Funding Innovative Startups
Center for Innovation/Technology Incubator
University of North Dakota
Grand Forks, ND
Financing innovative startups is one of the greatest challenges in helping entrepreneurs and innovators launch new technologies, products and ventures. When raising startup capital the most common sources from “most likely” to the “most difficult” to secure are:
Cash raised by selling assets (boats, hobbies, etc.)
Second mortgage on home
3-Fs: friends, family & fools (also called “love money”)
Vendors, suppliers, other businesses
Commercial bank loans
Private investors or “Angels”
Most new ventures secure early capital from the first 5 categories. They purchase assets like machinery, equipment and supplies, and pay for other startup costs from savings accounts, selling assets, loans, investments from close friends or family, and from funds drawn against the equity in the family home. Once launched, new firms often use credit cards to cover cash flow while building an income stream from paying customers. This is the art of bootstrapping, i.e. doing more with less.
Sometimes new ventures can go to a supplier, vendor or customer who has a good reason to see the venture succeed, and “make a deal” to help cash flow. A common deal is to extend payment terms 30 to 90 days in return for the venture’s exclusive business. This is a good way to buy time on the front-end of cash flow cycle before customers begin making payments.
Commercial banks “rent” money, but only if they think the venture can pay them back. They require collateral for 80% to 90% of the loan value, and prefer a solid business plan with a 2-year track record and a team leader with good credit. Sometimes an investor may “lend” their good credit for an equity portion of the venture, i.e. co-signing on a loan. The venture secures a loan that otherwise would be declined, and the investor gets equity while keeping his funds invested elsewhere.
Private investors or “angels” are looking for ground-floor investment opportunities. They are found through referrals among business leaders and other successful entrepreneurs. They often invest as a team, and want a good return on investment like 25-40% or more. A solid business plan is ‘a must’ for this activity, as well as good investment agreements.
Then, near the bottom of the list of funding sources are government grants. At the University of North Dakota (UND) Center for Innovation we often hear this question: “I have a great idea for this product (or venture). How can I get one of those government grants I’ve heard about to help get it started?”
One important federal grant program is the Small Business Innovation Research (SBIR) program that provides over 4,600 awards worth $2.1 billion per year in Phase I & II grants/contracts for R&D. SBIR is the single biggest source of seed funding in America, but it is very competitive with about 10% of the proposals being funded. It is a small business set-aside to do competitive research to develop new technologies that federal agencies are interested in advancing. Check www.Innovators.net to tap into the information on the program or check by topic area at www.zyn.com/sbir.
Other important grant programs are the DOE Inventions & Innovations program that does about 75 grants per year across the nation, and the USDOC Advanced Technology Program for larger technology development programs. Bottom line: there is limited grant money to be secured, and most goes to ventures to develop new technology that is strategic in nature – i.e. the government is looking to solve a problem.
Finally, venture capital (VC) funding is a possibility, but the most difficult to secure because almost all funding goes into ventures and entrepreneurs not inventions. In evaluating business plans of ventures and entrepreneurs for investment, VCs fund less than 1% of startups because of their high risk level and amount of effort required to realize gain. Inventions belong to an even higher risk level and VCs very rarely fund inventions. Of the tens of thousands of new ideas that receive patents, less than 2% of them are commercialized or brought to market. The rule: investors are looking for viable ventures, not inventions.
Entrepreneurs with innovative tech-based startups should assess what financing is available for their new ventures. Advice: “know your customer,” that is, know which financing sources are appropriate and a good fit. As Abraham Lincoln said: “Things may come to those who wait, but only the things left by those who hustle.” The time is now to hustle for startup financing.
The UND Center for Innovation was among the nation’s first technology entrepreneur outreach centers. The Center has helped launch more than 400 new products and ventures since it was formed in 1984 and has won four national awards for excellence in innovation and entrepreneurship. See http://www.innovators.net for more information on entrepreneur funding opportunities.