Posted on May 11, 2017

The 5 Best Funding Sources for Small Businesses

You have a brilliant idea for a new business. You’re sure it would be a ground-breaking success – if only you could get the funding needed to get your company up and running.

Funding is a perpetual challenge for small businesses. Unfortunately, getting access to capital isn’t as simple as walking into your bank and requesting a loan the way you’d finance a mortgage or car purchase. As Steve Nicastro & Teddy Nykiel of NerdWallet point out, getting a traditional loan is pretty much out of the question if you’re just getting started:

“If you’re starting a business, it’s virtually impossible to get a loan in your company’s first year. Lenders require cash flow to support repayment of the loan, so startups are typically immediately disqualified from financing.”

So what options does that leave you with? Your personal savings is certainly one, and if that well is dry, there’s always inquiring at the Bank of Mom and Dad. But if you need more than these sources are able to provide, any of the options discussed below may help you cover your startup and ongoing capital needs:

Source #1 – Crowdfunding

Thanks to well-publicized Kickstarter successes – like the Pebble watch’s $10.3 million raise on the platform – many entrepreneurs automatically jump to crowdfunding as a possible small business funding source.

pebble watch

But before you get too excited, it’s important to understand the source’s limitations. By some estimates, less than one-third of crowdfunding campaigns reach their goals. Further, according to Fundable, the average successful crowdfunding campaign grosses just $7,000, which falls short of the $10,000 the U.S. Government’s Small Business Administration estimates the average startup will require in terms of capital.

It’s also important to note that not all products or business concepts are a good fit for fundraising via crowdfunding platforms. The products that perform well on these sites tend to be tech gadgets – particularly those that look cool or boast a clearly-innovative advantage. Niche products or those that require a lot of explanation may not catch the eyes of crowdfunding participants as readily.

All of this isn’t to say that crowdfunding isn’t a great opportunity. Sites like Kickstarter and Indiegogo provide meaningful avenues for market validation, while successful campaigns can result in the startup funding businesses need to bring their ideas to market.

Those who choose to go this route need to understand that running a successful campaign is about more than pitching an interesting product. It’s vital that entrepreneurs prepare with proper campaign and launch marketing, effective product videos and compelling cost savings for early investors. Foundr Magazine’s Ultimate Guide for How to Launch a Successful Crowdfunding Campaign is a good place to start.

Source #2 – Grants & Business Plan Competitions

Another underutilized business funding source is grants and business plan competitions, which are typically funded by colleges, universities, incubators, entrepreneur centers and other organizations.

The specifics of these programs vary, and may include:

  • Small business grants accessed through local government application processes and intended to fill gaps in local markets
  • Business plan and pitch competitions that exist on a continuum ranging from local contests with $5,000 cash prizes up to the popular Shark Tank TV show
  • Incubator programs that offer financing, access to expert mentors, discounted startup resources (like office space and internet service) or some combination of these elements

One of the best known programs that falls into this category is the Harvard Business School New Venture Competition, which netted Vaxess Technologies founder Michael Schrader $25,000 of his total $160,000 in pitch competition winnings.

As Boston Globe writer Adam Vaccaro noted, Schrader’s contest winnings enabled him to score needed startup capital, given that the company’s silk-based vaccine distribution technology was unlikely to secure the support of traditional lenders or venture capitalists:

“It’s a concept with the potential to make a meaningful difference in the way medicines are transported, but not the kind of thing guaranteed to make money. At least — given the long regulatory process facing such a product — not anytime soon.”

Though Vaxess would go on to secure $6 million in additional funding from Gates Foundation grants, it was its early competition winnings that helped advance the company’s “silk biopolymer platform for encapsulating and stabilizing biological compounds.”

To find similar opportunities in your area, reach out to your local SCORE or SBA office and ask to be connected to any grant or competition funding sources you may be eligible for.

Source #3 – Business Credit Cards

credit cardBusiness credit cards may not be the most glamorous funding solution, but they are one of the most prevalent. Creditcards.com reports that, “As of 2015, about 67% of small-business owners currently have a business credit card; there are 13.9 million small-business credit card accounts in the U.S., and they account for $430 billion in spending.”

To be clear, a business credit card is different than a line of credit or working capital loan, though all three of these may be viable options for small business cash flow. In all of these cases, you’re given access to a line of credit that must be paid back according to the payment terms and interests rates set when you open the account.

One advantage to business credit cards in particular is that you likely won’t have to put up collateral to secure your debt, as is the case with many lines of credit or working capital loans. You will however, in most cases, be personally liable for the business debt. Even if your business goes under, you’ll likely still be responsible for your accrued expenses.

Qualifying for a business credit card is easier than qualifying for a traditional loan, though you’ll still find that having better credit and business histories gets you better terms than less attractive borrowers. Fundera’s list of the Best Business Credit Cards is a good place to start researching your options.

Source #4 – Alternative Lenders

“Alternative lenders,” in this case, encompass the numerous funding sources that have sprung up in response to what the markets have perceived as weaknesses in the bank-driven small business lending environment. According to Behalf:

“Alternative small business lending is not “alternative” because it is your last resort. Alternative small business lenders have been created because so many businesses like yours have been turned away by the banks. Since they have been founded to serve businesses like yours, alternative lenders can solve your financing needs even more effectively than banks.”

These financing needs can be met in a variety of ways, including micro loans, merchant cash advances, invoice factoring, working capital loans, term loans and lines of credit. Most require a profitable business history (though a few options exist for startup financing), and different options may be available to your business based on your personal credit history and business income.

Popular alternative lenders include:

This list isn’t intended to be an endorsement of any of the above services. If you’re thinking about pursuing funding through an alternative lender, it’s up to you to do the necessary due diligence to find the right option for your needs.

Source #5 – Small Banks & Credit Unions

bank buildingDespite the myriad alternatives described above, there’s nothing inherently wrong with pursuing bank funding. Although banks have, in the past, gotten a bad rap for dragging their feet on financing or forcing would-be small business owners to jump through extensive hoops, many have taken steps to speed up the process and qualify more entrepreneurs for funding.

Small banks and credit unions, in particular, have a vested interest in supporting the communities they serve and, as such, may be more open to supporting loan candidates who wouldn’t qualify through traditional big bank lenders.

If you’re thinking about pursuing small bank or credit union financing, take smart steps ahead of time to make your application as appealing as possible.

  • Improve your credit score to the greatest extent possible. A good credit score is an asset in most situations, whether or not you’re applying for business funding.
  • Prepare your financial statements. If you’re an existing company, prepare P&L statements for the year-to-date and for any prior years you’ve been in business. Gather copies of your bank statements and documentation for any other funding sources you’ve used. Or, if you’re still in the startup phase, come prepared with a documented business plan, 5-year projection and agreements from any future customers or partners you may have already.
  • Have your financial reports audited. If you’re an existing business seeking expansion or operating capital, have an accountant audit your reports ahead of time. Your small business or credit union lender may require this anyways; tackling it ahead of time speeds up your application process and provides valuable insight whether or not you ultimately pursue bank lending.

None of these steps guarantee that you’ll get the financing you need to become a small business success story, of course, but they will dramatically increase your odds of being approved.

Now, we want to hear from you. Have you used any of these small business funding sources? What others would you add to this list? Leave us a note with your experiences in the comments below:

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