An important step in starting your business is securing funding. There are five levels of funding that entrepreneurs have access to. Now understand for the purposes of these blogs, that anytime we use the word equity, it simply means that it is not a loan. When you make a loan to somebody, that person has to pay you back based on a specific term sheet that you’ve listed.
Because it can take a while for your business to stabilize to a place where paying loans is possible, equity is an option that can help you raise the money without having to pay anything back. You do give up a bit of control in your business, though, which is why you want to choose your sources carefully. Here are two of the five sources.
1. First National Bank of You: This is where the entrepreneur (you!) funds their own way. You bootstrap your own business. If you pay through the whole way, then the good news is that you own all the equity. Another benefit is that if you pay for it out of your own funds, then you have no loans to pay. Some people will get a second mortgage on their house to finance their business. Some people will use capital in their retirement account. You are the first source of capital.
2. Friends and Family: This is the next level of capital. Family is a source that is usually the easiest and quickest for getting loans or equity capital—depending on the wealth of your family of course. They are people who likely trust you and you likely trust in return. But if you’re family is not an option, then friends might be another possible source. Work to make sure that you trust these people and help them understand what they can gain by taking equity in your business. And lastly, you can always ask your employees if they want to take a stake in the company.
2.5 Crowdfunding: Crowdfunding is relatively new and falls under friends and family in a way. The SEC passed the JOBS Act in April 2012, so we can now go on crowdfunding sites and jumpstart our business through crowdfunding. (JOBS: Jumpstart Our Business Startups.) The JOBS Act allowed non-accredited investors to participate in businesses. So instead of having to go to friends and family only, crowdfunding is now here. If you have a business in the state of Colorado, this is one of the easiest states to raise outside capital in. That’s a real opportunity for you!
What happens when you raise capital is that you have to give something back for the capital. When somebody is loaning or investing in a business and it’s a true equity investment, then you’ve got to give them something in return. You’re not paying them interest and you’re not making payments, so what are you giving them in return? Well, you’re either giving them shares or units of ownership in the company. If you do that, and you believe your company will scale, then you need to be prepared.
At the friends and family level, you typically would give around 15% of your equity for approximately $50,000. The maximum amount of crowdfunding that a non-accredited investor can participate in is $2,000. That’s the most that they can participate in on one of the sites (like Kickstarter and Indiegogo). If the investor can prove that they have other assets with the site, then there is a possibility to invest more. But the primary guideline is $2,000 per person.
Doing business right is fairly simple, but it’s not easy. And one reason it’s not easy is because you need to learn and grow to know how to do this stuff and raise capital. That’s what most people resist. Most people resist change. But if you’re going to have a successful business, then you need to be able to roll with the punches.
Come back next week and we’ll talk about another level of funding: angel investors.
Join me every Monday to talk about leadership and entrepreneurship!