Introduction to Startup Funding
Every business needs money to grow. You are looking for funding, obviously, that’s why you are here. Every founder has the dream to get funded. Just like a fairy tale, there is a picture in the minds of founders, “they got funded and lived happily ever after ….”
This glorious startup dream has launched at least a million startups. From Facebook to Airbnb, and from Dropbox to JUUL Labs, which has $15B in disclosed equity funding, the fairytale stories of billion-dollar startups seem to be everywhere.
Please watch this Video to understand the Eligibility and entire Funding Process of StartupLanes:
In fact, the link between funding and startup success seems so ubiquitous that many startup founders get into the rat race of chasing investors without any hesitation. The classic million-dollar question is whether to raise funds or remain bootstrapped?
To answer this question, we have to work out the relationship between startup funding and the tremendous growth that funded companies have achieved. Let’s dig deep into the world of startup funding.
What is Bootstrapping?
Before we move ahead, you should understand bootstrapping. It is a self-starting process when you build your startup from your own funds without any external funding support. You rely upon your own capital and the cash generated from the customer through the sale of products and services offered by your startup. Now, we will answer the following questions:
- Do you need external funding?
- Is funding a prerequisite for the success of your startup?
Why do startups raise funds?
Many founders ask this question from us, whether they need funding when their business is doing good? We always tell them that money is never enough while you are growing, you need more of it.
There are four basic categories of resources that every business needs, to generate value for its customers. These resources are:
- Physical Business Resources: Your business might need raw material, office, vehicles, storage facility, machines, computers, and communication devices.
- Human Resources: People are the most important resource for any business, as your physical resources won’t work on themselves. Even the most advanced AI computer needs to be programmed and operated by humans.
- Intellectual Resources: Your business needs intellectual resources like patent, brand, process, system, copyright, partnership, data, and technical expertise.
- Financial Resources: This is money either in form of hard cash, deposit in your bank, or credit. The other three resources come with this fourth resource.
It is clear that your business needs money to get all the resources. Simply put, a business can’t do anything and won’t amount to much at all without money. This money will come from three sources:
- Capital by Co-founders
- External Funding
Types of Funding
You need external funding for the rapid growth because your capital and revenue will be limited in the initial period of starting your startup. This external funding can be divided into three basic categories:
- Debt Startup Funding: This is the money that comes in form of a loan. You have to return this money after adding some more money to it as an interest or a fixed fee. The benefit of debt funding is that you don’t lose your company’s equity (ownership), but the downside is that you have to return this money, that too more than the amount you have taken.
- Equity Startup Funding: This is the money that you don’t have to return because this comes in exchange for the ownership of the company to a certain percentage. The investors will take a percentage of your company as their equity share for giving their money and taking risks.
- Grant Startup Funding: This is the money that you don’t have to return. Also, you don’t have to give your company equity in exchange for this money. This money is absolutely tension-free that is awarded by the Government or any Organization to support the innovation of the impact generated by your startup to the society, by solving the problem of the masses.
The Investors may invest in your startup in one of the above forms or a mix of all. It could be pure debt, pure equity, pure grant, or a hybrid investment that has some money as debt, some as equity, and some money as a grant.
Why do you need funding?
There are several benefits of raising funds, we have divided them into five basic categories:
- You need Funding to Scale Rapidly: More money speeds up the entire process of growth. Your startup can scale up rapidly with the infusion of fresh funds.
- You need Funding to Gain Credibility: Funding is proof that your startup is trusted by the investors. It proves that your business model is good, your startup has a great offering for its customers, it generates value, and it can scale up rapidly.
- You need Funding to Connections: Investors don’t come alone; they bring in their connections. Your startup needs connections with the influencers, corporate decision-makers, other investors, people in the Government, and customers. Investors often refer your startup in their network, which gives your startup a quick boost.
- You need Funding to Mentorship & Guidance: Experienced investors also offer their mentorship and expert guidance to the founders for the growth of their startups. Investors want their money to grow, they do everything to guide, support, and make your startup successful.
- You need Funding to Flexibility & Freedom: When it’s not your own money, you have the flexibility to take more risk in spending. You get the freedom to use the money the way you want. Imagine the situation where you have broken your fixed deposits in the bank to fund your business, you may be afraid to spend in that case. But the external money raised from investors gives you the courage and confidence to spend it without any fear.
Is funding a prerequisite for the success of your startup?
The answer is No! Funding is not the prerequisite for the success of your statrup. There are few startups which has never raised external funding from Angel Investors or Venture Capitalists, Shutterstock is a great example. Shutterstock by Jon Oringer, a software developer and amateur photographer in the year 2003. Oringer said, “I funded it myself. That’s because I started out of my own need for a product that didn’t exist.”
But, there is a catch, Stutterstock raised 76.5 million dollars through its IPO.
It was the first New York tech firm to go public in two years, and raise a huge amount more than the expectations of the market experts.
Whether it is Microsoft, Facebook, Google, Tesla, Nvidia or Netflix, every big company has raised funds to become big. You may raise initially through pre-seed or seed-funding rounds or in the mid through A,B,C,D,E series or through an IPO, the crux is that you have to raise funds for scaling up your company.
Will raising funds solve all my problems?
No, but funding will solve most of your problems as most of your problems can be solved through sufficient supply of money. Let’s list few such problems and solutions quickly:
- No Customer: Spend more in marketing to acquire customers.
- No Staff: Pay good salaries to attract talented staff.
- No Awareness: Start brand awareness campaigns to establish brand.
- No Material: Pay to the suppliers for high quality material.
- No Advise: Pay to industry experts and mentors to advise you regularly.
- Too Much Stress: Hire a good team and delegate your work.
- No Time for Yourself: Build systems and process, engage a good team and save a lot of personal time for yourself.
Money is numbers and numbers never end. If money makes you happy, your search for money should never end, because you need to be happy forever.
How to raise funds for your startup?
You can easily raise funds after reading this post completely. It’s a process that you can learn from this post and then you will be able to raise funds as many times as you want. We have divided the process into 5 basic steps for you:
- Understanding the Fund Requirement
- Preparation of Documents
- Eligibility Check
- Searching for Investors
- Applying for Funding
How much funding does your startup needs?
This is a question that will never have a definite answer, unless you attach a time period to it. Your funding requirements will depend upon the following factors:
- Future Expenses: Make a list of all your expenses like website, app, digital marketing, staff salaries etc.
- Next Round of Funding: Plan the next round of funding, you should have enough funds to reach the next round of funding on time.
- Revenue: Estimate sales, costs, expenses, and payment delays from business customers, your own lags paying your vendors, and what will you need in your inventory.
- Profit Margin: Your profit margin will define the amount that you can utilize from your revenue for your own expenses, rest of the money will go out for the cost of raw materials/inputs.
- Expansion Plans: Calculate the funds required for your expansion plans like new office, retail outlet, app or machinery.
- Growth Rate: The growth rate of your company will affect the need of funding. A fast growth rate will demand more funds to fuel this growth.
- Valuation: Your valuation affects the requirements of your funding, you can’t raise more than 35% of your company’s valuation as may lead to loss of control over the company, in case of an equity-based raise. An ideal raise should be between 8-15% of equity during the initial rounds of funding.
Add your future expenses and deduct the amount as per your profit margin from it to get the amount of money required for the expenses. You may consider a period between 6 to 18 months for the next round of funding. This will depend upon the growth rate and the expansion plans. Now, put everything together to find how much funds you will need.
Reality Check 1: Make sure you take all the numbers from reliable sources while you depict your expenses. For example, run a small digital marketing campaign to understand how many leads you get for how much money? What is the conversion rate of those leads? How much revenue got generated from those leads? You can extrapolate those number now.
Double Reality Check: Make sure that you actually need external funding. If your revenue and profit margins are good, then you might not even need funding at this point of time.
Triple Reality Check: Make sure that you don’t put in imaginary numbers while you depict expenses or revenues. Investors will laugh at you in case the depicted amount is too high or too less.
Which documents are needed to raise funds?
You will need few documents before the fund raise and few documents after raising the funds. These could be divided in two basic categories:
- Before the Funding:
- Pitch Deck
- Financial Projection
- Capitalization Table
- After the Funding:
- Term Sheet
- Share Holder’s Agreement
- Allotment Letter
- Share Certificate
How to check the eligibility of your startup?
You can easily check the eligibility of your startup by following the steps mentioned below:
- Incorporation of your Company: You should have a private limited company that can issue shares to the investors for equity-based funding. It is the most preferred legal structure by the investors, even the debt-based investors prefer this.
- Active Co-Founders of your Startup: A private limited company should have minimum 2 directors, these two directors should be actively involved as co-founders in the company. If you have mentioned a family member or a friend for the sake of incorporation, then it will not be preferred by the investors.
- Problem which your Startup is solving: Your startup should solve the problem of the masses and it should be a real problem, not a made-up problem by the founders.
- Solution developed by your Startup: The solution offered by your startup should be commercially viable and technically feasible. It should deliver value effectively and efficiently to the customers in solving their problems.
- Business Model of your Startup: An asset-light business model that offers subscription-based service is most preferred by the investors. For instance, B2B SaaS-based startups top the list of investors.
- Traction of your Startup: You should have a good number of active users at your website and/or smartphone app.
- Scalability of your Startup: The business should be highly scalable, there should not be scalability challenges like the requirement of buildings, machinery, etc.
- Market Size of your Startup: The market size must be huge, there should be potential demand in the entire world for your products/services. Investors avoid proposals that offer solutions to limited market size.
- Industry in which your Startup operates: Your startup should be placed in a high-growth industry.
- Product of your Startup: There should be a definite technology-based product like for most of the startups their smartphone app is the product. Taxi is not the product of Uber, similarly, Hotel is not the product for OYO, their product is the app and website which facilitates the services. A core service offering like website designing won’t be suitable for investors.
- Disruption by your Startup: Make sure your product/services are offered at a lower price in comparison to your competitors without compromising on the quality. Also, there should be more convenience for your customers in comparison to your competitors.
- Growth Rate of your Startup: Your startup should be growing every month, every week, and every day on the basis of traction and revenue. Investors don’t want to invest in a startup that is falling down in terms of growth.
- Competition your Startup faces: You should have competitors and market leaders while you approach investors to raise funds. This ensures that there is a valid market and a high market share captured by your competitors that you can shift to your startup through disruption. Investors generally don’t prefer startups that create the market for any product/service.
- Team of your Startup: You should have a good, efficient and active team, preferably at least 5 salaried employees. Founders can’t do everything, having salaried employees depicts the stability and growth of the startup in the future.
- Paying Customers of your Startup: Approaching the investors without having the paying customers won’t be a good idea. Either you should have customers who are already paying for your products and services, or they should be ready to pay in the future.
- Reoccuring Customers of your Startup: Your customer should come back to you instead of approaching your competitors.
- Referrals for your Products or Services: Your customers should refer you to their network.
- Revenue of your Startup: Revenue is an extremely important factor upon which an investor decides whether you will get the funding or not.
- Social Media Reviews of your Startup: Be careful of your social media review before you approach funding.
- Technology that your Startup uses: You should have the latest cutting-edge technology utilized for your startup. Technology brings inefficiency.
- Intellectual Property of your Startup: It will be a great value add to your funding if you have a patent for your product/process and a trademark for your brand name.
- Valuation of your Startup: A fair valuation is important while you approach investors to raise funds.
How much funds can you raise?
The amount of funding that you should raise will depend upon the stage of your startup. We have divided it into 5 broad categories:
Concept Stage of your Startup
This is the time when you only have an idea in your mind. You may have an existing team to execute this idea. At this stage, you have to prepare a proof of concept (POC) to demonstrate that your idea can be converted into a commodity. In order to raise funds at this stage, you need to have a proven track record so that the investors feel comfortable in betting on your idea. You may have an excellent track record of developing such products or you may be a pass-out from one of the best educational institutions in the World. If you don’t have any of the two, then your product must be a great invention that can change the World.
Product Ready Stage of your Startup
It is the time when you are ready with a product. You have to test the product in a test group of consumers and ask for their feedback/testimonials. It is better that you include experts in the same field so that they can certify that the product is workable. For instance, you may launch an app in the AI+Healthcare segment, in such cases, you should get it used by AI technology experts and Healthcare experts such as Doctors. If they feel that the product is good, then it is easy for you to convince potential investors.
Early Traction Stage of your Startup
It is a stage when you have initial traction for your startup, you may not have to pay customers, however, they are using your products/services. For instance, you may have a smartphone app that has 50k downloads and 30k active users. This shows that the consumers are using it, you can monetize it later. You can raise funds at this stage, show Google analytics to potential investors to prove your point.
Revenue Stage of your Startup
It is important that you are able to sell your product to actual customers and consumers at a price. If they are paying for the products/services offered by you, then it validates the market and proves that you have customers who will buy. This is a good time to raise funds, you can convince the investors that you need money to scale up the operations.
Growth Stage of your Startup
This is the time when your startup starts growing rapidly. You may not necessarily have revenue, however, at this point in time, you must have huge traction. This is the time when you go for the second round of funding as you are supposed to raise the first round already.
Suggested Funding Table:
|#||Stage||Your Revenue (INR/Per Year)||Funding (INR)||Source|
|1||Idea||N/A||25 lakh – 1 crore||FFF/Angel|
|2||Revenue (A)||Rs. 25 lakhs+||50 lakhs – 1 crore||FFF/Angel|
|4||Revenue (B)||Rs. 50 lakhs+||50 lakhs – 3 crores||Angel|
|5||Revenue (C)||Rs. 1 crore+||3 crores – 7 crores||Angel|
|6||Revenue (D)||Rs. 1 crore+||$1 million – $3 million||Micro VC|
|7||Expansion (A)||Rs. 30 lakhs+||$3 million – $10 million||VC|
|8||Expansion (B)||US $1 million+||$10 million+||PE|
|9||Expansion (C)||US $10 million+||$25 million+||SME IPO|
Please mention your stage while you pitch to the investment banking team of StartupLanes.
What are the different types of investors?
As startups generally don’t have collateral for the purpose of a mortgage by the Bank and other financial institutions, we’ll be covering only the investors who provide you the collateral-free funding. Following are the 5 broad categories of such investors:
Friends, Family & Fools (FFF)
These are the people in your close network, who trust you. They are your friends, family members, and some people who blindly trust you. This funding will be based upon your reputation. Raising funds from FFF will definitely build the trust and confidence of the other investors upon you. They fund your startup just to support you, however, if the investment returns well then it’s cheery on top of the vanilla cake.
They are the high-net-worth individuals who have surplus money to park for 5-7 years in the hope of high returns. They will not invest to support you, therefore don’t make the mistake of asking for funds from them when your startup is not doing well.
VCs are the financial organizations having public money to invest in high-risk high-growth startups. This type of funding generally comes after the angel funding at a stable revenue stage.
These are the financial institutions having the objective of investing in big-ticket at a stage before the IPO, but after the VC funding is done. There is no hard and fast rule of VC funding here, however, it is better to approach a PE after raising funds from VCs, a couple of times.
Government & NGOs
The Government and many NGOs also fund the startups through grants. The best part of this funding is that you don’t have to return this money, but the worst part is that you have very few chances of getting this kind of funding.
How to search for Investors?
Searching for investors can be easy as well as a complicated task that will require a persistent approach, it will depend upon how you execute this task. We have listed the 5 methods for you to easily find the investors:
- Find Investors through References: You can connect with your friends and family members who have raised funds from external investors in the past. They can personally introduce you to the investors. It works like a magic, the investors who meet you through personal references take a keen interest in your startup and they give you proper time and attention. In case you don’t have such friends and family members, then you can take the Gold Membership of StartupLanes to build your network.
- Search VCs: You can get the list of all the VCs in India from us. It is a complete list of all the VC firms in India that you can use to find the relevant VCs for your startup. You can visit the website of VC to find out which General Partner (GP) or Investment Associate is looking after your segment/industry. You should only approach the VC team members who specialize in your segment. Do not make the mistake of randomly sending your pitch deck to any VC.
- Social Media: You can connect with the Investors on social media like LinkedIn and Twitter where you can find the investors and start engaging with them over their posts through comments. You may send them a connection request after they become familiar with you through the comments that you post.
- Statutory Filings: Keep a track of all the startups that have raised funds and prepare a list of startups similar to you or in the same industry and/or segment. You can download the documents that they file for compliance with the law. Extract the shareholding structure and name of the investors, then you can find those investors at social media or connect with them through references.
- Angel Networks: The angel networks register people who have spare money to invest, as their members. You can approach the two angel networks of StartupLanes:
- NRI Angels: High Networth Individuals from outside India, including the PIOs and NRIs.
- SL Angels: The angel network for India-based Investors.
Who will do the job of finding investors?
Searching for investors and raising funds is a full-time job that should be allocated to a full-time member in the team. You should not engage yourself in this complicated and time-consuming job, as you have to focus upon building your startup. If you do this job, then you won’t be able to focus upon the growth of the startup that will eventually hamper your funding. You can allocate this task to two co-founders in your team in case you have four or more co-founders. However, if you have 3 or 2 co-founders, then the best way is to hire 2 new employees in the team for this job.
You need a person who is good in data extraction and research and one person who is confident, soft spoken, with positive attitude and good command over communication skills in English. Generally these two members can be hired for a CTC between 8-12 lakh per annum total, if premier institutes are not your priority.
Another option is to utilise the investment banking services of StartupLanes. We have a large team of investment bankers who are experts in raising funds for startups. We have our data-driven systems and processes that are made especially for the purpose of raising funds. We help you prepare for the funding without charging you any fee. It is completely free to pitch to our team. However, before that, you have to make sure that your pitch deck is in the correct format.
Hmm! Funding seems to be easy! Get Funding for your Startup
If you are wondering that it is very easy to raise funds, then you might be wrong. It is a complex process that is handled by our experienced team who have the background of raising funds in their entire career. The global estimates are that only 3% of eligible startups get shortlisted by the investors for consideration and due diligence. This makes our work very difficult, we can’t take up all the startups in our kitty, in fact, we have to dig deep and understand the startup completely before taking in our advisory to ensure maximum success rate.
Fundraising can sometimes seem confusing, even scary; however, you don’t have to worry, leave it on us. It is our specialization, we have been in the business of investment banking for a long. You can apply for funding now, however, you should check the following before you apply:
- Check: Make sure you have a pitch deck as per our Guidelines of the pitch deck.
- Double Check: Please confirm that your pitch deck confirms our standards. You will not be able to apply in the next 6 months in case the pitch deck is not as per our standards. See: Pitch Deck
- Triple Check: Make sure that you are ready to raise funds before you apply for the funding. You should read this article completely and the pitch deck article before you apply.
Now you can move ahead to the next article: Startup Funding Process
Note: The contents of this article are extracted from the “Quick Startup Funding Book” by Shishir Gupta, Founder & CEO of StartupLanes. Please do not copy. The publisher of the book reserves the copyright.