It’s that time of year when we’re all staring down the end of the December, wondering where the months have gone. This is also the time when a lot of entrepreneurs wrestle with their plans for the next year, asking themselves: Where should I bet big? Are the growth targets right? How am I going to pay for all these big plans?

As a startup exec, adviser, and investor, I’ve spent a lot of time both asking and grappling with these questions. When it comes to ‘paying’ for company growth, I’ve been fortunate enough to sit on both sides of the venture capital table, so I understand firsthand the strategic benefits of equity financing, such as receiving a capital injection and advisory relationships with mentors. But equity growth capital isn’t always the best fit for early-stage companies, from either the investor or entrepreneur side of the table.

So how do you get capital to scale when your company is beyond the seed stage and has steady growth, but you’re not ready or willing to take on VC?

The good news is that there are more funding options than ever before for growing tech startups and several alternatives to traditional VC sources. Here’s a look at four alternative funding options for early-stage companies, including the main pros and cons of each. But first, I have a suggestion:

Have a plan for how you’re going to use the capital.

Our company has worked with more than 200 startups, and we’ve identified a pattern: successful early-stage companies have specific plans to use the capital before they raise money. Maybe it’s hiring your first salesperson or head of product development, or adding technical capacity. Whatever that next step is, understand your growth goals for the capital you’re about to pursue and put a plan together for how you’re going to use the money to scale.

Revenue-Based Financing

Revenue or royalty-based financing (RBF) is a type of funding in which a company agrees to share a fixed percentage (i.e. royalty rate) of future revenue with an investor in exchange for capital in the form of a loan. The amount of capital is determined by a multiple of monthly revenue (i.e. 3-4x), allowing companies with negative cash flow or limited assets to access growth capital. The total obligation is repaid via monthly payments calculated as a percentage of monthly revenue, increasing in strong-revenue months and decreasing in low-revenue months. While this funding instrument has been around for awhile, it’s only recently that revenue-based financing has become a more common funding option for tech startups.

The pros:

• Provides early-stage tech companies access to growth capital earlier in their life cycle compared to traditional sources such as banks or venture debt funds.
• Founder-friendly structure, commonplace to have no equity dilution, no loss of control, no personal guarantees and no financial covenants.
• Monthly payments are based on a percentage of monthly revenue, resulting in variable payments that fluctuate with the business.

• In the current tech startup landscape, the cost of capital for RBF tends to be higher than traditional sources, such as a bank loan, line of credit, or A/R factoring.
• Investment requires repayment on a monthly basis, thus reducing operating cash on a month-to-month basis.
• Requires monthly revenue and steady growth, making it a tough fit for pre-revenue companies.

More technology companies are turning to funding methods like revenue-based financing to get to the next level, and then they’re able to scale. A great example is MapAnything, a company we worked with based in Charlotte, North Carolina. The company used revenue-based financing to preserve equity while growing their geo productivity platform in Salesforce. Instead of giving up 20-30% of their company to a VC, they used RBF to scale. MapAnything went on to raise a $7M Series A and a $33.1M series B over the past two years, and have grown to 1,500 customers and 150 employees.

Accounts Receivable Financing

Accounts receivable financing, also known as invoice factoring, is an arrangement wherein a company sells their company’s outstanding invoices or receivables at a discount (i.e. 75%-85%) in exchange for an infusion of working capital into the business. As one of the oldest forms of business funding, when used correctly it can be a very useful tool when seeking working capital options for an early stage company.

The pros:

• Abundance of factoring options, making the process quick and options numerous.
• Does not require additional collateral or personal guarantees.
• Business owners retain complete ownership of their company; no equity arrangement.

The cons:

• Not available to all companies, requires minimum levels of current invoices or receivables.
• Provides access to working capital, while certainly an option it’s not the best tool to fund long-term growth of company.
• Contract terms vary across finance companies often include onerous or unclear terms including long contract length, excessive termination penalties, special fees, and all-or-nothing contracts.

With careful research, accounts receivable financing may be an option if you suffer from the classic startup catch–you need capital to complete a project or take on a new customer, but you don’t have a financial history or access to traditional bank loans or other funding options.

Startup Accelerators

Startup accelerators are programs that provide early-stage companies with a mix of financing, mentorship, networking, and education. Accelerators are looking for growth-driven companies that meet specific criteria. The program usually culminates in a public pitch day or demo event aimed at investors. There are thousands of accelerator programs in the US, and many of them are specific to geography, industry, and/or for specific communities.

Danielle D’Agostaro, Managing Partner and COO at Alchemist Accelerator, says: “Building a startup can feel like a lonely endeavor. Joining an accelerator program not only gives you access to other successful founders that have been in your shoes, but also a community of entrepreneurs who knows what it’s like to go through the startup experience. The connections you make can last far beyond the life of the program and you may even end up one or two degrees of separation from well-known alumni.”

The pros:

• Accelerators provide seed stage investment, and depending on the accelerator program, opportunities for follow-on investments.
• Introductions to investors during and after the program, along with some validation that your startup has met the accelerator’s quality standards.
• Focused learning on startup fundamentals (business model, financial models, team, value prop, etc.) and prepping your company for investment.
• Access to mentors with specific areas of expertise and industry knowledge; in some cases mentors will agree to invest, too.

The cons:

• Significant time investment and dedication — programs range from 3-6 months, and require participation in multiple ongoing meetings and events, which may interrupt early-stage momentum.
• Equity exchange — you may need to give up some amount of equity in your company in exchange for the program’s cost and investment, which can have the same ramifications as any other equity-based financing down the line as you grow.
• Focus and values alignment — you need to make sure the accelerator program aligns with your goals and focus. Example: if the program is focused solely on fundraising, the content, mentors and information will be centered around that topic. If your company isn’t at that stage yet, it may not be the best fit.

Technology-based Economic Development (TBED)

Many states support small technology companies by providing incentives and resources to spur their growth. A resource most early-stage entrepreneurs overlook is Technology-Based Economic Development entities at the local, state, and regional level. These organizations can provide access to capital, tax credits for things like hiring, and expertise and guidance to help early-stage tech companies scale. Most TBEDs are public-private partnerships designed to help technology companies not just to grow, but to stay in their specific region while they grow to fuel job growth and add to the tax base.

“We want you to scale, and we want you to stay in the state,” says Derek Willis of SC Launch, which is part of SCRA, a TBED in South Carolina. The organization provides funding and services to early-stage companies in the state’s life sciences, information technology, and advanced manufacturing sectors.

“Working with a TBED is like a seal of approval, because you’re affiliating with a group that has specific benchmarks and requirements in place,” notes Willis. “This shows potential investors that the company is an investment-grade opportunity, because you’ve already met a relatively high bar.”

The pros:

• Can provide non-dilutive, low-cost capital when you’re bootstrapping and past the “Friends and Family” stage, but are still pre-revenue or too early-stage to qualify for other types of funding.
• Demonstrates potential to future investors because your company has met a high bar in terms of qualifications and continued growth.
• Can provide an excellent source of connections and exposure to potential investors/funders and other entrepreneurs.
• Can help prepare you for the next stage of investment by funding key early-stage activities such as market validation, user research, and product planning.

The cons:

• Minimum qualifying criteria are specific.
• You need to be in a specific state or region to qualify; your company will be required to stay in that area to receive funding or other benefits.
• The amount of capital available to early-stage startups through TBEDs is generally smaller than other funding vehicles.
• Lot of pressure on a small amount of money – you’ll need to provide ongoing reporting around market sizing, growth projections, and financials.

It’s worth it to spend a little time online to find if there is a TBED in your state or region.

The Bottom Line

I’ve been on both sides of the table as an investor and a tech startup exec for many years. Raising and managing money is one of the toughest parts of running a startup. Make sure you look at all your funding options as you grow, and be open to alternative funding sources that can help you preserve equity as you scale.

Source: http://blog.gust.com/beyond-vc-funding-options-for-startups/