Startup funding

The main difference between startups and small businesses lies in their objectives and the ways they’re funded. 

Objectives of startups

The primary intention of a startup is to be a market disruptor. Startups want to shake up the market by gaining new customers and attracting the customers of their competitors. Sometimes, they create entirely new markets. 

Most startups don’t intend to stay as a startup permanently. They aim to grow as quickly as possible. Usually, their ultimate goal is to become an impactful corporation either by going public or through a buy-out by a large company.

By contrast, small businesses don’t necessarily target big markets. They aren’t trying to dominate a market. Instead, they’re trying to profit within an existing sector. Their ultimate goal is to secure a place in the market and generate steady long-term revenue. 

How startups are funded

While it’s typical for both startups and small businesses to be funded by their founders, the type and amount of funding they seek differ.

In general, startups are looking for major investments to get them off the ground. This tends to involve angel investors and venture capital firms. In exchange for their investments, they are given equity (ie shares), thereby, becoming co-owners of the company. 

Giving up control over their own businesses isn’t ideal for small business owners. Instead, they tend to opt for debt financing such as bank loans, which are usually smaller in amount when compared to the investments startups seek for.

For more information on how to fund your new small business, read Funding your business.

Crowdfunding 

This involves raising capital from a large pool of people, including friends and family, and it’s a great way to gauge public interest in your product, service and business. 

Where your business involves goods, you may raise funds through consumer-based crowdfunding (ie raising capital by pre-selling your product to those interested).

If your business involves providing a service, you may raise funds through equity crowdfunding. This entails giving investors shares in return for their investment. Since the return for their investment is tied to your business’ success, they'll be motivated to see through your startups’ success. 

Business loans

Generally, large banks would be reluctant to issue loans to new businesses however, private lenders, such as Funding Circle, are willing to assist new companies. As with typical loans, you’ll have to repay the sum borrowed with interest. 

Angel investors

Angel investors are high net worth individuals that seek to invest in new businesses at an early stage in return for equity. They tend to already have successful businesses and are well-versed in the industries they’re investing in. They can also bring in resources since they tend to be well-connected.

These investors usually join together to form angel investors networks. Pitching your business to a network may be beneficial since it introduces the business to various investors at once. Even if the network then decides not to invest in your business, you may attract a specific investor.

Venture capital firms

Venture capital firms invest in new businesses with strong long-term growth potential in exchange for a stake in the business. They’ll usually be asked to be on the board of directors. Their goal is to make high-risk investments for very high returns by way of an acquisition or an Initial Public Offering (IPO).

It can be challenging to persuade these firms to invest in your business unless you can show that your product is a product-market fit. Hence, it may be wise to raise capital via other means before applying for venture capital funding (eg funding from angel investors or crowdfunding). 

Similar to engaging angel investors, these firms can introduce you to their network and other opportunities such as partnerships. They can also offer guidance in crucial areas including recruitment, marketing, financial management and legal matters.

Government schemes and loans

There are a series of government initiatives to help fund new businesses. The main ones are:

• The Seed Enterprise Investment Scheme (SEIS)
• Start up loan
• The Enterprise Investment Scheme (EIS)

The SEIS and EIS are both government initiatives that incentivise investors to invest in new businesses by offering them tax relief. The SEIS is suitable for companies at an early stage while the EIS is appropriate for established companies. For more information, read SEIS and EIS.

The Start up loan is a personal loan from the government. If successful, you’ll also receive help writing your business plan and free mentorship for up to 12 months.

For further information on the government's efforts to help fund businesses, use the Business finance and support finder.

Small business grants

Various grants are available to startups, such as:

• The Prince's Trust Grant - grant for young entrepreneurs (16-30 years old)

• Innovate UK - a government grant for innovative ideas 

• New Enterprise Allowance - a government initiative that provides individuals with mentoring and an allowance to start their own business

Use the Business finance and support finder and select ‘grants’ to find out more options available for your business. 

Business incubators

Incubators are programmes that assist you in business development. This can include providing early-stage investments, office space, and mentorship. Before applying, you should make sure that the programme caters to the industry you’re seeking to enter.

These programmes can also help grow your network as you'll be surrounded by other ambitious entrepreneurs that are growing their businesses.

There are four stages of funding:

1. pre-seed funding
2. seed funding
3. series funding
4. initial public offering (IPO)

Pre-seed funding 

This is the beginning of a startup where founders use their own resources to get their idea off the ground. Friends and family may also contribute. 

At this stage, you should ensure all legal matters (eg intellectual property and Founders’ agreements) are dealt with to reduce the likelihood of legal issues arising later on. 

Seed funding

This is where other investors get involved (usually angel investors) by injecting capital into the company in exchange for equity. It’s at this stage that your business gathers sufficient funds to launch the product and conducts market research to see whether further product development is required.

Series funding

This can be separated into 3 sub-categories: Series A funding, Series B funding, and Series C funding and beyond. 

Series A funding is for startups that are seeking to scale their business, improve their teams and execute their Business plan. At this stage, they would already have a fully developed product with a consumer base that’s generating steady revenue. It’s important to show that you have a business strategy in place and that your business will generate long-term profit so that investors will benefit from their investment. Funding from this stage typically comes from angel investors and some venture capital firms. 

Startups that progress to the Series B funding stage would have already established their success and ability to generate a steady income stream. The funds raised through this stage will be used to further expand to meet consumer demand and boost the business’ competitiveness. This stage usually involves venture capital firms that invest in well-established startups.

Lastly, Series C funding is used by startups that are seeking to expand their product line in order to reach new markets or to acquire other startups. They have proven themselves to be successful and would no longer be considered as high-risk investments. As such, this stage involves investments from other types of investors (eg banks, hedge funds and private equity firms).

Startups that failed to achieve their objective can raise further funds by undergoing further funding rounds beyond Series C funding.

IPO

Startups that reach this stage are either trying to access a new source of capital or their founders are seeking to exit the company.

An IPO involves transforming your business from a private company to a public company, thereby allowing members of the public to purchase issued company shares. 

You should start by determining how many shares you would like to issue. Then, you should check your Articles of association to ensure that you and/or your directors have the authority to issue new shares. If no such authority exists, then shareholders have to pass an ordinary resolution to grant you authority. 

During this process, it’s also important to disapply any shareholders’ pre-emption rights (ie pre-emption rights require that leaving shareholders must first offer their shares to the remaining shareholders) and to make sure that the issue of shares complies with any restrictions imposed by the articles of association or any Shareholders’ agreement.

Once you’ve received payment from the investors, you must file Form SH01 with Companies House within one month and update your register of shareholders within two months. Share certificates must also be issued to the new shareholders.

For more information, read Share transfers and issuing new shares.