Financing Young, Idea-Stage Businesses
Where do idea-stage small business owners find financing?
Without a doubt, idea-stage and brand new startups have the hardest time walking into a lender and leaving with a loan. There are a few challenges these entrepreneurs need to overcome:
- They have no product
- They have no income
- They have no track record
- They are very high risk
I’ve walked a mile in these moccasins before, so understand the pain of overcoming these challenges. And, as a young man working in my father’s business, he used to regularly complain about what the bank wanted before they would give him a loan. “If I had that, I wouldn’t need a loan,” he would say.
Although different lenders have different tolerances for risk, no lender is going to lend money to a borrower without the means to repay the loan. Hence the dilemma of the early or idea-phase entrepreneur. No product and no income usually mean you won’t be able to make next month’s loan payment.
Many entrepreneurs in this phase end up relying on the faith and generosity of family and friends (last year Pepperdine University reported that 71 percent of the people they surveyed found the money they needed from friends and family). Distasteful as it might be to approach Uncle Fred for money, many entrepreneurs are forced to go there. Depending upon how responsible you are and how you handle the transaction, it could make future family gatherings uncomfortable, but when treated like any other business transaction—there are many entrepreneurs that make it work. Determine whether you will be offering equity to Uncle Fred or are taking out a loan. Make it official and treat it the same way you would with any other third party. Don’t fudge because you believe Fred will be forgiving.
With housing on the rebound for the last several months, dipping into your home equity is another option. “Prices are predicted to continue to rise in 2014, but at levels closer to historical norms,” writes Kimberly Weisul for Inc. “Zillow is predicting a 4.6 percent increase between November 2013 and November 2014, while the National Association of Realtors forecasts that home prices will rise 6 percent this year.”
If you’re not totally upside down and have some equity in your home, you might be able to access a little bit of that equity to get your feet off the ground—provided your personal credit is still in one piece. That’s how my father started his business almost 40 years ago and how I’ve done the same thing. Of course, just because you can doesn’t mean you should. If you don’t make your regularly scheduled payments you will likely lose your home. No income doesn’t bode well for making timely payments on any kind of loan.
Crowdfunding is an option I’ve become more interested in over the last year or so. Originally, an investor wanted something like an inside track on new products or a sandwich named after them. Recent SEC rules make it possible for investors to gain equity in a fledgling small business. What’s more, businesses that might not be interesting to a traditional venture capitalist (read sexy tech startup here) are finding success turning to the crowd. It would be misleading to suggest that it’s easy, but there are investors interested in getting on the ground floor of a potentially great idea and are willing to wait until your great idea becomes a huge success. Do your homework first before you jump in with both feet. Explore a few crowdfunding platforms before you get started.
“Even without the ability to offer equity, Kickstarter, the largest crowdfunding site, says it has already helped companies raise some $933 million,” writes Weisul. I think we’ll see this vehicle impact early stage and idea-stage entrepreneurs and their ability to access capital.
Without a doubt, this is the hardest part of the small business ecosystem to finance, which is why so many Main Street business owners opt to bootstrap the first few years—another legitimate option for getting a fledgling company off the ground.
Click HERE is you want to read about options for poor or no credit.
Click HERE to read about the importance of collateral and how that can make financing easier.
Click HERE to learn more about loans from friends and family.