of 22
Chapter 10: Getting Financing or Funding
CHAPTER 10
GETTING FINANCING OR FUNDING
LEARNING OBJECTIVES
7.
Describe several creative sources of financing entrepreneurial firms may choose to
use.
CHAPTER OVERVIEW
This chapter focuses on the important topic of getting financing or funding. The chapter
begins by describing why most new ventures need funding. The chapter then transitions
to discuss sources of personal financing, which includes an entrepreneur using his or her
personal funds, bootstrapping, and borrowing from friends and family, which are
common occurrences in start-up firms. Strategies for preparing to raise debt or equity
financing are discussed. The concept of an elevator speech is introduced. An elevator
speech is a brief, carefully constructed statement that outlines the merits of a business
opportunity.
The center portion of the chapter focuses on the primary ways that entrepreneurs raise
money: equity funding or debt financing. The common sources of both equity funding
and debt financing are discussed. The chapter concludes with a discussion of creative
sources of financing and funding, which includes crowdfunding, leasing, SBIR and STTR
government grants, other grant programs, and strategic partners.
CHAPTER OUTLINE
I. The Importance of Getting Financing or Funding
II. Why Most New Ventures Need Funding
A. Cash Flow Challenges
B. Capital Investments
C. Lengthy Product Development Cycles
Chapter 10: Getting Financing or Funding
III. Sources of Personal Financing
A. Personal Funds
B. Friends and Family
C. Bootstrapping
IV. Preparing to Raise Debt or Equity Financing
V. Sources of Equity Funding
A. Business Angels
B. Venture Capital
C. Initial Public Offering
VI. Sources of Debt Financing
A. Commercial Banks
B. SBA Guaranteed Loans
C. Other Sources of Debt Financing
VII. Creative Sources of Financing and Funding
A. Crowdfunding
B. Leasing
C. SBIR and STTR Grant Programs
Chapter 10: Getting Financing or Funding
1. Business angels are individuals who invest their personal capital directly in
start-ups.
a. The prototypical business angel is about 50 years old, has high income and
wealth, is well educated, has succeeded as an entrepreneur, and is
interested in the start-up process.
3. Although there are many advantages to going public, it is a complicated and
expensive process. The first step is to hire an investment bank. An investment
bank is an institution, such as Credit Suisse First Boston, that acts as an
Chapter 10: Getting Financing or Funding
2. There are two reasons that banks have historically been reluctant to lend
money to start-ups.
a. First, as mentioned previously, banks are risk averse. In addition, banks
1. Many different types of banks in the United States participate in the SBA
3. Factoring is a hybrid method for obtaining cash. Not really debt financing
per se, factoring is a financial transaction whereby a business sells its
1. Crowdfunding is the practice of funding a project or new venture by raising
3. Equity-based crowdfunding helps businesses raise money by tapping
1. The Small Business Innovation Research (SBIR) and the Small Business
$2.5 billion per year to small businesses for early-stage and development
projects. Each year, 11 federal departments and agencies are required by the
SBIR to reserve a portion of their research and development funds for awards
to small businesses.
3. The STTR Program is a variation of the SBIR for collaborative research
2. Biotechnology, for example, relies heavily on partners for financial support.
Biotech firms, which are typically fairly small, often partner with larger drug
companies to conduct clinical trials and bring products to market.
BOXED FEATURES: QUESTIONS FOR CRITICAL THINKING
1.
Examine the problems that DrawQuest encountered. How could the company
have avoided or navigated around each problem?
Chapter 10: Getting Financing or Funding
2.
What alternatives did DrawQuest have for generating income for its app? Why do
you think the company didn’t try any of these alternatives before shutting down?
3.
Based on what you learned in Chapter 4, complete a Barringer/Ireland Business
Model template for DrawQuest. Is there anything that is noticeable in the business
model template that may have forecast that DrawQuest would have a hard time
surviving?
4.
A common start-up idea on college and university campuses is to build a
smartphone app. What lessons can students building apps learn from
DrawQuest’s experience?
1.
In your opinion, what factors in the business environment encourage firms to
partner to compete?
Chapter 10: Getting Financing or Funding
2.
What risks do small firms face when partnering with large, successful companies?
What risks do large companies take when they rely on small firms as a source of
innovation?
3.
How might government policies affect partnering actions between small and large
firms in the pharmaceutical industry?
4.
If you worked for an entrepreneurial venture, what would you want to know about
a large company before recommending that your firm form a partnership with it?
1.
In referring to Startup Weekend, someone made the comment “It’s not a start-up
factory, it’s an entrepreneur factory.” What do you think the person meant by that
comment?
Chapter 10: Getting Financing or Funding
2.
To what degree do you agree with the basic premise of the feature that Startup
Weekends represent a fertile place to meet business cofounders?
3.
What can people learn by attending a Startup Weekend, even if they ultimately do
not stay together with their team after the weekend ends?
4.
Spend some time looking at the Web site for 3 Day Startup. How do Startup
Weekend and 3 Day Startup compare? Are both equally suited for college student
entrepreneurs?
Chapter 10: Getting Financing or Funding
10-1.
What are the three most common reasons most entrepreneurial ventures need to
raise money in their early life?
10-2.
What is meant by the term burn rate? What are the consequences of
experiencing a negative burn rate for a relatively long period of time?
10-3.
What is meant by the term sweat equity?
10-4.
To what extent do entrepreneurs rely on their personal funds and funds from
friends and families to finance their ventures? What are the three rules of thumb
that a business owner should follow when asking friends and family members
for start-up funds?
10-5.
What is bootstrapping? Provide several examples of how entrepreneurs
bootstrap to raise money or cut costs. In your judgment, how important is the art
of bootstrapping for an entrepreneurial venture?
Chapter 10: Getting Financing or Funding
10-6.
Describe the three steps involved in properly preparing to raise debt or equity
financing.
10-7.
What is the difference between equity funding and debt financing?
10-8.
What are the most common sources of equity funding?
10-9.
Describe the most common sources of debt financing.
10-10.
What is the purpose of an elevator speech? Why is preparing an elevator speech
one of the first things an entrepreneur should do in the process of raising
money?
Chapter 10: Getting Financing or Funding
10-11.
Why is it so important to get a personal introduction before approaching a
potential investor or banker?
10-12.
What are the three steps required to effectively engage potential investors or
bankers?
10-13.
What are the three most common sources of equity funding?
10-14.
Describe the nature of business angel funding. What types of people typically
become business angels, and what is the unique role that business angels play in
the process of funding entrepreneurial firms?
10-15.
What is meant by the term venture capital? Where do venture capital firms get
their money? What types of firms do venture capitalists commonly want to
fund? Why?
Chapter 10: Getting Financing or Funding
10-16.
Describe the purpose of an initial public offering (IPO). Why is an initial public
offering considered to be an important milestone for an entrepreneurial firm?
10-17.
What is the purpose of the investment bank in the initial public offering
process?
10-18.
In general, why are commercial banks reluctant to loan money to start-ups?
10-19.
Briefly describe the SBA’s 7(A) Loan Guaranty Program. Do most start-up
firms qualify for an SBA guaranteed loan? Why or why not?
Chapter 10: Getting Financing or Funding
10-20.
What is a Small Business Innovation Research (SBIR) grant? Why would a firm
want to apply for such a grant if it qualifies for it?
10-21.
Write a 60-second elevator speech for Faraday Bikes, the focal firm discussed
in the “You Be the VC 10.1” feature.
10-22.
Samantha Smith, a friend of yours, was recently telling you about a company
that her father is starting in the solar power industry. Samantha’s father is using
a technology he developed, which has received favorable write-ups in several
technical publications. He has been approached by two angel investors who are
eager to invest in his proposed venture. He’s also been offered a spot in a
prestigious technology incubator, where he can maintain an office and a lab to
work on his project. Samantha says that her dad has turned away the potential
investors and is opting to work out of a shop on some property he owns, rather
than move into the incubator. He’ll be able to fund the company from personal
savings, at least for the first two years. Do you think Samantha’s dad is making
good decisions? What are the pluses and minuses of his decisions?
10-23.
Jim Carter, a classmate of yours, is preparing to launch an e-commerce
company to sell home repair guidebooks, tools, how-to videos, and related
material for home repair and remodeling projects. He just told you that he
talked to his paternal grandmother over the weekend, and she has agreed to lend
him $25,000 to launch the firm. When you asked Jim what arrangements he has
made with his grandmother to formalize the loan, he looked puzzled and said,
Chapter 10: Getting Financing or Funding
“She plans to send me a check in a week or so—she just needs to get the money
out of her savings account.” Jim seemed concerned by the worried look on your
face and said, “Tell me what you’re thinking, I really want to do the right thing
here.” What would you say to Jim?
10-24.
Kathy Baker is in the midst of starting a computer hardware firm and thinks she
has identified a real problem that her company will be able to solve. She needs
investment capital, but doesn’t know much about the process and doesn’t know
where to begin. She’s turned to you for advice. Write Kathy a 250- to 300-word
e-mail message introducing her to the process of raising investment capital.
10-25.
Imagine you invented a new type of car seat for children, which is lighter and
safer than the car seats currently on the market. You have a business plan and
have won two business plan contests based on your idea. You also have a
working prototype. You’d like to find an angel investor to fund the launch of
your firm. Describe how you’d go about finding an angel investor in the area in
which you live. Make a list of the specific steps you’d take, and the specific
people you’d talk to, to try to locate an appropriate angel investor.
10-26.
Ed Sayers just returned from a meeting with his banker with a frustrated look on
his face. He tosses his keys on the kitchen counter and tells his wife, “I just
can’t understand where my banker is coming from. I have a great idea for a new
firm, but the bank isn’t interested in helping me with a loan. Tomorrow, I’m
going to visit a couple of other banks to see if I have better luck.” Do you think
Ed will have any better luck with the second and third bank he visits? Why or
why not?
Chapter 10: Getting Financing or Funding
10-27.
Joshua Sherman, who lives near Vancouver, Canada, is preparing to pitch an
idea for a social gaming website to a group of angel investors. The site has
some new and novel aspects to it. He made a practice presentation in front of
his advisory board, and one question that an advisor urged him to prepare for is
“If you’re successful, what’s to prevent Facebook from launching a similar
product?” Joshua frowned, and said he thinks it’s unlikely he’ll be asked that
question. What do you think? If you were Joshua, how would you prepare to
answer that question?
Chapter 10: Getting Financing or Funding
Average Score
3.75/5.0
Decision: We would fund this firm. It appears to be well-managed, has a solid business
concept, and is in an industry that is growing. We also like the fact that it addresses both
urban congestion and environmental pollution. We think it could be successful in a big
way. That makes it a very attractive investment opportunity.
Chapter 10: Getting Financing or Funding
YOU BE THE VC 10.2
You Be the VC Scorecard
Lumo Bodytech
(www.lumobodytech.com)
Item
Score/Comments
Strength of New-Venture
Team
1 2 3 4 5
Three Stanford entrepreneurs – Monisha Perkash, Dr.
Charles Wang, and Andrew Chang – founded Lumo
Bodytech. Perkash is a serial entrepreneur, who had
Chapter 10: Getting Financing or Funding
Average Score
4.00/5.0
10-32.
The following sentence appears early in this chapter: “There are threee reasons
that most entrepreneurial ventures need to raise money during their early life:
cash flow challenges, capital investments, and lengthy product development
cycles.” Evaluate Revolight’s need to raise money in each of these areas.
10-33.
In response to a request from Kent Frankovich and Adam Pettler, write a 60-
second elevator pitch about Revolights’ current product.
10-34.
Do you think Revolights will need to raise additional capital? If so, why? Using
Chapter 10: Getting Financing or Funding
Table 10.2 in the chapter as a guide, if Revolights raises additional capital, what
would be the most appropriate source of financing or funding? Explain your
answer.
10-35.
To what degree do you think Revolights will be able to reach mainstream
markets and sustain its growth? How successful do you believe the firm will
be? Justify your answer based on criteria introduced in earlier chapters of this
book and your own intuition.
10-36.
Do you think Kickstarter is a viable alternative to raising equity funding or debt
financing? If so, under what circumstances?
Chapter 10: Getting Financing or Funding
10-37.
Kickstarter is not the first crowdfunding platform, yet it is the most successful. List
five reasons that you believe account for Kickstarter’s success.
10-38.
Cities are able to set up Kickstarter pages that list all the active Kickstarter projects
from their community. For example, the Kickstarter page for Nashville, TN is
available at https://www.kickstarter.com/discover/places/nashville-tn. How should
cities go about promoting their Kickstarter pages?
10-39.
Wivv raised $566,401 from 4,829 backers in the Kickstarter campaign described in
this case. What benefits, if any, other than raising money did Wivv glean from the
campaign? If one of the cofounders of Wivv told you, “I’m very satisfied with the
money we raised via the Kickstarter campaign, but raising money wasn’t the
primary reason we did it,” what do you think the primary reason was?