When you walk into an entrepreneurship class, the first thing they teach you is to be protective of your equity. Founders parting with too much equity and diluting their company to an extent that it compromises their decision-making process and lessens their control over their own startup is a tale as old as time. We have all seen it happen.
The way to avoid this is to be stingy with your equity from the start. Sure, getting Venture Capital firms on board and going the equity-financing route has its own merits and should absolutely be a part of your capital structure. However, it’s important to be cognizant of the fact that it’s not the only way to raise capital. In more cases than not, there are alternative non-dilutive methods of raising capital to build your business. Today we’re looking at a list of the different methods of raising non-dilutive capital i.e. funds you can raise for your startup without parting with any of its equity.
Revenue Based Financing – Revenue Based financing is a fairly new and fast-growing method of raising capital wherein founders can raise funds without diluting any equity. Instead, startups repay a percentage of their revenues till they cover the sum total of the principal plus interest amount.
Generally, this is an excellent option for startups that need funds to execute certain crucial functions such as payroll financing, marketing activities, inventory stock-up and a whole lot more. Apart from the central benefit of it being non-dilutive, this method is also much faster than equity financing and is flexible in nature. Slow months allow the business to repay a lesser amount as the repayments are tied to the revenue.
Venture Debt – Startups that are already backed by Venture Capital firms can raise capital through this method. It’s important to note that this debt is not provided by VC firms but by a specialized venture debt lender such as a bank, hedge fund or a private equity firm.
Early-stage, high-growth companies that are not in a position where they want to further dilute equity and are more willing to take on debt than part with shares are the ideal customers for this method. Uber and AirBnB are two large businesses that opted for this method in their growth journey. Like with the other methods mentioned in this list, it is a very viable complement to equity financing.
Grants – Grants are very popular within the nonprofit sector and are the most difficult to get access to. Unlike the other options in the list, you do not have to repay grant money, which makes it a highly sought-after resource. You should note that grants, whether provided by the Government or Commercial organizations, come with the most stringent red-tape on what the funds may or may not be used for, along with extensive reporting requirements.
Loans – Offered by Banks, Non-Banking Financial Institutions (NBFCs), Online Lenders, or Credit Unions offer either short-term or long-term loans to startups.
Short-term loans are easier to get and are popular on account of their efficiency as they are built to offer immediate funding and faster repayment. The quantum here is generally lower and the interest rates are higher than long-term loans. The payback period is shorter however, which makes it a viable option for many.
Long-term loans are a little harder to secure. Traditional banks have a tendency to turn away younger businesses. Raising money through loans is generally not ideal for businesses that have no collateral to put forward or have weaker credit histories.
Ultimately, the key takeaway is that there are several options available to source capital for your startup and you don’t necessarily need to dilute your equity for funds. The best option for you depends upon context – your preference around how much equity you are willing to dilute, what kind of goals you’re looking to achieve with the money, and the specific stage your organization is in at the moment. Here’s a quick checklist to keep in mind when seeking funding –
- How much money do I need to advance to the next stage? Do my milestones at this time need a founder/investor?
- Is my funder supportive of my objectives and brings me closer to my ideal customer?
- Do I understand the funder’s goals for my business? Am I clear on any criteria or rules that accompany the money?
- Have I done my research and contacted other entrepreneurs who have received funding from the particular funder I am pursuing?