Although attaining funds to advance your startup can be pivotal to its success, you can bet that securing financing will take more time than a simple trip to the bank. There are lots of non-traditional financing options available and not all terms are the same. Understanding which type of financing will best meet your startup’s capital needs before pursuing of any one source of funds is crucial.
Two popular sources of funding are venture capital in the form of Series A funding and Revenue-Based Financing. Here’s what you should know about the pros and cons of each.
Series A Funding: Pros
- No-debt financing. Series A funding is money to be used to grow your company that doesn’t need to be paid back. In other words, it’s a big check with no bill.
- Investor connections. When you receive series A funding, your business will likely benefit from the professional connections of your investors. And, the right connections paired with an influx of cash can be just what your startup needs to scale.
- Investor confidence. When a venture capital firm agrees to invest in your idea through series A funding, it means that the firm thinks that your product has high growth potential. And, because landing series A funding is most often the end of a long road of pitches, finally hearing “yes” followed a big check can feel like success.
Series A Funding: Cons
- Loss of control. When you accept series A funding, you are giving investors a stake in your company. Early equity will be proportionally larger as your company becomes successful, giving early investors greater control than later ones.
- Risk of artificially accelerated growth. While series A funding can help you to grow your startup’s infrastructure, either by hiring new staff or increasing the marketing budget, these steps can be detrimental if revenue never catches up. Premature scaling, or spending resources on customer acquisition before reaching the correct market, is often one of the top reasons that startups fail.
- Time commitment. Fundraising rounds can be extremely time consuming and easily distracting from the legwork of slowly growing your customer base and improving your product. Spending time chasing the big money rather than focusing on growing your business organically can sometimes do more harm than good. While series A funding can be extremely helpful, achieving it shouldn’t be an end-all be-all measure of success.
Revenue-Based Financing: Pros
- Non-dilution. Revenue-based financing provides up-front capital to a startup in exchange for a set percentage of future revenue. Investors do not receive equity, which limits dilution.
- Less fundraising legwork. Revenue-based financing typically has specific and straightforward requirements for consideration. As such, it doesn’t require the ongoing time and effort of fundraising, freeing up business owners to focus on product development and revenue generation.
- Partnership perks. The faster that your business grows, the faster repayment and higher Internal Rate of Return (IRR) your investors will receive. This incentivizes investors to share business connections with the companies that they’ve invested in to help them grow.
- Flexible monthly payments. Revenue-based financing repayment terms are designed to be flexible for growing businesses with unpredictable revenue. For example, they might amount to 5% of net customer payments. So, if business is slow in a given month, your monthly payment will be lower.
Revenue-Based Financing: Cons
- Commitment of future revenue. When you agree to revenue-based financing, you are agreeing that a percentage of your startup’s future revenue will go to your lender each month for the term established by the agreement.
- Not widely available. In order to qualify for this type of funding, a startup needs to have an established steady revenue stream. This means that revenue-based financing is typically limited to startups that have bootstrapped or used angel financing previously.
- Minimal regulation. Not all providers of revenue-based financing are created equal, and because of limited regulation in the sector, its possible to sign onto a predatory loan.
Pursuing financing is a big step, and if done strategically, it can help your company to reach its potential. But, capital without the partnership of investors who are in it for the long haul is risky in any form. Remember, capital from either series A funding or revenue-based financing will only benefit your company if it enables your business to more effectively generate revenue. The right mix of capital and partnership can expedite revenue growth, but the wrong mix can doom your business.
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