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Funding 101: Where does the money come from?

We at Forming Circles just wrapped up our Kickstart Your Business Grant and received over 300 applications.

The applications were a good indicator of how businesses were structured to grow via funding.

The applicants approach to funding was as diverse as their products and services. Most startups who applied have created value from minimal resources by learning how to bootstrap their company.

Not all entrepreneurs consider long-term funding and growth at startup stage. Mostly because projections can seem unrealistic and dependent on too many other factors and funding gets equated to profits. However, this is a pivotal process that helps entrepreneurs assess what their endgame is – keep the business trickling along nicely for many years or aim for the big bucks and massive growth.

The big bucks are usually the result of an innovative product or service that resonates very well with target audiences and good financial planning. It comes from having a vision for the business and road mapping a pathway to achieving it. Where will your business be in five or ten year’s time? Will it be self funded using profits or will you be seeking funding externally? If self-funded, how much profit do you need to make to achieve that growth? Is it feasible? If externally funded, what do you need in place to ensure your request for funding is successful?

Businesses go through different stages of funding depending on their lifecycle. Even if you are still in your day job and thinking about starting your business, it is worthwhile understanding the different types and stage so you can:

  • be aware of available options
  • plan for growth and know at what stages cash injections are required
  • figure out how much you want to grow by
  • know your limits / boundaries

The different types of funding available are Seed or Concept, Startup, Venture Capital (Series A, B and C stages) and Harvest (IPO).

Seed or concept stage is the passionate inventor stage where there isn’t a management team or prototype. This is the first injection of capital into the idea or company. The most common funding at this stage comes from: personal savings, credit cards, family and friends, grants, bank borrowing and non-bank finance.

Most banks don’t fund startups but lend against property. Depending on your product or service, you could also crowdfund your idea at this stage to raise capital. A good idea and a solid plan can raise anywhere between a few thousand to hundreds of thousands to get the business off the ground.

Startup stage is classified as when the business in underway, working with clients or customers and yielding revenues.The most popular funding options in this stage are: self-funded from profits, angel investment and grants. Angels come in with money after you have started selling. They jump aboard because you now have tangible proof of concept.

Angel funding usually scales up to $2 million. Angel investors often play a big role in mentoring the business as well. They’re likely to be after businesses with exceptional growth prospects, so you’ll need to demonstrate your potential.

Venture capital (Series A, B and C) stage has been combined as the different series are typically funded by Venture capitalists (VC’s). According to Commonwealth Bank, venture capitalists are professional investors who invest in promising businesses and help them grow, often to the point where they’re ready to be listed on the share market.

They make money by selling their share in your business, either on the share market or to someone else. A venture capitalist will typically seek to exit your business in three to five years with a return of 35 per cent p.a. or more. They’ll generally look to invest between $2m and $10m, depending on your business.

Series A funding typically comes in around the time the business has about 15 – 20 people (or more) and has decent revenue / turnover of a few million. Funding at this stage is sourced to achieve market penetration and initial sales goals, reach close to break even, increase productivity, reduce unit costs, build the sales organization and distribution systems.

There can be multiple rounds of VC funding and each round reflects different valuations. Series A is when the business shows potential of being acquired or sold a few years down the track. Series B (also referred to as ‘mezzanine’ or ‘bridge’ stage) is when the stock markets start noticing the company and VC’s inject more capital to maximize momentum. And Series C is when the company is close to IPO or listing stage.

Harvest or IPO stage is the big pay off after years of hard work when the company gets listed on the stock exchange or acquired by a bigger entity. What started out as a dream has become an entrepreneurial reality. The next challenge is to start all over again, but this time with a little more money.

Although it could seem overwhelming, think about your funding strategy as soon as you have your business idea. Even if you don’t plan on seeking funding, it’ll give you a picture of where you will be ten years down the track.

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Renata Cooper

Renata Cooper

Renata Cooper is the founder of social and ethical investment company Forming Circles. Committed to empowering people and ideas, through Forming Circles, Renata has invested in over 100 local and national businesses, individuals and organisations since its inception in 2011.

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