Financing a startup can be a challenging and complex process, and many entrepreneurs make common mistakes along the way.
29% of startups fail because they run out of cash.
Being aware of these pitfalls can help you avoid them.
There are 7 ways to finance a business
1. Bootstrapping: fund your start-up yourself
2. Get support from friends and family
3. Join an accelerator or an incubator program (popular in tech businesses)
4. Venture capital funds (for high-growth startups mainly)
5. Reach out to the Angels Investors
6. Try crowdfunding
7. Request a small business grant from a government or a loan from a bank
Here are some common mistakes people make when financing their startups:
Failing to bootstrap initially
90% of entrepreneurs save up and fund their own business.
It may take more time before you can kick off, but the advantage is that you don’t have to give up any equity or control.
The biggest tech companies bootstrapped for a while before taking investment, like Airbnb, Facebook, Apple, eBay and more.
While external funding can be beneficial, some entrepreneurs skip the bootstrapping stage entirely, which is a mistake as you unnecessarily give away too much of your company too early. Equity financing can dilute your ownership and control.
Bootstrapping can help you prove the concept and gain traction before seeking outside capital.
For value, market, and team, timing is everything.
Consider when is the right time to raise funds.
Most startups are “too early” because they haven’t done the essential validation work to reduce investment risk.
Make sure you’ve gone through all of the significant assumptions that underlie your business model and that you’re ready before you apply for funding.
Underestimating business running costs
Estimate your start-up costs and ongoing expenses.
There are many risks associated with running your own company, including the possibility of losing money. Make sure you are aware of these risks and that your business plan accounts for them.
If you are not comfortable managing your finances, consider hiring a financial advisor to help you get started. This person can guide everything from budgeting to investment planning. Taking the time to plan financially can help ensure the success of your business.
Entrepreneurs often fail to consider all the expenses, including marketing, supplies and equipment, salaries, overhead, and unforeseen costs.
Supplies/equipment and their maintenance cost are something that people forget about the most. What can these things be? Depends on your industry.
If you work in the medical sector then you need RFID refrigerators and patient medical software.
If you work in the logistics sector, you need to pay out for a fleet of vehicles.
Try calculating your expenses in advance, and then add on 25% for unforeseen costs.
Ignoring the importance of cash flow
Make sure you have a solid plan for generating revenue.
Cash flow management is critical, as a lack of cash on hand can lead to the failure of a profitable business.
Cash flow is often more critical than profits for the survival of a startup.
Even if a business is profitable on paper, it can run into financial trouble if it doesn’t have enough cash on hand to cover its immediate expenses, such as rent, payroll, and bills.
Cash flow helps ensure that a startup can meet its day-to-day financial obligations, for example:
- Operating expenses
- Growth and expansion
- Debt repayment (if applicable)
- Investor confidence
- Strategic decision-making
- Sustainable growth and long-term success
Lack of contingency planning
Not having a backup plan or emergency fund in case the business encounters difficulties can be a significant oversight.
List any risk that could negatively impact your business
For example, can your packaging business survive the failure of shrink wrapping machines if they are connected to a web interface? This is a potential access point for cybercriminals, so a solution is needed.
Investors may disagree even if you believe you’re in a solid position to raise funds.
When negotiating, having not just a Plan B but even a plan C or D will assist you in gaining an advantage.
Having these alternative routes can aid you in negotiating conditions and dictating timing.
Inefficient use of money
Misallocating funds or overspending on non-essential items can deplete your resources quickly.
Expanding the business too quickly before it’s financially stable can lead to excessive spending and strain on resources.
Startups can burn through their funding rapidly if they do not manage their expenses and resources carefully. Here are several ways in which startups can quickly spend their capital:
- Excessive hiring
- Luxurious office space
- High marketing and advertising costs
- Product development overkill
- Uncontrolled overheads
To prevent a startup from burning through its funding too quickly, it’s crucial to have a clear financial plan, maintain tight control over expenses, focus on revenue generation, and regularly review and adjust the budget as needed. Being mindful of where and how money is being spent is key to the long-term sustainability of a startup.
Not having a plan to scale
Plan the process of scaling up well in advance.
Nothing scales automatically as your company grows unless it’s methodically built up for growth.
To scale you’ll need the necessary infrastructure in place — systems, people, procedures, tech, and physical space.
To avoid these common mistakes, it’s essential to conduct thorough research, seek advice from experts, develop a robust financial plan, and continuously monitor and adapt your financial strategies as your startup evolves.
Consider scaling incrementally rather than attempting rapid, large-scale growth. This allows you to test and refine your processes as you expand.
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