Fund is the fuel for the sustainability and growth of a business. Even if you have a creative idea and a workable business plan, you need fund to implement it. Fund raising is a challenge for most of the businesses. Whether you are starting a business or want to expand it, you need funds. Then how to raise funds? By how many ways, you can raise fund. Which fund raising method would be suitable for you? In this article, we will learn popular fund raising methods and try to find answers of these questions.
Most Popular Fund Raising Methods
This is one of the popular fund raising method used by the businesses. Angel investors, also known as seed investors, are high net worth individuals, who provide finance assistance, generally in exchange with equity in a business. Unlike the traditional loan providers, they don’t create obligation on the borrower to repay the loan. Angle investors take risk and they focus on creating value to the business they are investing. Usually, they request for equity share in the business so that they may earn profits in the long run. These investors normally invest at the initial phase of the business, to earn more profit from it. Apart from providing financial assistance, they sometimes also provide expertise to the business. Some angel investors invest through crowdfunding platforms or make a network of angel investors to pool capital together.
Crowdfunding is a method of raising fund for financial projects or businesses from a large number of people through online platform. This method is mostly used by the start- up companies or the businesses which are at their growing stage and need fund. There may be other purposes of crowdfunding, such as, medical emergency or a social cause. The purpose of crowdfunding is to collect money from friends, family, customers and individual investors primarily online through social media and crowdfunding platforms and leveraging their networks for greater reach and exposure.
This is the traditional method of raising fund for the business. In this method, the borrower takes loan from a bank or financial institution on pre-defined terms and conditions. The loan providers do not take risk and expect a definite return (interest rate) in their investment. Business loans may be taken for various purposes such as for purchasing plant and machinery, purchasing raw material, for meeting operating expenses, capital expenditure, etc.
Business loans are of two types. Secured and unsecured loans. Secured loans require to pledge the collateral with the loan provider to secure the loan and no collateral is required in case of unsecured loans. Unsecured loans are costly (have high interest rate) as compared to the secured loans since there is more risk to the loan provider in unsecured loans.
This is one of the most common method of raising fund. In this method, the lenders directly lend money to borrowers and there is no role of third party in this case. Peer-to-Peer lending (P2P) is also known as ‘social lending’ or ‘crowd lending’. The cost of capital i.e. interest rates are much higher in P2P as compared to traditional methods of lending. There are many P2P websites, which connect borrowers directly to the lenders without the involvement of middle men. The credit rate of these sites vary according to the creditworthiness of the applicant.
If you have enough money to fund your business, then you can invest your money in the business. In this case you will not have to pay the cost of capital in the form of equity, neither you will have to give your equity to others. The profit earned by the business will be yours but the risk is more in this case as if there is a loss in the business, you will lose money.
Self-finance is best when you are starting your business. Even if during the initial phase of your business, you approach any capitalist or try to secure a loan from a bank or financial institution, they will ask about your investment in the business. Hence, during the initial phases you may consider investing your money in the business and at the later stage you may try for other options to raise fund to grow your business. If your business is growing, you will be eligible for business loans and you may get loans easily.
Venture capitalist is a private equity investor, who provide funds to start-ups, early-stage and emerging companies that have high potential to grow in the future. They invest directly at the early stage of the companies in exchange of equity from the firms and aim to earn high profit from the company they are investing when it grows in future. Since the future of start-ups is highly uncertain, venture capital investments have a high rate of failure. Venture capitalists generally search for companies having innovative idea and for the firms who are from the high growing industry, such as information technology (IT), etc.
Venture capitalist (VC) firms are usually formed as limited partnerships (LPs) and the partners invest in the VC firms. The partners pool fund and a committee within the VC makes all the investment decisions. Once a high growth company is identified, the funding is made from the pooled capital.
Bootstrapping a company occurs when a person starts a company with little or no assets. Instead of depending on the external funding, bootstrapped founders rely on personal savings, lean operations and quick inventory turnout, to become successful. The bootstrapping may be beneficial in the sense that the entrepreneur has more control over all the matters of the firm but on the other hand, there is more financial risk in this method.
Fund is the most important instrument for the sustainability and growth of any business. The greatest of the business ideas and business plans need funds in order to be implemented successfully. The entrepreneurs may opt for any of the methods described above to raise finds but before opting for any of methods, they should know how these methods operate and what the pros and cons of each method. You should be careful about what the lender is asking in return. Whether you have to pay interest on the loan or you are giving equity to the investor, a proper analysis should be made before deciding on a particular method of fund raising. If you are just starting your business or at the initial phase of the business, then it is always better to start with your money. Later on, when you are at growing stage and become eligible for business loans, you may seek external financial assistance to scale up your business.
Also read: Revenue Model Meaning and Types