3 Common Startup Financing Myths Debunked
But as veteran entrepreneurs and first-time business owners will tell anyone, starting up isn’t as glamorous as some make it seem. One of the hardest parts of entrepreneurship is securing funding, and the process to attain funding has recently taken on an almost mythic nature of its own. Misconceptions are prevalent, but they can also be dangerous for a new business.
Follow along as we guide you toward the truth and debunk some popular myths about startup funding.
Myth 1: When Starting a Business, Debt Is a Killer
The fact is that not all startups will catch the eyes of venture capitalists and angel investors. While landing equity investors is a boon for companies looking for funding and advice, bootstrapping and taking on debt (in the forms of loans and credit) are the only options available for the majority of new businesses.
But this isn’t necessarily a bad thing.
Unlike equity financing, taking on debt and bootstrapping allow a business owner to maintain full ownership and management over a company. Bootstrapping involves relying on personal finances, quick turnaround, and eliminating unnecessary operating and production costs to generate capital. Debt can be in the form of a business loan or credit, offering operating capital for a business contingent on its repayment of the loan amount in addition to interest and any other fees.
Many well-known startups have bootstrapped their way to success, including Gawker, TechCrunch and Craigslist; even the job-board giant Indeed, which was acquired in 2012 for a price estimated between $750 million and $1 billion, was bootstrapped for years before gaining equity financing. And of course, countless other companies have used debt as a starting-off point; even well-established companies and government agencies oftentimes incur debt in the form of bonds to raise funds.
Paying off business credit card expenses on time will also help a company establish and build additional credit, which will help lower future borrowing costs and interest rates, help foster better relationships with suppliers and can even decrease insurance premiums.
The problem with debt and bootstrapping is that the entrepreneur assumes all the risk in a venture, whereas with equity finance, the risk of failure in most cases is assumed by all investors involved, spreading out the risk of any losses incurred. For this reason, many believe debt is too much of a risk, but history tells us it’s not a death sentence.
Myth 2: Venture Capital Is the Primary Source of Funding
There is a common belief in the world of entrepreneurship that startups are built upon third-party funding like venture capital, angel investors and seed funding. Popular shows like “Shark Tank” and “Dragons’ Den” have ingrained the notion in the minds of viewers that raising venture capital is a must for all startups, but this is far from the truth.
Fundable.com recently conducted a study that looked at the top sources of startup funding. It found that an average of 565,000 startups launch every month, and those startups raise an average of $78,406 in funding. A full 95% of these startups, however, are at least partially funded with personal savings and/or investments from friends and family. The study concluded that an entrepreneurs were 5 times more likely to use personal savings and credit cards than to use venture capital.
The full list is as follows:
- Personal savings and credit: $185.5 billion
- Friends and family: $60 billion
- Venture capital: $22 billion
- Angel investors: $20 billion
- Banks: $15 billion
- Crowdfunding: $5.1 billion
While venture capital can definitely contribute to the success of an enterprise, it’s just one of many options for small business fundraising. Early investors come in many forms, and the internet has introduced crowdfunding, which has quickly become one of the simplest ways to raise money for a venture. The fact is that businesses should look to acquire any and all forms of capital when looking for funding help instead of just focusing on what’s trending or popular in the media.
Myth 3: The Government Will Fund My Business
Many believe that government grants are widely available to help fund a startup, but federal grants are only offered to a limited number of qualified enterprises in certain industries. These include the medical, scientific, educational and non-profit industries, but beyond that, qualifying for a government grant is nearly impossible; in fact, even businesses within qualified industries find it difficult to acquire government funding, and those that do will most likely have to supplement that funding with additional private capital.
Another misconception is that the Small Business Administration funds new businesses. While the SBA offers a few loan programs for small businesses, the funds are extremely limited, and securing the loans can be ultra-competitive. The fact is that the SBA is a very useful resource that, among other services, offers help connecting small businesses with local lenders in an effort to stimulate economic growth. It’s important to utilize all SBA and other government resources when starting up, but being dependent upon them is a big mistake.
Keep in mind that government grants and loans, even when successfully acquired, will rarely fund your entire startup phase. Most awarded with government funds will need to turn to private capital to supplement Uncle Sam’s investments.
There is no one correct way to fund a new venture. Very few get lucky and easily land equity investors on their way to success, but the majority of entrepreneurs will struggle for capital and need to leverage their own money and credit in hopes of sustaining a business. The only surefire way to success is perseverance and the utilization of any and all available resources.
Nick is an in-house editor at Docstoc. He's a graduate of Cal State L.A. and a Pasadena hockey legend.