Entrepreneurs generally create a business plan to facilitate outside funding for their new business venture. But, often they don’t realize they also need to choose what stage of business to seek outside funding and what funding source is best for their circumstances.
‘Seed money’ is a form of early funding to support a business before it is capable of producing money on its own or before its ready for additional investment. It is usually a smaller amount (tens of thousands) and is used for funding market research, business planning or product development. Consequently, it usually carries more risk since its purpose is to pay for assessing the feasibility of a business concept.
Seed money investors usually require a significant share in the business even though their investment amount may not be as sizable as later venture capital investment.
Venture Capital is the money needed to invest in the entire new venture (measured in hundreds of thousands or even millions), and with a lot more complexity in the legal aspects of structuring the enterprise and associated agreements. By the time venture capital is needed there is likely a good deal of supporting evidence to minimize the investment risk compared to seed money funding.
Sourcing Investment Money
The most often used sources for investment money for a new business fall into two primary categories…self-sourcing…and venture capital sourcing:
All three of these techniques have limitations unless you are already fairly wealthy.
- Personal funds — you can fund the business from your own savings or by liquidating an owned asset.
- Bootstrapping — For a relatively simple business concept you can sometimes ‘bootstrap’, meaning that with a very small investment, you can initiate the business then use the profits from each sale to grow the business. This works well in service businesses where start-up expenses are often small.
- Bank loan — You can try to borrow money from a bank, but this is often surprisingly difficult because banks tend to be very risk adverse.
Venture Capital Sourcing
- Venture Capital — with venture capital you can sometimes source very large quantities of money to help your business with big start-up costs and/or to grow very quickly. Be prepared to lose considerable control in the process and expect venture capital investors to either want to sell the business after it’s proven successful (in 5 to 10 years), or to make it a publicly traded company. Venture capital investors virtually always expect returns on their funding that go well beyond the normal internal rates of return of the business itself.