Funding is the act of providing resources to finance a need, program or project. Sources of funding include credit, venture capital, donations, grants, savings, subsidies and taxes. There are two types of funding:
- Soft Funding
This type of funding includes donations, subsidies and grants that have no direct requirement for return of investment. It is also known as crowdfunding.
- Equity Crowdfunding
Funding that facilitates the exchange of equity ownership in a company for capital investment via an online funding portal per the Startups Act, is known as Equity Crowdfunding.
Funds can be allocated for either short-term or long-term purposes.
Purpose of Funding
Businesses regularly seek funding. This funding can be for one of these three reasons:
This is most often allotted in the fields of technology or social sciences. This type of funding is granted on the basis of a project, a department or an institute depending on the scope of the research or the project. Organisations that require such funding normally have to go through competitive selections.
For Launching a Business or Startup
Entrepreneurs with a business concept need the necessary resources including capital to venture into the market. The size of the funding required by these businesses depends upon the nature of the business.
This type of funding usually involves fund management companies that gather pools of money from various investors and use it to purchase securities. These funds generate returns through asset diversification. The main purpose of these funding activities is to pursue individual or organisational profits.
Stages of Startup Funding
A new business demands much more than a great idea. It needs dedication, discipline, hard work and most importantly funding to convert its great idea into a successful reality. As the business progresses and grows, it may require funding for expansions and research depending on the type of business. There are different stages of funding that respond to different needs at different stages of a growing business.
This is the ideation stage. It is a time when the entrepreneur is working to bring the idea to life. That is why it is known as the pre-seed stage. Usually, the fund requirement at this stage is small and there are very limited and mostly informal channels available for raising money.
- One way to raise capital is to self-finance. This can be accomplished by relying on personal savings or by mortgaging or selling real estate property for money.
- The more common method is to borrow from friends or family members. The biggest benefit of this method is that there is an inherent level of trust between the entrepreneur and the investors.
- Another method is to win the prize money/grants/financial benefits that are provided by institutes or organisations that conduct business plan competitions. Though not large, the amount of money is usually enough for the ideation stage. The challenge is that the business plan has to be approved by the judges.
Seed capital is the investment made at the preliminary stage of the startup. This money helps the business in identifying and creating its roadmap and the direction in which the business needs to grow. To this end, the money goes towards identifying the market demands, preferences and tastes and then formulating a product or service. Seed funding is generally raised from
- Bank or even Non-Banking Financial companies (NBFCs) in the form of loans.
- Mentors, friends or family members.
- Angel Investors
Venture Capital Funding
This form of private equity financing is provided by venture capital firms for funds to startups and emerging companies that are deemed to have high growth potential and have demonstrated strong business operation acumen. Venture capital comes into the picture when the company’s products or services reach the market. This is a growth stage that further involves more rounds of funding.
Series A Funding
This is the very first round of VC funding that is primarily used for marketing, improving brand credibility, tapping new markets and business growth. The potential investors for Series A funding are-
- Super Angel Investors
- Venture Capitalists
Series B Funding
When a business reaches the stage of Series B funding, it means that the product has found a market and there is scope for growth in other markets as well. This type of VC funding is utilized to hire more staff, improve the infrastructure and expand the business beyond local borders. Potential investors for this type of funding are-
- Venture Capitalists
- Late-stage Venture Capitalists
Series C Funding
While there is no limit to the rounds of funding that a business can receive this round of business funding entails great caution. The more investment rounds, the more the business releases equity. The potential investors for series C funding are-
- Late Stage Venture Capitalists
- Private Equity Firms,
- Hedge Funds
Series D Funding
This is a funding stage that is not very common for businesses. This type of funding allows entrepreneurs to raise money for special situations like a merger or if the company hasn’t hit its growth goal yet. The potential investors in this funding are the same as the investors in the Series C Funding.
Initial Public Offering (IPO)
Initial Public Offering is the process of offering corporate shares to the general public for the first time. Growing startup businesses often use this process to generate funds for expansion and growth. There is a specific process for growing startups who decide to raise capital via the IPO route.
- The business has to form an external public offering team comprising of underwriters, lawyers, certified public accountants and SEC experts.
- Information regarding the company's financial performance and its expected future operations has to be compiled.
- An audit has to be conducted of the company’s financial statements that generates an opinion about its public offering.
- The company, then, has to file its prospectus with the SEBI and determine a specific date for going public.
An IPO has several other benefits to offer other than raising funds for a growing business. These are:
- Additional funds can be generated through secondary offerings as the company already has access to public markets.
- A public company is a very attractive place to work and attracts better talent.
- Executives of the company can be partly compensated through stocks.
- Mergers are easier for public organisations.
Apart from all the known funding methods, there are some lesser-known but quick methods to raise money for a startup. These methods may not work for everyone but depend on the type of business operations. These are:
- Product Pre-sale: Companies like Apple and Samsung raised finance to continue operations by starting a pre-order campaign well ahead of the official product launch. It is an often overlooked and highly effective method to raise capital and improve cash flow.
- Selling Assets: This is a tough step to take but it is effective to meet short-term fund requirements. These assets can be bought back once the business is out of a crisis.
- Credit Cards: This is not the most effective way nor is it highly recommended. However, it is one of the most readily available ways to finance a business. The credit can be continued by making minimum payments, but, the interest rates and the costs on the cards can build very quickly. Carrying that debt can be detrimental to the business owner’s credit in the long run.
The various startup funding stages allow entrepreneurs to scale up their business operations at any stage of their business. This practice also allows them to identify the stage at which their company is operating and which potential investors might fund them for expansion.
Also, this is a cyclic event as many startups that have grown successfully through funding might become investors in other startups as well.
What are the stages of funding?
The stages of startup funding are:
- Pre-Seed Funding Stage
- Seed Funding Stage
- Venture Capital Funding Stage (Series A, B, C, and D)
- Initial Public Offering (IPO)
What is the pre-seed funding stage?
It is a time when the entrepreneur is working to bring the idea to life. It is the stage of ideation which is why it is known as the pre-seed stage. The most common source of funding at this stage includes self-finance, family and friends, or grants from certain institutions.
What is considered late-stage funding?
Late-stage funding is meant for companies that have passed the phase of ideation, and product development, and are making sales. Late-stage funding is gained by companies that are growing and shows huge growth potential to investors.