By Dean Kaplan
The long-held dream of winning millions in VC funding has turned into a nightmare for some startup founders who found out too late that equity funding wasn’t all they hoped it would be.
Some wish they hadn’t given up such a large share of their company’s value (and the control that goes along with it). Others say the relentless demands and expectations of venture capitalists claimed so much of their energy that they struggled to nurture the big idea that drew so much VC attention in the first place.
This might be why a growing cohort of founders opt to rely on debt funding instead. It’s not an easy path by any means, but it gives you the chance to retain full ownership of your company and guide its growth according to your own vision and priorities.
If you’re weighing debt funding as a possible path, here are some realities to consider, paired with advice for expanding your borrowing power over time to fuel each stage of your company’s growth.
What startups need to know about debt funding
1. Bootstrapping often means being your own first funder
The first hard reality of debt financing is realizing that lenders think very differently than VCs. They may admire your concept, your qualifications, and your personal drive, but their decisions are based squarely on the five Cs of credit. Unless your company already has a solid credit history, impressive revenues, or valuable collateral you can borrow against, you probably won’t qualify for traditional loans. And though the entire mission of the Small Business Administration (SBA) is to help new companies get off the ground, you’ll still need to meet minimum requirements to qualify for an SBA loan.
Essentially, most bootstrap entrepreneurs end up loaning themselves the money they need. Typical sources are personal credit cards, savings, and loans against equity built up in other assets, such as a home. This can be mildly terrifying—but many founders say it’s exactly the motivation they needed to focus all their energies on their company’s success.
2. Your biggest fans might be your best funding source
It makes intuitive sense that the people who care about you most in the world might be the ones who help you build your business. The list of world-class entrepreneurs who funded their fledgling companies by borrowing from parents includes Michael Dell, Mark Zuckerberg, Jeff Bezos, and Elon Musk.
But you don’t necessarily need wealthy folks to tap the love and goodwill that surrounds you. Debt crowdfunding gives you the chance to borrow from dozens, even hundreds of supporters, including friends, family, colleagues, and other fans you’ve made along the way. Launching a crowdfunding campaign gives you the chance to test-market your concept, strengthening relationships with customers and communities. Debt crowdfunding platforms report that startups often see significant new revenues after launching online campaigns, boosting cash flow and helping them build the track record needed to qualify for more funding later on.
3. Business and trade credit can help with many expenses
If your personal credit history is good, you may qualify for a business credit card opened in your company’s name. Having a corporate card can free up cash for other purposes and help you track expenses. Depending on your borrowing limit, your business account can help you make major one-time purchases (think computers, furniture, or other equipment) or supplies used to manufacture, package, and ship products.
Trade credit—the B2B equivalent of buy now, pay later—may also help with the purchase of supplies, equipment, and infrastructure. As with credit cards, do your homework to find the best terms and lowest interest rates, and align what you borrow with the revenues needed to make timely payments.
4. Financial discipline lays the groundwork for growth
Planning, budgeting, tracking expenses, and other financial tasks all require serious time and commitment. But knowing exactly where you are financially will help prevent the blind borrowing and spending that cripples too many startups. Fiscal sobriety also reduces personal stress and helps you feel ready for each successive cycle of business growth.
Create a realistic operating budget and stick to it. If you’ve underestimated some line items, look for savings in others to keep things in balance. Consistent expense control helps assure you’ll be able to satisfy debt payments and other obligations.
Research and plan major expenditures carefully. Get the best deals you can on absolutely everything your business will need. Buying smart reduces the amount you need to borrow upfront, keeping debt payments more modest.
Aim for an impeccable credit record. Pay debts on time, every time. Whenever possible, pay credit card balances in full to reduce interest expenses and boost your credit score. Put all debt accounts on autopay so you never miss a payment or incur a late fee.
5. The future belongs to companies that can raise capital when they need it
Your long-term success depends on your readiness to take full advantage of opportunities that might come up when you least expect them. Often this means bringing more capital to the table, so think of the steps you’re taking to build healthy credit now as the pathway to qualifying for future funding.
Banks and other lenders will look for steady revenue growth, good cash flow, solid expense control, and responsible debt repayment. Having the right financial statements handy enables you to prove you meet their loan criteria. SCORE, a national organization offering mentoring services for new business owners, recommends that you create and maintain a company profit and loss statement, balance sheet, and cash flow statement for easy sharing of your company’s financial data.
6. Reliable growth might be the new way of defining success
Bootstrap financing that relies mostly on debt might seem painstaking and slow. It may require you to give up at least some of your fantasies of instant success. But if the power to direct your company’s future appeals to you, this path might represent a dream that’s worth pursuing.
Debt funding FAQs
What is debt funding for startups?
Debt funding refers to funding a startup by borrowing money. Borrowed funds can be in the form of a bank- or government-backed loan, business credit card, or crowdfunded loan, among others. Most start-ups can only raise equity funding because the business doesn’t qualify for debt financing while they are still pre-revenue or negative cash flow.
Is debt funding bad?
Debt funding typically is good because it has a lower cost than equity funding. While it carries an interest rate, existing shareholders don’t have to give up equity or preferred return to investors, so it is usually lower cost.
What is the most common form of debt financing?
Venture debt is typical for startups, which often includes stock warrants for equity in addition to the interest rate.
About the Author
Post by: Dean Kaplan
Dean Kaplan is president of The Kaplan Group, a commercial collection agency specializing in large claims and international transactions. With more than 35 years of successful experience in manufacturing, international business leadership, and customer service he provides business planning, training, and consultation services for a wide range of global companies.
Company: The Kaplan Group
Website:
Connect with me on
LinkedIn, Facebook, and Twitter.
