What is startup funding? 5 Steps to raise Financing and what do investors look for in a startup, All details you need to know
What is Startup funding?
Funding is the sum of money necessary to start and run a business. It’s a Financial Investment in a company for product development, manufacturing, expansion, sales and marketing, office space, and inventory.
Many startups opt to forego outside capital to rely entirely on their founders for funding in order to prevent debts and Dilution of capital. On the other hand, most businesses raise Funds, mainly when they grow and scale their operations.
Why Do Startups Require Funding?
A startup may need funds for one, several, or all of the reasons listed below. Business owners need to understand why they’re looking for funding. Founders should have a strong Financial and business strategy in place before approaching investors.
-Legal and Consulting services
-Raw material & types of equipment
-Licenses and Certificates
-Marketing and sales
-Office space and admin Expenses
Types of startup funding
|Equity Financing||Debt Financing||Grants|
|Brief ||Equity Financing is the process of selling a part of a company’s shares in return for funding.||Receiving a Loan and repaying it with interest is what debt finance is all about.||A grant is a Financial award given to a company by another entity to assist it in achieving its aim or to incentivize performance.|
|Nature ||There is no provision for the Fund that were provided like investments to be reimbursed.||Invested money must be returned, plus Interest, under a set period.||There is no provision for the Fund that were provided like investments be reimbursed.|
|Risk ||Financer: He has no surety that his investment will be profitable. |
Shareholders must receive a percentage of a Startup’s Share holding.
|Lender: The lender has no control over the operations of the company. |
startup may be asked to provide collateral in the form of a corporate Asset being a startup.
|Financer: There’s a risk that the company won’t fulfill its aim for which the funds were provided. |
There is a potential that the firm will not get a share of the reward due to a number of issues.
|Threshold of Commitment ||Investors are always trying to fulfill their growth targets, but startups are less probable to be pushed to a repayment timeline.||Startups must always stick to a rigid repayment schedule, which involves more efforts to generate Cash Flow to fund interest payments.||Grants are provided in many tranches based on the attainment of particular goals. As a result, status is always striving to meet the set goals.|
Return to Investor
|Capital growth for investors||Interest payments||No Return|
Involvement in Decisions
|Equity Investors desire to be involved in the decision-making process.||The Debt Fund has a relatively limited role in decision-making.||There is no direct involvement in the decision-making process.|
|Sources ||Angel Investors are high net worth persons who put money in small businesses. Self-financing, Friends and family, Venture capitalists are those who make an investment in businesses, Incubators/Accelerators for Crowdfunding etc.||Banks and Non-Banking Financial Institutions (NBFCs)||Government-Sponsored Loan Programs The Federal Government Governments of the States Challenges in the Workplace Private Entity Grant Programs|
Stages of startups and Source of funding
The company must determine why finance is important and in addition to the right Amount to be raised. The company should develop a milestone-based plan with clear timelines for achieving in the next two, four, and ten years.
A financial forecast is a systematically developed forecast of a company’s growth over a specific time period that considers expected sales data and market and economic variables.
Production, prototyping, research, and Manufacturing Expenses, to name a few, should all be paid attention to properly. Based on this information, the Startup may determine the next round.
Startups can receive Funds from a variety of sources. On the other hand, the source of finance should usually correspond to the level of the Startup’s operations. Please keep in mind that receiving Cash from other sources is a tedious process that can take up to 6 months to complete.
This is the stage in which the entrepreneur has a concept and is trying to make it a reality. The Amount of Funds necessary at this stage is usually less. Furthermore, there are few and primarily informal avenues for Financing at the early stages of a startup’s lifespan.
Bootstrapping a firm includes extending it with little or no Venture Funding or outside investment. It entails operating and extending your business only on your savings and earnings. Most entrepreneurs turn to this option Initially since there is no need to repay the Amount or give up ownership of your company.
Family and friends
This is an usual source of funding for entrepreneurs who are still in the early stages of their business. The main advantage of this type of investment is that the entrepreneurs and investors have a pre-existing Degree of Trust.
Events for Business Plans/Pitching
The prize money/grants/financial rewards granted by institutes or companies that hold business plan contests and challenges are conducted by this. Even though the sum of money is not big, it is usually enough during the concept stage. Having a tremendous business strategy makes all the difference at these events.
A startup has a prototype available and wants to confirm the demand for the product/prospective service at this stage. This is known by the term a ‘Proof of Concept (POC),’ followed by the main market launch.
Stage of the seed
A business will need to undertake field trials, test the product on a few potential Clients, hire Mentors, and organize a legal team before looking for finance from the following sources:
Incubators are Organizations that are dedicated to assisting entrepreneurs in the development and launch of their businesses.
Incubators provide a broad spectrum of value-added services (office space, utilities, administrative and legal support, and so on), administrative and legal support, and so on), but they repeatedly make grants, loans, an Investments.
Government-Sponsored Loan programs
The government has introduced two lending programs, the Startup India Seed Fund Scheme and the SIDBI Fund of Funds, to provide Collateral-free Financing to aspiring entrepreneurs and allow them to access low-cost investment.
People who put money in small enterprises are known by the term Angel Investors.
People who put money in high-potential enterprises in return for stock are called angel investors. For this, contact angel networks like Indian Angel Network, Mumbai Angels, Lead Angels, Chennai Angels, others, and other relevant businessmen.
The Network Page allows you to connect with investors.
Crowdfunding is a system of generating funds from a large number of people who individually give a fair Amount of money. Typically, this is done through internet crowd sourcing sites.
The Startup’s products or services have been released in the market at this level. During this stage, key performance measures like Client Base, incomes, and app downloads become crucial.
Stage A of the Series
During stage, funds are sought to extend the User Base, product offerings, and Geographic reach. Some of the most usual Funding sources used by companies at this stage are as follows:
Funds for Venture Capital
Professionally managed investment funds that make an investment primarily in high-growth companies are known by the term Venture Capital (VC) funds. Each VC fund has its own investing thesis, which should correspond to the Industry, stage of development, and Financing size. VCs take startup stock and actively advise their investor companies in return for their investments.
Banks/Non-Banking Financial Companies (NBFCs)
During this stage, formal Financing can be ensured from banks and NBFCs if the firm can display market traction and income, portraying its capability to meet Interest liability. This is specially true when it comes to working capital. Because Loan investment does not Undervalue Stakes, some businesses may choose debt to Equity.
Venture Debt Funds
Private investment funds that make debt-based investments in companies are known by the term Venture Debt Funds. Debt funds are usually used in conjunction with an angel or Venture Capital round.
The Startup is at present observing rapid market expansion and growing revenues.
B, C, D, and E series
The following are some of the most common funding possibilities for businesses at this stage:
Venture Capital Funds
Late-stage companies are funded by Venture Capital funds with increasing ticket sizes in their investment rationale. It is suggested that these funds be approached only when the firm has gathered enough market momentum. A group of VCs may band together to make an investment in a company.
Investing/Private Equity Companies
Usually, Private Equity and investment companies do not support startups; Though, certain Private and investment companies have recently provided funding to fast-growing late-stage entrepreneurs with a track record of sustained growth.
Acquisitions & Mergers
The portfolio firm may be sold to another company on the market by the investor. In essence, it includes one corporation acquiring (or part of purchasing) another or being acquired by another (in whole or in part).
Initial Public Offering (IPO)
The first time a startup is listed on the stock market is an Initial Public Offering (IPO). Because the public listing process is long and packed with legislative requirements, It is often carried out by businesses with a proven track record of profitability and sustained expansion.
Shares for Sale
Other Venture Capital or Private Companies may buy Investors’ shares.
The Startup’s founders can purchase back their shares from the fund/investors if they have liquid funds and desire to retake control of their company.
Steps to Startup Fund Raising
The willingness of the entrepreneur to put in the time and effort necessary for a successful fundraising round is crucial. The following steps can be used to break down the fundraising process.
· Assessing Need for Funding
The business must identify why Financing is necessary in addition to the proper Amount to be raised. The firm should develop a milestone-based plan with clear timelines for achieving in the next two, four, and ten years.
A financial forecast is a systematically developed prediction of a company’s growth over a specific period that considers expected sales data and market and economic variables. Production, prototyping, research, and manufacturing Expenses, to name a few, should all be properly considered. The Startup may use this information to decide the purpose of its next round of investment.
· Assessing Investment Readiness
While determining the firm’s financial needs is crucial, determining if the business is ready to raise funding is equally critical. Any investor will take you seriously if your revenue predictions and returns are persuasive. Investors look for the following criteria in a potential investee startup:
-Growth in revenue and market share
-Return on Favorable investment
-Break-even and profitability times
-The Startup’s uniqueness and competitive advantage
-The entrepreneurs’ vision and aspirations for the future
-Team that is reliable, dedicated, and talented
· Preparation of Pitchdeck
A pitch deck is a thorough presentation on a startup that outlines all of the company’s key features. It’s all about delivering a convincing story when it comes to putting up an investment proposal. Instead of being a series of isolated slides, your presentation should flow like a story, with each part connecting to the next. Here’s what you should put in your pitch deck.
· Investor Targeting
Every Venture Capital company has an Investment Thesis that lays out the Fund’s approach. The Investment Thesis describes the company’s phase, Area, Investment focus, and differentiation.
You can find the company’s Investment Thesis by thoroughly evaluating the company’s website, brochures, and fund description. You’ll need to check into their Investment Thesis before market investments and speak with entrepreneurs who have successfully collected Financing to find the right investors.
This exercise will assist you in the following areas:
-Determine which investors are active.
-Their preferred industry
-Place of residency
-The average size of a Financing ticket
-Mentorship and level of participation provided to investee startups
Pitching events are a great way to meet and talk to possible investors in person.
· Due Diligence by Interested Investors
Before closing a stock acquisition, angel networks and VCs perform comprehensive due diligence on the business. They evluate the Startup’s last financial mistakes and the team’s credentials and experience.
This is done to assure that the Startup’s claims about growth and market figures can be validated and to ensure that unwanted behavior may be identified ahead of time by the investor. If the due diligence is successful, the funding is finalized and closed on mutually agreed-upon terms.
· Term Sheet
A term sheet is a series of “non-binding” propositions presented by a Venture Capital firm during the early stages of a agreement. It outlines the major terms of the Venture Capital firm’s/contract investors with the Startup.
A term sheet for a Venture Capital contract in India includes usually the valuation, Investment Structure, Management Structure, and share Capital alterations.
Startup valuation refers to the whole value determined by a professional valuer.
The Cost to Duplicate strategy, Market Multiple approaches, Discounted Cash Flow (DCF) analysis, and Valuation-by-Stage approach is all ways for evaluating a new firm. Investors select the appropriate strategy based on the Startup’s development and market maturity stage.
Form of Investments
It identifies that the Venture Capital investment will be made in Equity, Debt, or a combination of both.
The term sheet outlines the company’s Management Structure, that includes a Board of directors list and appointment and removal processes.
Share capital changes
All startup investors have investment plans, and accordingly, they aspire Flexibility because exit options are considered in latter rounds of funding. The term sheet outlines the rights and responsibilities of stakeholders if the company’s share capital changes.
What do investors look for in startups?
Goals and Problem-Solving
Any startup’s solution should be differentiated to address a specific consumer problem or fulfill specific customer wants. Patented ideas or goods have important growth potential for investors.
Team & Management
In addition to all of the characteristics described above, the Founders’ Enthusiasm, Expertise, and Talents and the management team’s ability to propel the firm ahead are equally important.
Market size, achievable market share, product Growth Rate, last and expected market growth rates, and macroeconomic factors for the market you plan to target.
Scalability and long-term viability
Startups should display the ability to expand quickly and a long-term and viable business plan. Barriers to the entrance, imitation costs, Growth Rate, and development plans should all be taken into Account.
Customers and Vendors
Your buyers and suppliers should be identified. Consider customer links, product stickiness, vendor contracts, and current vendors.
Analysis of Competitors
It is important to paint a clean image of the competition and other market players working on similar projects. Although an apple-to-apple comparison is impossible, emphasizing similar companies’ service or product offerings in the sector is critical.
Marketing & Sales
It makes zero difference how great your product or service is if it doesn’t have a purpose. Consider sales forecasts, targeted audiences, product mix, conversion and retention rates, and so on.
A thorough financial business model that portrays Cash Inflows through time, in addition to important milestones, break-even thresholds, and growth rates. During this phase, all presumptions made should be acceptable and clearly stated.
Avenues of Exit
For an investor, a startup that displays prospective future acquirers or partnerships proves to be a crucial decision criterion. Exit alternatives include Initial Public offerings, acquisitions, and further fundraising rounds.
Investors make an investment in startups for a variety of reasons.
With their investment, investors own a piece of the firm. They are putting money down in return for Equity, including a share of its ownership and rights to future revenues. Investors form a Partnership with the companies they invest in: if the company succeeds, investors earn profits equal to their own position; if the Venture fails, investors lose their money.
Investors can get their money back from enterprises through several leaving alternatives. The VC firm and the entrepreneur should evaluate potential exit options at the commencement of investment negotiations.
A high-growth, high-performing company with strong Management and Organizational proceedings is more probable to be exit-ready sooner than other businesses. All investments made by Venture Capital and Funds must be sold before the end of the Fund’s tenure.
SIDBI Fund of Funds Scheme
The Indian government set up a fund of INR 10,000 crore to increase capital availability and encourage private investment, speeding the growth of the Indian startup ecosystem.
The Fund was established like a Fund of Funds for Startups (FFS) in June 2016 by the Department for Promotion of Industry and Internal Trade (DPIIT), which was allowed by the Cabinet and constituted by the Department for Promotion of Industry and Internal Trade (DPIIT).
FFS does not engage directly in startups; instead, it finances SEBI-registered Alternate Investment Funds (AIFs), sometimes known by the term daughter funds, which then make an investment in high-potential Indian entrepreneurs. SIDBI has been tasked with monitoring the disbursal of committed money and administering the FFS through selecting daughter funds.
The Fund invests in Venture Capital and alternative investment funds, which in turn make an investment in companies, like a downstream investment. The Fund is structured so that it has a catalytic impact. Startups receive funding at several stages of their development.