Always choose your investors based on who you want to work with, be friends with, and get advice from. Never, ever, choose your investors based on valuation. — Jason Goldberg, founder and CEO of Hem and Fab
The six types of Investors every entrepreneur should know about
For those seeking seed capital, there are six primary funding sources:
self funded, friends and family, crowdfunding, accelerator programs, angel investors and venture capitals (VCs).
Each group invests in startups at different stages and typically contributes varying levels of funding. As such, founders will need to consider which investor is best suited to their venture, its current needs and long-term objectives.
Founders who support projects themselves maintain complete ownership of their businesses and don't have to accommodate others in the decision-making process.
It is also the cheapest way to finance your venture. However, you may miss out on the networking opportunities and expert advice a successful seeding round can generate.
Funds for these projects typically come from re-invested profits or 'bootstrapping', where founders sell other services and invest that revenue into the business.
Friends and Family
Friends and family will most likely invest in your venture to support you, but you should make it clear that they are buying equity in your company, and how much.
Make sure they understand the risks involved; most startups fail, and they probably won't get their money back.
Investments from friends and family are a great way to raise relatively small amounts – around $5,000 – for the initial startup phase.
Platforms like Indiegogo and Kickstarter allow lots of strangers to invest small sums.
With five-figure campaigns becoming more and more common, this funding method is growing in popularity among those looking to raise seed capital.
Of course, no one wants something for nothing, and founders must choose whether to sell equity or reward backers with perks such as discounted products or early delivery.
Campaigns only get funded if they meet their pledge goal.
There is a high failure rate, but for those that are successful, there are additional benefits to running a campaign, which can be used to market a product, increase pre-sales, and test pricing.
Accelerators don't invest in your venture to the same extent that an angel investor or venture capital might do, but they do offer a gateway to funding.
These closed groups provide selected startups with access to a network of mentors, investors, suppliers, vendors and other useful contacts.
They also supply educational services and advice to help refine your business model.
Approved startups typically give up equity in exchange for access to an accelerator's network.
When applying to an accelerator group, it is important to research them thoroughly. Many are industry specific, and some are a lot better than others.
Angel investors are wealthy individuals or small trusts that personally invest in your venture. They are often successful entrepreneurs and can provide valuable advice and industry contacts as well as seed funding.
An angel investor buys equity in your company in exchange for future profits but, unlike other financing methods, they often take an interest in business operations. As such, it is important to research angels before you approach them. Make sure any angel investors you consider partnering with have a good reputation, as well as the skills and contacts to help your business grow.
Venture Capitals (VCs)
Like angel investors, venture capitals provide seed funds in exchange for equity. Unlike angels, who typically commit relatively small sums (up to $500,000), venture capitals have the resources to invest millions of dollars in your business.
These firms pool money from institutional investors, pension funds and insurance companies and invest in high-risk enterprises. The high-risk nature of their investments mean they are expected to deliver their clients (i.e. the companies that contributed the money) very high returns. As such, VCs often take an active role in the direction of the company and may prioritize revenue over the founder's original vision.
How to approach these Investors
You will find information on the accelerator application process on their website or by approaching them directly. Be selective about which groups you approach – submitting multiple applications is time-consuming and looks desperate.
Be sure to research the group before you apply; there are plenty of bad accelerator programs out there. Find out as much information as you can about their network and other startups they have worked with. When you have found the right program, follow their instructions for joining and make sure your venture meets the program specifications before submitting.
Personal introductions are the best way to approach an angel investor. Use LinkedIn and your professional and personal networks to find a common connection who is willing to endorse you. If you don't have someone, then use conferences and industry events to seek an introduction. If all else fails, pick up the phone and try to arrange a meeting.
Remember, don't ask for money straight away. You are building a two-way relationship, and you need to know that any angel investor you partner with is the right fit for your business.
Again, personal introductions work best. Venture Capitals are huge companies with large networks, so finding a common connection should be easier than with an angel investor.
These companies are regularly approached by startups so, when you do get an introduction, be ready to move quickly. Send a reading deck the same day that you exchange business cards and never go into a presentation pitch without additional documentation ready to send should the VC ask for it.
Ventures have a choice of investors to approach for seed funding. Understanding the benefits of each and the impact their involvement will have on your business is critical for long-term success.