Especially if you’re not an AI company — or somehow able to wedge “AI” into your brand name — it’s a tough economic moment for raising capital.
Philadelphia is a textbook example. Like other areas around the country, startups in Philly boomed during the so-called “cheap money era” of the 2010s. But that’s over, and the region is experiencing a five-year low in VC activity.
Not only do founders have to convincingly pitch themselves and their product, they have to find the right investor fit and put themselves out there over and over again. It can feel like a neverending process, on top of everything else that comes with running a company.
There are many different types of funding a founder can pursue, each with unique pros and cons.
Some funding methods are dilutive, meaning the investors own equity in your company. This can be viewed negatively because existing shareholders then have less ownership. Other methods are not dilutive, but bring their own challenges.
While it’s an option to secure money without giving up equity, it can become problematic down the line for startups looking to grow.
Sometimes founders choose to bootstrap their company, meaning they don’t raise any external funding and rely on personal money and revenue. Many startups start out bootstrapped, but eventually look towards other funding to help speed growth.
Here’s a breakdown of some of the most common ways people fund their startups and how to know which one might be right for you.
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• Friends and family — if you have people in your network with the means to invest
• Loans — if you don’t want to give up equity
• Angel investors — if you want money and mentorship
• Venture capital — if you’re looking for longer-term investment and other resources
• Private equity — if you want to scale and exit quickly
• Grants — if you’re looking for non-dilutive funding
• Pitch comps, incubators & accelerators — if you need flexible funding and exposure
Friends and family
When startups are first getting off the ground, founders will often ask people in their personal network, often referred to as friends and family, to invest money in the company.
If there are people in your life with extra money to invest in your business, you should definitely leverage that, according to startup advisor, investor and cofounder of a venture with an AI platform that supports founders, EMG Worldwide, Grace Francisco. It can be a signal that other people believe in you and your idea.
However, for a lot of people who come from underrepresented backgrounds, this type of funding isn’t an option.
“If you’re lucky to be in a situation where you have a network of family and friends that have that kind of capital on hand,” Francisco said, “you’re probably in a certain demographic audience to have that kind of access.”
Loans
Some startups fund themselves with loans from a bank. There are several different types of startup business loans, but many financial institutions are hesitant to give money to young, risky businesses. Each type of loan requires companies to share information about revenue, debt and credit scores when applying.
While it’s an option to secure money without giving up equity, it can become problematic down the line for early-stage startups looking to grow, per Francisco.
“If you’re looking at getting funded by a VC later, that becomes a problem,” she said. “Because then they’re seeing their capital being used to repay the loan versus growing the company.”
Angel investors
Angel investors are wealthy individuals who invest their own money in early-stage startups, often also playing an advising role.
Startups can approach angel investors as either individuals or groups. When you’re pursuing an angel, it’s important to understand what their expertise and investing thesis is, according to Francisco. You can search on LinkedIn for lists of angels that align with your company, but it’s always better to find a mutual connection and have them make an introduction for you.
“I get a lot of cold outreach,” she said. “It’s hard for me to want to engage in the transaction, when there’s absolutely no shared network where I truly understand, is this person legit? Is this for real? Is it someone I want to work with?”
Each angel group has its own way of evaluating startups, some investing as a group and some as individuals. Before you approach an angel group, you need to understand their process for vetting companies. Some groups charge a fee to pitch, but Francisco would discourage startups from wasting money on that, she said.
Philadelphia has a few angel investor groups, like Robin Hood Ventures and Broad Street Angels.
Working with individual angels means you’re dealing with fewer people, but if they are heavily weighted as your main funder, they can then use that influence to control your company, Francisco said.
No matter which route you choose, you have to evaluate how well you click with the investors and determine if you think it would be a positive relationship for the company, she said.
“[Be] thoughtful about who you’re allowing to invest,” she said. “Meaning, understand what the expectation is from that angel.”
Venture capital
Venture capitalists invest other people’s money, pooled capital from institutional investors like funds and large corporations, into startups.
Venture capitalists have access to money from institutions and weed through potential startups who pitch their companies to them. VC firms often have a specific niche, whether that be a type of founder or a type of company they’re interested in. Startups also usually have to go through a process explaining their plan for growth, how they would use the money and other checks to make sure they’re viable and a good fit for the firm.
Like angel investors, relationships are also important when searching for the right VCs to invest in your company, especially because companies often work with their VCs long term, Francisco said.
“Are [VC firms] going to be predatory in their terms with you? In some cases, people really need the money badly enough.”
Grace Francisco
You have to understand what types of companies they invest in, what stage they invest in and what their investing thesis is.
“Really understanding, are they really, truly founder-friendly,” Francisco said. “Are they going to be predatory in their terms with you? In some cases, people really need the money badly enough that they’ll take whatever terms you’re offered. But that has long term consequences.” For example, agreeing to terms where the founders get very little of the company’s profits if it ends up doing well.
You should also consider what the VC firm can offer in addition to funding like business resources and access to networks.
Generally, companies pursue friends and family, then angel investors, then venture capital, Francisco said. Having strong angels on your side that can vouch for the company gives you credibility when you pursue VC.
Private equity
Private equity firms typically buy later-stage private companies, usually with the goal of eventually selling them for a profit.
While venture capitalists are usually focused on growth and innovation, private equity investors are focused on improving efficiency and profitability. The investments are often larger, but usually require founders to give up some control of the company. A startup may choose this type of funding if they’re looking to scale quickly and exit the company.
When startups are purchased by private equity firms, the focus is often less on scaling and growing the company and more on making as much money as possible, which can shift the culture of the company, Francisco said. This can often lead to restructuring or layoffs.
“Sometimes it’s a turnaround story,” she said. “Sometimes that company is struggling. They need someone to clean house and make sure that there’s a big focus on revenue and operational efficiency.”
Grants
For some founders, grants can be the first type of funding they pursue because it’s non-dilutive, meaning they don’t have to give up any equity in the company, Tempest Carter, director of business development and strategic technology initiatives at the City of Philadelphia.
Tapping into your network and following government agencies and entrepreneurship support orgs are good ways to find out about grant opportunities. They usually require an application and list out specific criteria for qualifying businesses.
Companies can pursue grants from the federal government, like the Small Business Innovation Research (SBIR) and Small Business Technology Transfer (STTR) programs. State and local governments also often have grant programs for growing startups.
The City of Philadelphia’s Commerce Department has the Catalyst Fund, for example, which offers grants of up to $50,000 to small businesses in Philadelphia. The city also has a matching program for local life sciences companies that received SBIR or STTR grants.
But companies need to read the fine print when applying for grant programs. Some grants can only be used for certain purposes.
Pitch competitions, incubators and accelerators
Young startups often participate in pitch competitions, where they apply, are selected and get the opportunity to pitch themselves in front of a panel of judges. There is often a cash prize for the winner, although sometimes prizes include resources or opportunities to pitch again.
Incubator and accelerator programs will also sometimes provide funding to accepted participants, and some of these programs conclude with a pitch competition. Incubator programs are for very early-stage companies who are still developing their ideas, while accelerators target established companies looking to grow.
These are all opportunities for startups to get non-dilutive funding, and even if they don’t win the grand prize, they still get an opportunity for exposure, Carter said.
The money that comes from pitch competitions is flexible, so companies can use it in whatever way best supports their company, she said.
Philly has no shortage of these programs, from the Startup World Cup, to the Mid-Atlantic Capital Conference in the fall.
However, applications are often highly competitive and there’s usually a cap on how much you can raise, Carter said. On average, you’ll only be winning $1,000 to $5,000, which isn’t enough to bring your product to market or build a prototype. But pitch competition wins often keep the lights on for young startups.
“It’s really helpful for those startup companies that are trying to get their first money in,” Carter said. “and trying to market their business.”
