For tech startups at their early stages, given their structure, equity funding often represents the only option to get financial resources to launch and grow their business and expand operations.
In particular, they present high risks, no revenue and no collateral to present to get debt financing. And, even if debt is obtained, the option can be heavy to handle over time.
For other companies in more traditional industries it can be easier to get debt.
Given the above, whatever the option, raising capital and finding financing is a stumbling block that shuts down many entrepreneur’s hopes, dreams, and not to mention their hard-earned savings before they even start.
As an example, banks generally carry a 62% approval rate for business loans. This figure leaves many new businesses looking for capital in other places. And, coming back to what they affirmed above, venture capitalists and angel investors seem like the best alternative.
But working with them, it is not like getting a business loan with a given interest rate. They become shareholders and relationship becomes closer. For this reason, you need to partner with savvy investors who have a huge experience and growth culture because, among other advantages, there are some disadvantages to consider before seeking the support of equity firms.
In this article, we only want to highlight the negative points to think about before moving in the vc/pe direction.
Forced Management
Typically venture capital funding comes with a few strings attached. First, investors will require a stake in equity. Second, they will want to add management and possibly, remove some key managers currently in place.
The forced management changes may come under the request of bringing in a more experienced hand. In some cases, the investor may have decades of qualified business experience, which could be beneficial. However, handing over control of your management team is not always ideal. Your management team will often set the stage for your company’s culture. If the team has any dislike, or it seems that the funding is held over your head time and time again, the capital may not have been worth it.
Loss of Equity
It’s expected, but it’s still a downfall. When looking for venture capital funding, you’re often willing to give away a chunk of your business. Be wary of giving away too large of an equity stake in your company. If you have an investor dedicated to your vision, consider working out a private equity investment. With private equity investors, it’s possible that they’ll purchase the entire company if that’s something you’re open to.
Funding Problems
Because venture capitalists often move large sums of money, the capital exchange can take time and business owners must consider it and work around delays. Additionally, they may require certain milestones to be met before releasing funding. For example, an investor may want to see consistent monthly sales before allowing access to the agreed upon funds.
Limited Decision-Making Abilities
Limited decision-making abilities can be the breaking point for many new business owners. If you are operating a startup, you likely have a very clear vision of where you want your organization to be in one, three, or five years. With venture capitalist funding, you may have to compromise on your goals. As part of the management team changes which likely come with venture capital funding, you won’t have full control of your company.
Business owners may even have to meet regularly with the investor before they make any big decisions. Decisions such as content management strategies, marketing mixes, and partnerships can all default back to a compromise between the business owner and the investor.