Whether you’re an entrepreneur in the very beginnings of your launch phase, or you’re an established small business that needs a little push to get to the next stage of growth, finding a trustworthy investor can be key to realizing your goals. There’s so much conflicting information out there, however. What type of funding is best? How can you find investors? What’s the best way to reach out?
Before you jump in blindly, get to know the various types of investors, and what it takes to get investment capital. From friends to angel investors, we’ve got the rundown on the most sought-after business financing options for small business owners.
1. Look for Angel Investors
Have you thought about the term “angel investor?” These investors typically focus on early-stage investments and will put a good chunk of cash into your company, but unlike venture capitalists, won’t usually ask for a significant seat at the decision-making table. Partnering with one or two angels before opening your company to a full round of seed funding (such as a series A round), can help create deep partnerships with those early supporters of your businesses. You can do a lot with the money, but don’t have to spread yourself thin by pleasing more than one or two new investors at a time.
So, where can you find people with a passion for investing? There are networks of them, usually location-based that you can join. (Examples include AngelList and the Angel Investment Network.) They might be part of a funding program from an investment firm or group. You won’t be able to see who the members are, as these pre-screen investors value their privacy.
If you play your cards right, however, and come armed with a solid business plan detailing how you will use their money to make more money, your application might make it through to dozens of qualified and interested members just ready to take on their next project. While you can still go in search of individual angel investors, this membership model is more effective, and can even give you the leverage to choose the partnerships that work best for you.
2. But Start with Friends and Family
Here’s the reality. Very few business ventures are funded by outside investors. Aside from using their own money, or getting a small business loan, most business owners who do get investment capital will get it from friends and family.
It makes sense. It can take time to form strategic partnerships with new investors. In the meantime, your close relationships can be a trusted source of funding, provided you handle the partnership professionally. Currently, borrowing from family and friends accounts is a respected way to bootstrap your business. To make it work, however, you’ll need to follow some guidelines.
In addition to laying everything out clearly in a well-written and legally-binding contract, you’ll want to set clear verbal expectations on the role your investors will play in the business. If you just want the cash – and not your Aunt Jenny’s advice on how to decorate your corner office – say so. Don’t assume anything when working with loved ones. Clear boundaries and regular communication are the only ways these arrangements work well for all parties.
3. Reconsider Venture Capital
If you’re reading any of the entrepreneur publications out there, you probably hear about venture capital and the rise of VC firms. This method of funding, while substantial, is simply not realistic for most startup businesses. In fact, less than 0.5% of new businesses get venture funding through venture capital firms. It is only designed for high growth businesses – often, though not always, a tech startup.
Unless you have an idea for the next Facebook or a patent on something that will transform a high-worth medical procedure, your time is often better spent pursuing other avenues.
If you do have what it takes to secure this funding, however, understand how it differs. This funding assumes a longer investment with significant control given to the investor. Most venture capitalists will insist on not only equity in the value of the company, but a seat on the board of directors and other decision-making roles that will come into play in the daily operations of your company. Entrepreneurs shouldn’t take it on if you can’t part with some of the value of your company and its control. Professional investors will want their say in how things work.
4. And Consider Crowdfunding
A newer but potentially very appealing alternative to the venture capital path for startups is equity crowdfunding. This investment opportunity works much like other crowdfunding campaigns you’ve seen on sites like Kickstarter or Indiegogo for everything from comic book artists to the next big thing in beer coolers.
The difference, however, is that you aren’t giving away early access to products, or shout-outs. On equity crowdfunding platforms like WeFunder.com you offer equity (or sometimes debt).
Many equity funding platforms have cropped up since the passing of the JOBS Act, which has made it easier for this type of startup funding to take place. Your business can now raise up to $5 million in equity investment annually this way. Like any other crowdfunding platform campaign, you’ll need your marketing plan and slick assets to sell your potential investors on why they should pick you – instead of the thousands of other businesses clamoring for funding.
Successful crowdfunding campaigns take work. You’ll need to create a compelling pitch and you’ll almost certainly need to start by reaching out to your network to help fund your campaign.
You’ll also need to be prepared to part with some of your autonomy as a business owner. Decide in advance how much of your equity you can part with, and how that will affect bringing on future investors into the company.
5. Make Sure You Comply with the Law
It’s important to keep investment opportunities legal. Certain types of investment opportunities are limited to accredited investors. Know the basics about what the SEC requires, including how accredited investors compare to non-accredited investors. Currently, only accredited investors can invest in certain offerings, as they have met the requirements to show that they can sustain losses that may come from risky investments.
Generally accredited investors must meet certain requirements, such as a net worth of $1 million or more, or has income of at least $200,000 per year ($300,000 for married couples) for the last two years or a reasonable expectation of meeting that requirement, or holds certain professional licenses
To stay within the law, entrepreneurs should consult an attorney if they are unsure if someone is qualified to invest.
6. Consider Debt vs. Equity Financing
There’s a significant difference between debt vs. equity financing. With debt financing, such as a loan, the money is expected to be paid back, and the lender makes their profit from interest charged on the loan amount over time. With equity financing, however, the money isn’t usually paid back. The value received to the funder comes through owning a portion of the company. When the company grows as a result of their investments, their value in the company grows, too.
The pros of equity financing are that the investor has a significant interest in seeing you do well with your idea. In addition to giving you money, they may advise and counsel the founders, give you access to their talent network, or help you with marketing and promotion. The downside is that they would own part of your company. If, at any time, you didn’t like working with them, it’s difficult to disentangle.
With debt financing, are that you are free of the relationship once that last loan payment is paid off. While you’re making payments, there’s little the lender can tell you to do with regard to your business. The downside to debt is that, if you fail to make your payments on time, you could lose damage your business credit, or worse. You are also only getting cash. There’s no additional advice that most banks give. The exception is some of the SBA loan programs, which can provide technical support or mentoring as part of the loan program.
For most small businesses that will experience normal growth, small business financing is a much better option than finding investors.
Frequently Asked Questions About Finding a Small Business Investor
How Do I Protect My Business With A Small Business Investor?
If you are going to take on small business investment partners understand that you will be giving up some control of your business. The question will be how much? You’ll want to review the terms carefully and talk to an attorney as well as experienced investors to understand the risks.
Just like the investor will do their due diligence on your business, you need to do your due diligence on the investor. Unfortunately, it’s not uncommon to hear stories of business owners who were pushed out by investors who then tanked their business.
What Is The Difference Between A Small Business Investor And An Angel Investor?
There may be no difference, or a major difference. The term “small business investor” is a broad term that can refer to anyone who invests in small businesses. The term angel investor usually refers to individuals who provide financial support to startups or early-stage companies, usually in exchange for equity in the company. Most angel investors are high net worth individuals with extensive business experience, who want to invest in startups they believe have a great deal of potential.
How Does An Investor Make Money From Investing In A Small Business?
Most investors’ goal is to make money when the business is acquired or goes public through an Initial Public Offering. But that’s not the only way they may make money.
Investors may get equity in the company which they can sell, as long as there is a market for those shares. (Sometimes that can happen before an acquisition or IP0. And some businesses distribute profits to shareholders in the form of dividends.
Remember, from the investor standpoint, investing in a new business is extremely risky and that’s why it’s very hard for the average startup to find investors, especially outside of people they know.
What Are The Benefits Of Getting A Private Investor For My Small Business?
There are three main advantages to securing private equity investments in your business.
The first, of course, is money which can help you make the investments in your business that you need to make to grow your business.
The second is the expertise the investor can offer. A great investment partner may help you make smarter business decisions, avoid pitfalls and scale more quickly.
And the third advantage is the network you’ll gain access to. Successful investors can introduce you to other founders and investors who can provide invaluable advice and opportunities.
What Is A Fair Percentage For An Investor?
There’s no set number for a percentage of equity given by the founders, and what may seem “fair” to one company may not be for another. The average ranges from 20 – 58%, or more! It really depends on how your company is valued at the time and the amount given to you by the investor. It’s also important to know if they are asking for a percentage as equity in your company or a percentage return on their investment. There’s a big difference here.
Where Can I Find Angel Investors?
Angel investor networks, such as AngelList, are popular options. Your best bet is to network with other companies in your industry to see what resources have worked for them. Networks will come and go, so staying on top of what’s new can prove very helpful.
How Do You Attract Investors?
Many founders who have successfully found investors will tell you that finding investors and fundraising is a full-time job. There’s no single route to success. You’ll need to create attention for their business in a number of ways, including networking with proven startup investors, asking for advice, partnering up with a well-known co-founder, and promoting your early success to the right crowds – including on social media. Unless they get lucky, most business owners devote significant time to finding the right investor.
What Are Other Ways To Find Investors?
If you’re still not sure how to find an investor, don’t rule out these options. Business capital brokers are a good option. You can also learn a lot about interested private investors through networking with your local Chamber of Commerce, accountants, business groups, real estate investors, and investment advisors. They often hear about people looking for investment opportunities.
Pitch competitions may be useful and you can also try to get a foot in the door through one of several well-known startup incubators.
Finally, take advantage of resources available through the U.S. Small Business Administration. Through SBA resource partners like Small Business Development Centers and SCORE you can get free mentoring and assistance for your business. Find local help here.
What Is The Difference Between A Small Business Investor And An Angel Investor?
There may be no difference between a small business investor and an angel investor— or a major difference. The term “small business investor” is a broad term that can refer to anyone who invests in small businesses. The term angel investor usually refers to individuals who provide financial support to startups or early-stage companies, usually in exchange for equity in the company. Most angel investors are high net worth individuals with extensive business experience, who want to invest in startups they believe have a great deal of potential.
What is the Difference Between An Angel Investor And A Venture Capitalist?
Though both angel investors and venture capitalists may invest in younger businesses, there are some key differences.
- Venture capital firms typically make larger investments than angel investors.
- VC’s also typically take a bigger stake in the company and have higher expectations for a return on that investment.
- Angel investors often invest earlier than VCs.
- Angel investors may be able to provide a deeper advisory role than the typical VC.
This article was originally written on August 27, 2019 and updated on March 13, 2023.