What is Seed Funding?
I feel at the very beginning a business Idea is born in the minds of the owners. Only then they look out for ways to give life to that idea. Once they become more than 100 % sure of the idea & wish to start, then the first process will be to incubate this seed of thought. This is when they will need small sums of money to start the business, to plant this seed. The money collected at this stage of the business can be termed as seed funding. This is normally collected via Friends, Family or Anyone who have the confidence to lend you out without any terms & conditions as such. These people also don’t seek any part in management etc.
- Ideal Input : A business Idea who time has come.
- Ideal Output : A working prototype, or a working business model.
- The money last for max 3-6 months.
Time for Angel Funding
The funding at idea conceptualization stage last only for some months However the as a result of the work done during seed funding the owners can now have a working model to get them a few customers or accounts at the least, who are willing to buy the business product generated out this idea. This is the time when can seek for an Angel Funding.
Once the Angel Investors are convinced of the idea & concept & have a belief in it due to the working business model that they will invest some considerable amount in the business. They need some working business in the company to do a financial valuation of the company in monetary terms – to get is actual Dollar/Rupee worth.
An angel investing $200 thousand or more would probably expect any of the following privileges.
- Might want a seat on the board of directors.
- Might also want preferred stock.
- They will seek protection against VC’s getting major chunk in the future or diluting their equity.
The Angel Funding money usually lasts for 1-1.5 years.
Here comes the Venture Capital Funding Now
Once the founders are ready with their now somewhat concrete business plan and able to demo a real, working system which has begun to take shape & grow in size, it time to visit the VCs.
The VC offer their terms in a term sheet – which I think can be stated as an excel sheet with all the conditions related to the funding. After that if the founders have accepted the offer (i.e. the term sheet) , the VC firm goes for a background check of the company. This due-diligence is a normal procedure done by the VC to check for any hidden flaws or risk with the business model.
The VC then gives their valuation of the company, or in simpler terms what is the worth of the company according to them.
Say they measured the company worth at 4 Million dollars & are ready to offer 2 Million dollars of funding. This funding is usually spread over a period of time & given in small buckets ( we often hear Round 1 of funding, Round2 of funding etc.)
Here is a great quote on the relationship between Angel Investors & VC funds which tells a lot about their relationship:
“VCs regard angels the way a jealous husband feels about his wife’s previous boyfriends. To them the company didn’t exist before they invested”
Only they have the money, the startup will almost certainly hire more people at this point & use the money for expansion.
Private Equity are also here
By actual bookish definition PE funds is an umbrella category that consists of all the funding’s I have stated above i.e. angel investors, VC funding, hedge funds etc. But in today’s lingo the term Private Equity has the connotation of meaning “everything but angel or VC” – & that would primarily be Hedge Funds.
Private Equity firms’ buys majority control of an existing or mature firm.
This is distinct from a venture capital or growth capital investment, in which the investors (typically venture capital firms or angel investors) invest in young or emerging companies, and rarely obtain majority control.
Leveraged buyout, LBO or Buyout refers to a strategy by private equity firms of making equity investments as part of a transaction in which a company, business unit or business assets is acquired from the current shareholders typically with the use of financial leverage
Finally it’s time for Payback – Go IPO Go
Once the company has been established well & doing good business with healthy balance sheets, it would be the right time for next round of funding – the biggest of them all – by going for an IPO.
An IPO will act as a payback time for all the founders, seed investors, angel investors & VC investors. As their shareholding will have actual worth in the capital market of the country.
For the business as well, this could be a possible opportunity to collect huge sums of money from the primary market & keep on scaling to new heights.