Capital. You’ll be hard-pressed to find a business that doesn’t need any to function and yet, for most businesses, understanding “capital” and capital needs can be a confusing and murky topic. Over the next two weeks, we hope to take out some of the mystery related to capital (both what it is and how to raise it) in this four-part series, Understanding Capital. In our first installment, we provided a primer on the different types of capital. In Part 2, we talked about the more traditional ways of raising capital. Today, in Part 3, we’ll talk about the non-traditional ways of raising capital. And finally, in Part 4, we’ll talk about how to get out from underneath capital.
Crowdfunding refers to raising capital by collecting small(er) contributions/investments by a large number of individuals, usually through a website. Some popular examples are Kickstarter and Indiegogo. Crowdfunding is popular for innovative and unique ideas that have the ability to energize a large group of people – often, the company raising the funds rewards investors for supporting the project. Crowdfunding is not a great choice for long-term funding but can provide you with the catalyst you need to get your product to market. Beware though, sharing your idea online before you’re able to execute on them open you up to the risk that someone else tries to come in and replicate your idea before you get to market.
Angel Investors are investors who inject capital into early stage or start-up companies in exchange for equity or a convertible note. These investments are typically made in smaller amounts by individuals who show an interest in a particular product. Early stage companies may seek out multiple angel investors to help accelerate themselves to the post-revenue stage before seeking out venture capital.
Venture Capital is capital provided to high growth and high potential startups and businesses who are believed to have long-term growth potential. Venture Capital can be raised through investment banks, investment groups or individuals. In addition to an injection of capital – in exchange for equity – venture capitalists usually help manage or control the business lending expertise in particular fields along with financial support. It is not uncommon for businesses to seek venture capital from multiple firms depending on the expertise each can provide. While venture capital is a “hot” topic in the entrepreneurial world, it is extremely difficult to procure.
More mature or established businesses may benefit from partnering with a private equity firms. These firms tend to invest in more seasoned companies and, depending on their investment strategies, may focus on either distressed or stable companies. Like venture capitalists, in addition to an equity stake, most private equity firms take on a managerial role within the company.
Angel investors, venture capitalists and private equity firms invest in companies in which they believe they will see a return on their investment. That means, each investor typically goes into a deal with an exit strategy in mind. That strategy could be a merger, acquisition, initial public offering or sale of assets. Companies that accept these types of funding should be cognizant of the proposed exit and if long term growth is a goal, may seek additional, more traditional types of funding.
Which Method of Raising Capital Is Best?
Different types of businesses have different capital needs. Service-based businesses tend to have less financial capital needs and higher human capital investments, while product-based businesses require larger influxes of cash and equipment to produce their goods. Working with your financial advisors (i.e. your business accountant and CFO / Controller), you should ensure that you understand how much capital is required to operate your business and then seek out the type of capital that best suits your needs. Your attorney can help advise you on the risks associated with the capital and help structure your capital raises to best benefit your business.
This article is for informational purposes only and does not constitute legal advice nor does it create an attorney-client relationship. Always consult appropriate legal counsel for specific questions related to your business. Some states may consider this attorney advertising.
Stinson Mundy is the founder of Linden Legal Strategies PLLC, a Richmond, Virginia-based law firm focusing on business law and development. To learn more about how Linden Legal Strategies can help you start, grow and protect your business, or to schedule an initial consultation, contact Stinson.