Money, like everything else of value, comes at a price, and knowing how and when to raise capital in a way that guarantees the future security of a business can be a tricky problem for entrepreneurs. There’s no one-size-fits-all solution, and the quest for money can be like walking a tightrope: one wrong step can be fatal.
Entrepreneurs navigating the later stages of a startup face a minefield of funding options, and not all of them are suitable for their business. I’ve seen too many brilliant and hard-working entrepreneurs end up with too little, so it’s critical to understand the different financing options available to you.
As the founder and CEO of Runway Growth Capital, I’ve had the pleasure of working with hundreds of startups (large and small) and witnessing the wide range of funding options available to founders. This list includes nearly 50 technology and healthcare companies with 18 IPOs and 14 trade sales. Through all these experiences, I’ve seen how impactful different forms of financing can be for companies at various stages of their life cycle.
Funding a late-stage startup
The disparity in what different forms of financing can mean has profound implications for founders, yet too little is known about them.
Typically, late-stage or growth-stage startups are companies that have already progressed through the initial stages of development and are now looking to scale. If you’ve reached this stage, you’ll have a proven business model and a solid foundation and will have moved beyond the point of product development and market validation. Congratulations! This is a tremendous achievement and makes your business an attractive opportunity for investors.
However, now that you’ve gotten further along in your journey, the funding models that may have been suitable for raising capital at the seed or early stages of your business may no longer be the best option for financing additional growth. The disparity in what different forms of financing can mean has profound implications for founders, yet too little is known about them.
What are the challenges faced by late-stage startups?
Late-stage startups have a clear path to profitability, so scaling the business is the foremost priority. This is an exciting time in your journey, but many challenges remain. You may need to enhance or modify your products/services or optimize your operations to ensure you achieve profitability. You’ll also need to hire more employees and invest in your infrastructure, but this will require capital.
There is no right or wrong way to raise capital at this stage, but as the founder, you want to ensure that you attract the correct type of investment from the right investor at the right time.
Venture capital funding
Venture capital (VC) firms provide capital in exchange for equity (an ownership stake in your company).
In addition to financial backing, VC firms can also provide you with expertise and guide you in, for example, financial management. As your business grows, having access to consultation can help you make better decisions, and because VC firms are well-connected within the business community, access to this network has tremendous benefits for a business looking to scale.
However, there are drawbacks associated with VC funding, the key being the loss of control of the business. In my experience, losing control often disappoints and frustrates founders because entrepreneurs are driven by more than just money. Giving away a stake in your company, which could be more than 50%, could compromise your purpose and vision, resulting in a significant loss of ownership. This is often a deal breaker for many entrepreneurs. Often, VC firms have aggressive investment strategies and aim to increase revenue growth to achieve sizable returns on their investment. Though this approach works for them, you may need something else.
Initial public offering
Another way to raise capital is to go public and list your shares on a stock exchange via an initial public offering (IPO). You can raise substantial capital from public investors (institutional and retail) by providing liquidity to your existing shareholders.
IPOs are generally more appropriate for businesses with a valuation of $1 billion (unicorns); however, late-stage startups with proven profitability and considerable growth potential could qualify for an IPO if listing requirements are met.
The advantage of IPOs is that they can provide a significant amount of money, which gives the company’s leadership a greater ability to scale the business. The increased transparency of a share listing can also give you more credibility and enable you to obtain better terms if you seek additional funding.
Going public in this way means you’ll need to meet regulatory and disclosure requirements, which can be complex, time-consuming, and costly. This process also results in a loss of privacy and control, and there’s a risk that your stock price may decline after the IPO, causing a loss for your investors and negatively impacting employee morale.
Strategic partnerships
A late-stage startup can enter into a strategic partnership where a more established company will provide it with capital in exchange for specific benefits. For example, your strategic partner might want access to your technology, customers, or intellectual property (IP) in return for a cash injection.
You can drive business growth and expand your market reach by strategically nurturing solid relationships with the right partners. Often, strategic partnerships result in rapid growth for both partners as the businesses can pool resources and enter new markets or territories.
However, loss of control is still an issue. Your partner organization may require you to give up equity in your business, share profits, and give away your intellectual property. This may be a sacrifice that you’re not willing to make. I’ve also seen situations where unclear partnership agreements have led to problems when it comes to decision-making, such as business goals. Sometimes, there is also employee crossover, which can have HR implications and potentially impact your company’s culture.
Debt financing
Debt financing involves borrowing money from lenders, usually banks or specialty finance companies. If your business has assets, meaningful revenues, or IP, you can secure loans or lines of credit against those to fund your growth.
Debt financing is often viewed as a more attractive way to raise capital if you want to remain privately owned and stay independent, making it a good solution for entrepreneurs who don’t want to give up control.
In the past, debt has occasionally been viewed as something best avoided, but debt financing has considerable advantages over VC funding, especially if you want to minimize dilution. Debt is now considered to be a proper, prudent, and wise component of the capitalization of pre-profit companies (especially later-stage companies), per the feedback we received from a wide array of capital seekers and capital providers following the collapse of SVB.
There are, of course, some downsides with debt financing, the main one being that the loan must be repaid. Usually, the repayment plus interest is required in full at the end of the loan period, meaning you’re obligated to pay your creditors even if your business is not doing well. In other words, there’s the potential for liability, and the company may have to sell assets to cover the debt. Notably, most non-bank lenders don’t ask for personal guarantees from management, so you are never personally at risk. If you’re confident in the growth potential of your business, however, it’s worth considering debt financing as an alternative or a complement to VC funding.
Government grants
You can access government grants, subsidies, or funding that are specifically designed to support your type of business. These programs provide nondilutive capital, and if you have an innovative, sustainable, or socially conscious business — along with a competent team familiar with finding and winning government awards — they’re worth investigating.
If you’re eligible for government funding, you’ll usually only receive a percentage of the capital you need, and competition is fierce. It’s free money, after all, so no surprise there! Grants are also often conditional, meaning that you’re restricted in how you can invest the capital. If you want flexibility in how you invest capital, other forms of funding might be a better fit.
Making the right decision
There are multiple ways to finance the growth stage of your business, but it’s essential to always have an eye on your long-term goals. Most entrepreneurs will eventually be looking to pursue an exit strategy, so you need to weigh which financing option is best suited to help achieve this goal.
The suitability and availability of different funding options will depend on where you are in your business’s growth stage. Key factors such as your industry vertical, funding stage, the company’s financial health, and the market within which you’re operating will all impact the finance options available to you.
You’ll need to evaluate each option carefully, and I recommend following professional legal and financial advice to determine which pathway is best for your particular circumstances. Each method of raising capital has advantages and disadvantages, and often, eligibility criteria need to be considered.
Regardless of how you choose to raise capital, work with investors who have confidence and who have a proven track record in helping businesses like yours. Your strategic partners and investors can contribute significantly to the success of your business, so choose wisely.