Learning Optimism

If you’re thinking about starting your own business or are already in the process of doing it, the question of whether you should raise some money for your venture will inevitably come up. It’s a good question and one you should be asking. I’ve spent a better part of my career being a venture capitalist and investing in small companies. Then I went and launched my own company called Work It, Mom!, which is a community for working moms. I’ve learned a lot about raising money from my experiences and I wanted to share some of it with you. I hope you find this useful and I am always eager to hear your reactions and questions, so please post them in the comments section.

Here are my 5 tips for raising money for your small business:

1. You don’t need to raise money to start a business and many businesses won’t require you to get outside funding at all.

You can start many businesses without much initial investment. Business cards are cheap or free, there are many ways to create a simple website without spending a lot of money, and you can start networking without going to expensive events by joining online communities and becoming an active participant in blog discussions that are relevant to your business. Before thinking about raising money think about how much you can achieve to get your business going by spending very little money.

Here’s an idea that I’ve found useful when thinking about funding a business. Create a list of all the expenses you think you will have in starting and running your business. Depending on what type of business it is, this list will include everything from marketing materials, website, logo design, association fees, product development, marketing budget, PR budget, and so on. Then go through your list and next to each item write down a few ideas for how you can get this item done by being extremely frugal. For example, use free business cards from a place like vistaprint.com instead of paying for fancy ones; instead of getting a dedicated designer to work on your logo, check out a place like Logoworks.com where prices are much lower; find a free or very cheap way to get your website designed and hosted, and so on. Get in a frugal mindset and try to minimize your start-up expenses. The more progress you can make in your business without raising outside capital, the better off you’ll be.

2. Focus on generating revenues.

The best source of capital for your business is revenues. So before you think about raising money focus on how your business will generate revenues. What product are you selling and what will your clients be paying for it? Check out your competitors and their pricing. Think about how soon after launching your business you will be able to generate some revenues. For some businesses, like consulting, revenues come quickly, for others, like advertising-based internet companies, revenues come only after a certain level of traffic is achieved. Thinking about revenues and when you can realistically start generating them will help you plan for when you might need to raise some outside capital.

As with expenses, be creative when you think about revenues. For example, say you’re starting up a software company. You need capital to build the actual software that you will sell. But instead of raising money how about finding a client who will pay for the development of this software if it is customized to their needs? Generating some consulting revenues while you build out your product is another great way to get some money in and prolong the time until you have to raise outside capital.

3. Raise as little money as possible at the beginning.

Whatever money you raise for your business, it comes with strings attached. A loan comes with interest. An investment comes with someone else having a piece of your company and having a say about where you take it and what you do with it. The less money you can raise early on is better.

Some experts disagree with me; the phrase “Take as much as you can,” is a popular one in the venture circles. I think there are far more benefits to raising less money than raising more:

• You give away less of your company.
• You are forced to be extremely frugal with expenses and be focused on revenues at all times.
• You develop a culture of frugal spending and focus on profitability in your company and this positively influences your employees and contractors in the short and long run.
• You make mistakes without wasting a lot of money along the way. Every business owner makes mistakes and changes early on. It’s better to make these mistakes and changes without spending a lot of money.

4. Carefully consider different sources of capital.

Not all money is created equal. Here are some common sources of outside financing for small businesses:

• Your own savings. This is a great source of financing but spending all of your savings to start your business is extremely high risk and not something I recommend. Take your full financial situation into account and decide how much money you can allocate to your business. I strongly discourage cashing out your 401K to fund your company, although some entrepreneurs have done it.

• Loan or investment from friends and family. This is one of the most common sources of capital for small businesses. My main suggestion if you take money from friends and family is to make sure that you create a formal agreement as to the terms, repayment, interest, percentage of equity in your company, and whatever other conditions might be involved. Doing business with people you are close to is not easy; to safeguard from unpleasant things happening later, agree on terms, be fair, and sign a formal agreement (which a lawyer can prepare very inexpensively.)

• Bank loan. Many banks specialize in small business loans and the terms can be quite favorable. It is usually very difficult to get a bank loan if your business does not have assets or revenues that are expected to come in, but in some cases you can use your personal assets to secure it. Bank loans are generally better for companies with more predictable revenue streams.

• Angel investment. Angels are high net-worth individuals who invest money in start-up companies. An angel investment is a great source of capital to consider for your business, especially if your business has something to do with technology, an area where many angels focus their investments. Angels invest anywhere between $10,000 to sometimes $250,000 in early-stage businesses, with most common investment amounts being somewhere around $25,000 to $50,000. They can often help you with more than just capital, as many have tons of experience running or investing in companies. The tough thing about angels is finding them. There are a few angel groups and you should check for one in your local area. But many angels operate independently and the only way to reach them is through networking.

• Venture capital investment. Venture capitalists invest in companies in return for taking ownership of a percentage of each. They make money if a company is sold or goes public at a higher value than they invested in it. Venture capitalists are professional investors and have the toughest investment terms. They will not only own a piece of your company if you take money from them, but will be involved in key business decisions, including how fast to grow the company and when and if to sell it or shut it down. When you take venture capital you are no longer in control of your business – you now have partners who ideas, suggestions, and priorities you must consider. This is not necessarily a bad thing and many venture capitalists can be extremely helpful in growing your company. But don’t underestimate the level of their involvement. There are hundreds of venture capital firms in the US and each focuses on certain stage companies and certain industries. Cold-pitching a venture capital firm is usually a waste of time. You need to network to get an introduction and this takes time and patience. While there are some venture capital firms that will invest in your company before you have any revenues, this is becoming less common; most want to see some evidence that what you have is not just a good idea, but a real business. (NVCA.org is a website for the National Venture Capital Association, where you can search for venture firms in your area and learn more about the venture industry as a whole.)

5. Get a thick skin.

The process of raising money for your business is tough, long, and filled with hearing “No.” It’s rarely pleasant. Common advice you hear says don’t take rejection personally, but as a fellow entrepreneur, I know this is close to impossible. Your business IS personal; it is a part of you. What I find helpful is setting realistic expectations and making sure that you check in with yourself often to see what is working and what is not. If you’ve pitched five venture firms and each has said no, think about their feedback and whether any of it makes sense to you. You need not react to every criticism you hear, but sometimes you can learn a lot from these meetings.

Have faith. In yourself, in your business, and in luck. Luck – which can mean good timing, coincidence, etc. – is a key component in any business success, including raising money. But the only way luck can work for you is if you’re persistent and ready to take advantage of it when it comes your way.