The following is adapted from my book, Mechanical Bull: How to Achieve Startup Success.
Funding sources for startups used to be much more limited than they are today. Nearly a decade ago, we focused on venture capital to launch our business, Attentive.ly, because that’s what was available. Having alternative funding sources for your startup is particularly important if you’re a woman or minority startup founder.
Fortunately, today’s entrepreneur has their pick of several options, including these five alternatives to the old standards.
Steward Ownership and Demand Dividends
Steward ownership works for companies that want to do something for society beyond maximize shareholder profit and sustains the idea that the people making decisions for the company should be the ones who run it, not a board of directors or outside investors.
Max Slavkin, Cofounder and CEO of the Creative Action Network, describes this experience in his article on alternative finance on Medium:
We started structuring the deal as a convertible note, because that was literally the only way we knew you could structure it — we’d never heard of a startup at our stage doing anything else. We knew it wasn’t a perfect fit, that a convertible note only “converts” upon a future financing event or exit, and those weren’t things we ever wanted to do. But it was something we could ask people to sign, and just getting people to say yes seemed hard enough without trying to do anything nonstandard.
In the first three months, after about forty-five meetings, we had just three people say yes, but at least we were on the board. We connected with Purpose Ventures, a new firm based in SF and Germany who liked what we were doing and, more importantly, introduced us to a novel model for companies like us who needed capital and wanted to stay independent. The ownership concept is called steward ownership, the idea that companies should exist to do something for society beyond maximizing shareholder profit . It’s a fairly commonplace notion in Europe (and throughout American history) and that the people making decisions for the company should be the ones running it, not a board made up of outside investors.
And they backed that idea up with an investment model that was based not on future speculation, but on capped dividends (sometimes called Demand Dividends). Once we hit a certain revenue threshold, we start paying a portion of our profits back to our investors, until they’ve all received five times their initial investment. That solved the “exit” problem and meant investors can make a solid return without CAN ever being sold. Finally, we’d found a way to raise money that actually reflected our goals and our values.
Their commitment pushed a few more angels to our side and brought our total investment round to $380,000 — thirty thousand more than the goal we started with! But more than the money, we had a financing structure that actually aligned everyone’s incentives: When CAN makes money, our artists make money, our nonprofit partners make money, our investors make money, and most importantly, more social-impact artwork is created and distributed. There’s no pressure of an exit looming to distract us from the real work of the business. We’re focused on our artists, our customers, and our impact, not on the hopes of a bigger future deal. And with a five-times return, our investors are still poised to make real money over time, without pressuring us toward unreasonable scale or away from our mission.
Small Business Loans
There are definitely more financial vehicles to help you get up and off the ground quickly than when we were starting. Don’t get a payday loan to cover your startup costs. You want to be smart about the type of funding you use, and the good news is you don’t necessarily have to max out your credit cards or get a home equity loan. Particularly for that initial seed funding, fintech (financial tech) startups offering creative financial products like quick-approval small business loans have emerged to meet the needs of small businesses and fledgling founders. We used this type of business credit-line to help patch a few holes when we were having cash flow challenges in our company.
NerdWallet.com lists resources for business loans, some of which you can obtain online. Fundera.com, StreetShares.com, and Kabbage.com offer resources as well. You don’t have to wait twelve months to get a venture capital investor if you tap into one of these fintech options, which give you a boost while you’re working on obtaining investor funding.
Make sure you read the fine print about the type of guarantee needed before you sign those loan papers. Chances are you will struggle, and you don’t want to lose your house if you’re not successful. Seek legal and accounting advice about structuring your company properly. Consider setting up a C-Corp so you’re working with money that you can declare bankruptcy against and get relief from the debt.
At some point, you’re going to need more money than these types of services can provide, depending on what you’re building, but they can help you bridge the rough spots.
While we were testing Attentive.ly, we were approached by CrowdTangle to invest in the launch of their product. They were bootstrapping, using friends and family funds and some of their own resources to get the company off the ground. Fission Strategy had a good reputation for technology. We had the resources they needed. They wanted to work with us but explained that, given their startup status, we were expensive for them. We believed in their product, but we had to keep a roof over our developers’ heads. We worked for them from the start for full price, but when their seed money ran down, we agreed to keep working at cost and replace our profit with sweat equity, meaning we earned equity in their company as we helped build the product.
Sweat equity can be a great way to make investments. If you’re a woman, you’re black or brown, or all of the above, the amount of sweat equity you can provide might be limited because you may have less disposable time and income. Other people may be depending on you, so sweat equity may have a higher cost.
Consider sweat equity but be careful about the terms. You don’t want someone to take advantage of you. You want to be a team player, but you also need to look out for your own interests and make sure you’re being treated fairly.
No one’s going to give you what you don’t ask for. Ask for a term sheet that defines what your sweat equity means and spells out what you receive in exchange and when. If you’re providing sweat equity while waiting for funding, if you’re still in the side hustle stage and you’re working as part of a team, how will you be compensated or reimbursed for some of that labor once you get funding? Make sure you’re covering your costs and getting something in return because, again, most startups are going to fail. Calculate the cost of your sweat equity if the company fails. Of course, you want to calculate the upside too, but you have to think about the risk management.
Crowdfunding is in some ways a more democratic, although certainly more difficult, way to get funding. According to the 2017 report Tackling the Gender Gap, written by the US Senate Committee on Small Business and Entrepreneurship, women have been 32 percent more successful than men in raising capital through crowdfunding.
The folks who have had the most success tend to make physical products that people can buy. Crowdfunding is driven by the idea that someone gives you money and if you reach a certain amount of money, you send a product to everyone who contributed. Unless you can reasonably make that claim, it’s probably not an option for you. Things may change in the future, and crowdfunding for software-related products and services may become a more viable venue for investment.
You have to have something pretty hot in order for crowdfunding to bring the investment you need. You can’t just put something up there and hope. You can’t just build a better mousetrap and hope that mice are going to wander by. That’s just not how this works. Your product has to fill a need, and you have to network and socialize it.
The foundation of successful crowdfunding is your network. Crowdfunding begins with friends and family, and as a black or brown founder, the funds that crowd can share are few and far between. If you have three to four thousand Facebook friends and many thousands of Twitter or Instagram followers, then crowdfunding might work for you because you already have a network of people who are interested in you and what you’re doing. If you don’t have a strong network yet, it’s going to be a different hustle for you. Finding angel investors, an incubator, or an accelerator to get started might be more viable. Crowdfunding platforms include Kickstarter and Indiegogo.
Chrissa McFarlane, Founder and CEO of Patientory Inc., a healthcare data management app, started her company with an initial coin offering (ICO). If you know the right people and know what to do, you could get a lot of funding in a relatively short amount of time. When you approach angel investors or venture capitalists, you’re speaking with a few people. With an ICO, you speak to many people. Hundreds, thousands, even tens of thousands come onboard for your ICO. ICOs can be risky, and there is increased regulation being applied to cryptocurrency.
With so many different sources of funding available today, you can likely find one that fits the unique needs of your startup.
Cheryl Contee is the award-winning CEO and co-founder of Do Big Things, which brings together a diverse team that uses new narrative and new tech like blockchain, AI, bots and machine learning to make the world a better place for everyone. Previously, she was the co-founder and CEO of Fission Strategy, co-founder of groundbreaking social marketing software Attentive.ly at Blackbaud (the first tech startup with a black female founder on board in history to be acquired by a NASDAQ-traded company). She is also co-founder of #YesWeCode, which represents the movement to help low-opportunity youth achieve high-quality tech careers.