invest in your company, there may not be much of a market for your product or service.
3. Small Business Loans
- SBA 7(a) loans allow business owners to borrow up to five million dollars to cover startup costs.
- These loans are popular because they offer a low interest rate and extended payment terms.
- You can also apply for small business loans through your local bank or credit union.
- The downside to these loans is their lengthy approval process and strict requirements regarding documentation, credit scores, and collateral.
4. Alternative Business Startup Loans
Thankfully, you don’t have to go through traditional financial institutions to secure a small business loan; there are alternative lending companies on the market.
- Alternative lending companies are an excellent option because they release funds more quickly than traditional lenders and their requirements are far less rigorous.
- They also offer more flexible terms regarding APR, lending limits, and payment schedules, making it easier to find a loan that meets your needs.
Business incubators are organizations that provide resources and guidance to startups, teaching owners all the essentials about how to start a small business.
- The leading incubation organization is the International Business Innovation Association (InBIA); you can find links to local chapters and other resources on their website.
- While the help provided by business incubators is invaluable, it doesn’t always include funding.
The terms “incubator” and “accelerator” often get confused: While the goal of both is to help entrepreneurs build their businesses, they’re different types of organizations.
- Accelerators are intensive programs that accept a small number of companies, providing them with money, mentorship, and resources in exchange for equity. This model is distinct because incubators don’t take partial ownership of participants’ companies while accelerators do.
- The largest incubator is Y Combinator (YC), which has funded more than 3,000 companies since 2005 including Airbnb, Dropbox, Reddit, Instacart, and Coinbase, but there are many smaller ones, too.
7. Business Plan Competitions
Business plan competitions are events where participants pitch their business plans in front of judges and win cash prizes.
- Competitions are usually organized by universities, business schools, government entities, or large corporations.
- While cash prizes are appealing, they’re not the primary aim of these competitions; their overarching goals are to help entrepreneurs articulate their ideas, gain visibility, and attract investors.
8. Angel Investors
An angel investor is an affluent person who funds startups in exchange for convertible debt or ownership equity.
- Angel investors are often experienced business owners who want to use their knowledge and resources to help early-stage ventures succeed.
- A directory of angel investment groups is available on the Angel Capital Association (ACA) website and you can find lists of individual angel investors online, but the best place to start is within your own network; ask your contacts if any of them can connect you with an investor.
9. Venture Capital Investors
A venture capital (VC) firm is a business that invests in startups and emerging businesses.
- VC firms are similar to angel investors in that they offer guidance, support, and financial backing in exchange for equity, but they typically invest much larger sums of money and require a larger stake in return.
- Venture capitalists are more focused on companies that are high-risk and have significant growth potential. That makes them an excellent source of startup funding for entrepreneurs who can demonstrate their company’s potential.
- On the downside, VC firms often require some degree of operational control and getting approved for funding can be challenging.
10. Family Offices
Family offices are private wealth management firms hired by high-net-worth individuals and families.
- Family offices differ from traditional wealth management firms in that they provide expertise in various areas including budgeting, tax planning, insurance, law, travel arrangement, accounting, and more. As part of their services, family offices also invest in startups on behalf of their clients.
- While family offices make attractive investors due to their flexibility and long-term commitment to growth, they may be hard to come by.
How to Choose the Right Funding Option
Choosing how to raise capital for a startup can be tough; with myriad options available, it’s hard to know which capital-raising strategies are best for your company. Here are a few factors to consider when evaluating your choices:
- Equity: Do you want to retain full ownership of your business or are you willing to exchange capital for a share of your company?
- Speed: How quickly do you need funding? Do you have time to pursue multiple funding sources or wait for an SBA loan to go through? Or would you prefer to get funded quickly so you can start building your business?
- Ease: How many hoops are you willing to jump through to get funding? Are you able to meet stringent requirements regarding collateral, credit scores, documentation, and net worth or do you need more flexibility?
- Terms: How soon would you like to repay the loan? How much money do you need and at what APR?
- Goals: What are your business goals? Which source of funding will help you reach your goals in the short and long term?
While conducting research and evaluating your options are vital, you’ll also need to consult a professional to improve your chances of fundraising success. You might also want to ask a professional about the legal requirements for starting a small business.
What Are Business Startup Costs?
You may be eager to learn how to raise money for a business, but it’s vital to know precisely how much money is needed before searching for funding; investors won’t take your venture seriously without an accurate assessment of startup costs.
Start by making a list of everything you’ll need to begin operations. Here are suggestions for a brick-and-mortar company using a coffee shop as an example:
- Deposit on retail space plus money for improvements
- Deposit for utilities
- Essential equipment like espresso machines, blenders, coffee grinders, cash register, etc.
- Furniture and décor for the café including tables, chairs, trashcans, rugs, and artwork
- Other supplies like coffee beans, creamer, sweeteners, flavorings, cups, lids, napkins, etc.
- Licenses and permits required by the state, country, city, or industry
- Necessary technical devices like a computer, printer, and time clock
- Office furniture and supplies
- Software to manage inventory, create employee schedules, generate payroll
- Marketing expenses such as signage, business cards, and a website/app
Note that these are expenditures you’ll make up front.
Ongoing expenses that must be covered every month. Here are some suggestions:
- Rent or mortgage payment
- Business taxes and insurance
- Payroll and employee benefits
- Owner salary and benefits
- Inventory and supply replenishment
- Accounting and legal services
- Website hosting and maintenance plus additional marketing
- Utilities including electric, gas, water, phone, and internet
- Loan repayment
After you’ve listed all your expenses, you can calculate startup costs by multiplying ongoing payments by the number of months you’ll need covered then adding that to the cost of your initial one-time purchases. Here’s an example:
|Deposit on retail space plus money for improvements||$2,500|
|Deposit for utilities||$300|
|Essential equipment like espresso machines, blenders, coffee grinders, cash register, etc.||$10,000|
|Furniture and décor for the café including tables, chairs, trashcans, rugs, and artwork||$2,300|
|Other supplies like coffee beans, creamer, sweeteners, flavorings, cups, lids, napkins, etc.||$1,250|
|Licenses and permits required by the state, country, city, or industry||$150|
|Necessary technical devices like a computer, printer, and time clock||$500|
|Office furniture and supplies||$800|
|Software to manage inventory, create employee schedules, generate payroll||$200|
|Marketing expenses such as signage, business cards, and a website/app||$2,000|
|Rent or mortgage payment||$1,200|
|Business taxes and insurance||$1,300|
|Payroll and employee benefits||$6,000|
|Owner salary and benefits||$4,000|
|Inventory and supply replenishment||$1,250|
|Accounting and legal services||$150|
|Website hosting and maintenance plus additional marketing||$250|
|Utilities including electric, gas, water, phone, and internet||$350|
The majority of business owners underestimate expenses and are too optimistic about how quickly they’ll turn a profit; to make sure you have enough funding, consider budgeting for at least 6-12 months of expenses.
In this example, startup costs for the coffee shop if six months of expenses are covered would be (15,000 x 6) + 20,000 = $110,000. To cover 12 months of expenses, initial funding would need to be $200,000, or (15,000 x 12) + 20,000.
Keep in mind that these expenses will vary depending on what type of business you’re in. You may wish to look into what is startup capital in your niche area. If you’re an online retailer, you won’t need to worry about renting a physical space for your store or purchasing a lot of equipment; your biggest expense will likely be inventory. Similarly, if you offer services instead of a physical product, your expenses will be less than the example provided—your primary focus will be marketing.
Raising capital for business is a challenge, but it’ll be easier if you take our advice: As you pursue funding, make sure to keep your priorities in order—don’t spend so much time chasing investors that you neglect your business. While capital is necessary, it’s not the end goal.
To avoid getting bogged down in the search for funding, our recommendation is to finance your startup through an alternative lender like Torro. Here’s why:
- Lower Requirements: Traditional lenders and investors have rigorous requirements in place while Torro provides easy access to financing.
- Fast Distribution: You don’t have to wait several months for disbursement; Torro offers same-day funding.
- Flexible Terms: Instead of abiding by rules set by lenders and investors, you partner with Torro to define payment terms that work for you.