Sources of business finance: 6 ways to fund your start-up
Looking to fund your start-up but not sure where to begin? We've compiled a quickfire comparison of six popular sources of finance for small businesses
Come up with a killer business idea? Check! Put all the groundwork in place? Check! Got the money to fund it?…This is where entrepreneurs tend to hit a roadblock.
Thankfully, there are plenty of financial options available to start-ups who are looking to fund their growth. Here, we explore what the six most popular sources of business finance are and unpick some business finance jargon along the way.
Here are the six sources of business finance we’ll cover in this piece:
- A startup business loan
- Private equity, venture capital and corporate venturing
- Invoice factoring
- Angel investors
- Enterprise finance guarantee
1. A startup business loan
One of the most popular sources of finance for a business, a Start Up business loan is a sum of money borrowed from an organisation to fund your startups’ growth.
If you’re starting a new business, or have been trading for fewer than two years, you may be eligible for a government-backed Start Up Loan.
But, what is it?
An unsecured personal loan of up to £25,000 for business-only purposes – repayable at 6% interest p/a.
As with all loans you’ll be required to pay it back, along with interest – but you won’t have to give up any equity to the organisation. You’ll also need to undergo stringent credit checks and present a detailed business plan to the lender.
Before deciding which loan to apply for, make sure you understand the difference between secured and unsecured loans, and consider – realistically – how much you’ll need to borrow and how long it’ll take to pay it back.
Secured loans require you to have assets you can sell if you can’t keep up repayments, whereas unsecured loans don’t – but they do need you to have a promising track record.
The Start Up Loans Company lends between £500 and £25,000 in an unsecured loan – aim to make it easier for entrepreneurs to get going.
Peer-to-peer lending platforms. Defined as ‘alternative finance’, online peer-to-peer lending platforms like Funding Circle enable businesses to borrow money from investors quickly and on a flexible basis.
2. Private equity, venture capital and corporate venturing
Private equity is a type of private financing that operates away from public markets. Private equity can involve the making of direct investments, or buyouts of entire companies.
Moving on to venture capital: this type of funding is a specific form of private equity in which capital is provided to entrepreneurs by investors. Venture capital can come in a variety of forms depending on which stage it’s provided at.
The three forms of venture capital are as follows:
- Seed financing
Intended to scale-up an idea. Taking it from a concept to a concrete and marketable product or service.
- Early stage financing
Helps entrepreneurs grow a company once a product or service is already on the market.
- Series A financing
Series A finance is usually a company’s first significant round of funding after it has taken steps towards proving its business model and demonstrated its potential to generate revenue.
Private equity provides easy access to alternative forms of capital for entrepreneurs, but, as it’s a private agreement, the valuations are not set by the market and it can come in many forms – from venture capital to whole company buyouts.
Corporate venturing is a form of financing that provides funds to emerging businesses with high growth potential, usually in exchange for equity. Alternatively, corporate venturing refers to when corporate funds are directly invested into external startup companies.
3. Invoice financing
A speedy way to get cash into your business while you’re waiting on payments from customers or clients – and a good way to alleviate the headache caused by late-paying customers – invoice factoring is similar to invoice financing, but the processes operate differently. Both are explained below.
Invoice factoring involves selling unpaid invoices (also known as receivables) to a financial company.
Usually within 48 hours, the company will pay you a bulk portion of the money owed on the invoice (known as a cash advance). The financial company itself will collect payment from the client, then pay you the remaining money (known as the reserve), minus the fees they charge for their services.
You can find out more in our detailed guide to factoring and invoice factoring fees.
Rather than selling your unpaid invoices, invoice financing enables you to borrow money against them.
While waiting for an invoice to be paid, you can borrow a bulk amount of the invoice’s value from a financial company and receive it as a cash advance. Once your client pays you, you’ll be required to pay the money you were lent back.
When deciding whether to factor or finance, you’ll need to consider various factors such as fees, flexibility and whether it’s important to you that your business takes customers’ payments directly.
4. Angel investors
Angel investors are high-net-worth individuals, often with extensive business experience, who can provide capital early in a business’ life – in exchange for a portion of equity (they will want a return on their investment!).
Many will also act as mentors, using their experience and connections within a particular sector to propel the start-up’s growth. If you’ve watched the BBC’s Dragons’ Den, you’ve seen angels in action.
How to find an angel investor:
It’s very unlikely that an angel will notice your business from afar and reach out to you. Finding one yourself is all about being proactive:
- Attend events that angels will be going to. Take your business cards and prepare a short elevator pitch that explains your business’ concept.
- Reach out to angel investors on LinkedIn.
- Ask other business owners to introduce you to the angels they’re connected with.
- Research angel syndicates (networks of angels who invest together in the same businesses) – they tend to run pitching events which you can apply to join.
Remember, research is crucial to finding the right angel investor. Many will stick to investing in the sectors they have most experience in, so look into their investment portfolios, websites and social profiles to find out whether your business is one they’d be interested in.
For more advice, check out our feature on how to find angel investors for your start-up business.
5. Enterprise Finance Guarantee (EFG)
An EFG scheme allows businesses that do not have sufficient security to access finance. To acquire an EFG, the business must make a proposition to then be assured by the lender – however, a lack of security means that the lender’s normal requirements cannot be met.
In this instance the government, operating through the British Business Bank, guarantees 75% of the facility balance to the lender, meaning that an original ‘no’ to making the lend, can then become a ‘yes’.
Then, the lender, using the EFG, can offer the finance originally requested by the business. To be eligible, the business must be UK based, with a turnover of no more than £41m, and be able to repay the finance facility.
Securing an EFG can mean that a business now has the financial means to fulfill its growth potential. The business does remain liable for paying 100% of the outstanding facility, plus a 2% annual Guarantee Fee to the government as a contribution towards the cost of the scheme.
The below infographic shows the EFG process in slightly more digestible terms:
Full details on the scheme’s terms and conditions can be found on the British Business Bank’s website.
An incubator firm is an organisation that fosters early stage businesses during its first stages of development – this support goes on until the business is finance and resource-rich enough to support itself.
A little bit like an actual incubator looks after its charge until it’s strong enough to live independently, an incubator firm looks after the business it’s interested in.
But, what’s the catch?
As we all know, nothing in this world comes for free, and the same goes for incubator firms. An incubator firm will be looking to gain equity in a company it invests its time and resources into, as a fair exchange for their services.
How does it work?
An incubator firm will invite startups to become part of a cohort of selected companies to participate in a programme – these programmes are often several months long. Some firms host multiple cohorts, whilst others have a less rigid structure.
Startups in the programme will have the chance to work with advisors and mentors, offering business experience and expertise. There might also be tasks to complete throughout the course, undertaken in a classroom-style format.
The incubator scheme will help develop the startups involved and many incubator firms will take a stake in the startups that successfully complete their programmes – giving the companies seed capital (initial funding to get things off the ground).
Come the end of the programme, startups will be expected to present their business plans to potential investors and other startup entrepreneurs looking to collaborate or invest.
Some top incubators include:
A thriving hub for tech entrepreneurs, the Google Campus in London is known for its supportive approach to growing the world’s tech economy.
Focussing on providing laboratory and office space to businesses in the health, wellbeing, life science and biotech companies, Cardiff Medicentre works in partnership with Cardiff University and is great for networking.
Located in the Midlands at Nottingham Trent University, the Hive boast an impressive 80% survival rate of businesses up to 3 years after incubation. The incubator services a wide range of startups and remains the top choice for startups establishing themselves in Nottinghamshire and Derbyshire.
Now you should have a clearer idea of what the ins-and-outs of business finance involve, and how your startup business can capitalise on some of the financial services that are out there.
From loans to equity, angels and incubators, the world of business finance is full of terms that can make it hard to know what kind of support is best for your business.
Now you’re fully armed with all the knowledge you’ll need to navigate the business finance minefield with confidence.
Didn’t find what you were looking for here? Try reading 10 ways to fund your business without a bank loan.