In the immortal words of American rapper, Scarface, "Money makes the world go round."
Nowhere is this truth more evident than in the ever-competitive startup world where running out of cash could be the difference between staying in business and bankruptcy.
A survey of 500 startup founders in 2022 revealed that 47% of business failures were linked to a lack of financing or investors.
Due to their unique nature, financial institutions frequently decide not to fund startups, especially in the early stages. Thankfully, venture capital exists, but it only funds a tiny percentage of startups.
Startups must therefore identify alternative funding sources. This article explores some of these sources and gives examples of startups that have benefited from them.
Bootstrapping
Bootstrapping is probably the most common financing option available to startup founders.
Rather than raise capital from investors, bootstrapped founders rely on personal funds and revenue from the business to fund operations.
Bootstrapped founders are typically innovative about their startup's finances, only spending on what is necessary. They cut costs by finding cheaper alternatives, negotiating payments in a way that they get paid a portion of their revenue upfront, or keeping a lean team.
Cybervergent, a cybersecurity technology provider, took this route when it launched. Shortly after, the company won a contract to deploy cybersecurity solutions for a financial institution. However, it did not have enough money to execute the project and instead asked for instalmental payments.
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Smallchops.ng, a food delivery startup, is another example of a bootstrapped African startup. The startup keeps its employee expenses low by automating parts of its operation.
Furthermore, when they needed to hire developers to build the product, CEO, Uche Ukonu, wrote detailed engineering requirements. Consequently, they didn't have to hire developers frequently and saved money in the process.
Crowdfunding
Unlike bootstrapping, crowdfunding relies on funds from external parties.
Hundreds and sometimes thousands of people contribute various sums of money. Crowdfunding is more commonly used to raise money for charitable causes but many businesses have had success with it.
Platforms like Kickstarter and Indiegogo are popular for business crowdfunding. In 2012, Oculus raised much of the money it needed to develop its product by starting a campaign on Kickstarter.
Although it initially planned to raise $250,000, it raised $2.4 million and sold to Facebook in 2014 for $2 billion.
Eversend, an African fintech startup, also raised capital this way while MarketForce and Lipa Later announced plans for a crowdfunding campaign in 2023. Crowdfunding platforms often regulate how much an individual can invest into a business to protect investors, many of whom do not invest professionally.
Grants
Grants offer a non-refundable form of financing for startups and are usually provided by governments, non-governmental organisations, and corporations.
Unlike loans and equity, grants do not accrue interest or require businesses to give up equity. This makes them particularly attractive to early-stage startups.
It's common to see startup grants focused on sectors where there is little investment activity such as edtech and healthtech and are often used to stimulate or drive interest in specific sectors.
Grant providers typically focus on supporting projects aligned with their mission or objectives, such as promoting innovation, job creation, or addressing social challenges.
This flexibility allows startups to retain greater autonomy and control over their operations and strategic direction.
The benefits of getting a grant are not limited to finances. Grant recipients may receive mentorship, training, networking opportunities, and access to specialised facilities or equipment.
These resources can enhance the capabilities and competitiveness of startups, enabling them to overcome barriers to growth and scale more rapidly.
Angel investors
Angel investors provide equity-based financing for startups. Most angel investors are experienced professionals who are looking for alternative investment opportunities.
They also invest using personal funds. Angel investors often invest at the early stage but can also join later-stage companies.
In some ways, angel investing bears similarities with venture capital. Both funding sources frequently get behind high-risk ventures with expectations of high rewards. They also help startups grow by leveraging their professional expertise or networks to achieve business goals.
Furthermore, angel investors and venture capitalists don't always get their money if the business fails. It is common to see angel investors launch small funds as they grow in their journey.
A 2016 study by Kauffman Foundation found that getting angel investment improved a startup's chances of surviving and hiring more employees.
Although angel investors typically write small cheques, some high-net-worth individuals make larger investments and even invest in VC funds.
Revenue-based financing
If you have a concrete plan to generate revenue, revenue-based financing could be a great option for you.
Using this method, businesses give up a percentage of their revenues in exchange for money that is invested in the businesses.
Revenue-based financing is different from a loan as there's an agreed multiple of the initial investment that a business repays.
This payment can be structured over several years. Unlike a loan, payment is determined by the startup's revenues, therefore higher revenues mean more money for the investor and lower revenues equal lower payments.
Incubators
Incubators are designed to nurture early-stage startups and provide them with mentorship, tools, and the networks required to build a business. Incubators often help startups validate an idea, create business models, and find customers. They can also provide some early financing for a startup.
Frequently, they provide capital following the attainment of a milestone. Incubators can be run by venture capital firms that are seeking deal flow, experienced entrepreneurs, academics or large corporates looking to get access to groundbreaking technology.
While incubators may be confused for accelerators, both setups differ in their approach. Incubators typically start working with entrepreneurs before they have a concrete idea. Accelerators, on the other hand, usually require that founders have an idea. However, it must be noted that accelerators also allow startups to pivot from the original idea.
Incubators also differ from accelerators in their timeline. Accelerators are fast-track programmes designed to cram as much knowledge and activity within a short time frame. While some accelerators run programmes for up to three months, most run for a few weeks.
Venture debt
Traditional bank loans require borrowers to put up collateral before loans are disbursed. But while startups rarely have real estate or equipment to offer as collateral, they have financing needs which venture debt fills.
Venture debt is a loan to companies that have raised venture capital. Like traditional loans, venture debt must be repaid and lenders will do everything it takes to recover their money. Venture debt is particularly attractive for founders as it provides them with non-dilutive capital and extends their runway. While venture debt is an alternative to venture capital, it can only be accessed by companies that have raised venture capital and is often seen as a temporary financing option.
