Most founders rely on capital to help kick-start their company. When founding a business, there are many types of investors to look at, and in this article, we’ll look at the various types of investors that exist and explain how each type of investor can possibly assist with capital.
The majority of businesses aren’t entirely self funded and therefore must look for investors to assist in keeping their projects funded. Here are five different types of investors that may be able to assist in providing start-up capital.
- Angel investors
- Personal investors
- Banks & Corporate
- Venture capitalists
- Personal investors
- Peer to peer lending
The funds provided by these types of investors are largely used for new produce launches, expansion, or to purchase equipment or inventory. While every business is unique and has it’s own quirks and needs, these are the most common uses of venture capital funds, peer to peer lending, bank loans, or angel investors capital.
Each type of investor has their own reasons behind investing in other businesses. Their resources and motivation will vary, and if you are seeking capital, you may choose one type of investor over another.
Learning the motivation behind each investor and financial institutions will help you determine which type of investment funds are the best for your business.
Many times when a business owner is looking for capital, they will reach out to friends, family, and personal connections in the early stages. These are called personal investors, and they do have a limit on what they can put into your company. You’ll have to fill out an extensive amount of documentation upon taking their investment, as the IRS needs to account for their shares and have them taxed accordingly. You’ll be best suited talking to a lawyer ahead of taking any personal investment funds.
New entrepreneurs and small business owners (startups) often get capital from an Angel investor. Often times the angel investor is a part of the family or a dear friend. This type of funding is usually a one-off investment that goes to get the company past the difficult initial growing pains. Angel investors normally invest in the person who founds the business, versus looking at the long term forecast, business plan, and growth curve of the company. An angel investor can also serve as an advisor or mentor. You’ll see this term often referred to as a seed investor who offers seed money, an angel funder, private investor, or even business angels. There will often be less or no due diligence in these investments.
On the opposite side of the spectrum is the venture capitalists, who are often just called “VC’s.” They provide venture capital for startups forecasting growth potential over the long term. Often times the VC’s are investment banks, investors with storied pasts and a lot of wealth, or even private financial investors in the form of institutional investors. Silicon Valley is ripe with venture capitalists and while risky investment decisions are made every day, the payoff when companies make it big and get acquired makes the risk all worth it.
Venture capital firms will make an investment into a company in exchange for equity as well as a vote in the company decision making. When a company takes on capital and consulting that venture capitalists can offer, it’s often a very attractive way to obtain funds.
Also Read: What is an Accredited Investor?
Ownership of the business is often divided and sold to individual investors or investment groups in VC deals. In short, if you are seeking a lot of funds and as a bonus, a helpful advisory team to help steer you through murky waters, venture capitalists can be a great one.
Peer to Peer Lending
Perhaps the most non-traditional way to get capital is through peer to peer lending. These types of investors are either an individual or a group providing small business owners the capital they need. There are several peer-to-peer-lending clubs like Prosper and Lending Club. Each individual has to submit an application that must be approved by the company. At that point a lender will look into the applicant to see if the company fits their investment idea. A retail investor can become actively involved in these clubs rather easily.
Banks and Financial institutions
This isn’t a traditional way for new businesses to seek capital, but a bank or financial institution can offer business credit cards or working capital in the form of business lines of credit, or even a credit card.
Having a corporation invest in your business has many benefits. The way a corporate investor can assist in development, asset diversification, and acquiring talent can be absolutely remarkable. This helps the business grow and accelerate profits as they are viewed as partners and not just like some “other investors.” The ability to share talent and collaborate on sales funnels, systems, and even customer bases makes having a corporate partnership something that is very attractive and rewarding.
Why Do Investors Invest in Start-up Businesses?
Private equity investors, venture capital firms, peer to peer lending, institutional investors, passive investors, active investors, and retail investors all have one thing in mind when they are looking to invest in a start-up business: diversified portfolios.
Anyone can invest in the stock market, as many investors do. However, most retail investors don’t make the leap into investing in start-ups. Many successful entrepreneurs do this because often times they feel they can aid small businesses in their growth and give advice that will have an impact on the bottom line.
How to Attract the Best Investors?
First off, start with a solid business plan. Whether you are pitching your idea to a private individual or big corporations, you need to have a plan of attack that has a clear direction. Many entrepreneurs make the mistake of not putting together a business plan, and this will lead to potential investors deciding against investing.
Having a solid plan, a management style that attracts talent at the early stages, and an ability to keep up with industry changes are a solid way to impress any potential investors to give you funds. Some people don’t create a business plan when they are pitching friends and family, and that can work, but it’s better to be prepared as you’ll gain traction quicker and even be able to raise more money along the way.
Choosing the Right Investor
Choosing an investor is about as big of a decision as you’ll ever make. You’ll want to get up to speed on the various funding choices as they all have their pro’s and con’s.
Are you looking for someone who can be active in the business?
Are you simply looking for funds?
Are you looking for larger investments?
Do you want investors who can help you expand operations?
Are you looking for the best interest rate?
These are all questions you need to have down to a science before you choose the right investor.
Of course, you’ll need an elevator pitch, a full deck (business plan), and an ability to explain why you need funds while also being able to produce a lengthy contract should you gain interest and take things to the next level. A lawyer can make you a lengthy contract as it’ll be necessary to have everything outlined and detailed to avoid any problems down the road.
Avoiding Bad Investors
Just as important as being prepared to choose an investor is knowing which investors to avoid. A management style may not fit your company culture. Friends and family may give you the best interest rate, but what happens if the business doesn’t generate income? Will relationships be intact after that?
Where to Look for Investors?
There are many ways to find investors, and the best place to start is your own network. Talk to friends and family and float your idea. Get your pitch deck out and start making the rounds. You’ll quickly find out if there is interest in your business, and if there is enough and they think the business has legs, you may want to start searching for venture capital firms.
There is no right or wrong answer, and every business is unique. Hopefully this guide gave you a clear picture of the types of investors that exist, and I wish you the best of luck in getting funding.