Structure Your Fundraise

Before we teach you how to raise capital, you first have to figure out what type of capital you’re going to pursue. Understanding all the nuances of the different capital sources can get confusing, and most Founders don’t actually know why one source of capital is more appropriate than the other.

We’re about to change all that for you. You’re about to learn everything there is to know about the different forms of capital. No, it’s not as exciting as watching a Marvel movie, but it pays better.

Startups typically raise money in 3 ways – Bootstrapping, Debt, and Equity. There are a few more variants but there’s a 90% chance that if you raise money, this is how you’re going to do it.

The rest of this section is dedicated toward outlining how each funding type works, where it fits in your plan, and what to expect if you go that route.

Before you get too fixated on one source of funding, remember that funding for a startup is typically a combination of every available capital source. Almost every startup funding strategy is a mix of bootstrapping, debt and equity at the appropriate levels during the appropriate times.

Seasoned Founders do a great job of understanding the pros and cons of each funding type and when they can use each to its maximum effect. That’s a big part of what we want to illustrate here.

Contrary to what many believe, most businesses don't get started by way of a big investment from some deep-pocketed investor. Most businesses get started by an entrepreneur using their own means to launch the company, which is called “bootstrapping”. It’s the default position everyone starts at.

Bootstrapping involves all sorts of capital - friends and family, your personal savings, crowdfunding, and of course the ever popular "sweat equity" (getting people to work for stock in your company).

You can expect to have to invest some of your own time and capital into the business before someone else will start putting outside capital into your company. If you don’t have a lot of cash to put into the business, you’d be expected to at least invest a lot of time doing market research, talking to potential customers, and putting your plans in place to make the business successful. Simply having a business idea isn’t enough.

Once the business has been established, even if that’s as simple as incorporating and putting together the business plan, the search for capital may begin. However, the less you’ve done to move the business forward, the less likely you are to find outside capital.

Our experience in working with hundreds of thousands of businesses has suggested that you want to push the business as far as you possibly can without capital before you seriously begin looking for capital partners.

First off, let's not think about Bootstrap Capital in terms of "if an investor doesn't give me money, I guess I'll try to figure out how to do it myself." That's a recipe for failure. Bootstrapping is your Plan A. It's not an alternative to finding funding. You’re going to bootstrap no matter what until one day you aren’t.

The most realistic path to growing your company, even if it does eventually take outside funding, is to exploit every possible method of Bootstrap Capital you can get your hands on.

99% of businesses are not going to attract angel investors and venture capitalists. That doesn't mean 99% of entrepreneurs just pack up and go home. It means that they make intelligent use of Bootstrap Capital. They stay lean. They stay scrappy. They figure it out. That's how businesses actually get started.

From the moment you have an idea up until the point where your company starts building some traction (finding new customers, getting a product launched); Bootstrap Capital is what's going to pay the bills.

Using your own methods of funding has two huge benefits:

1. Alleviates the Reliance on Funding. The further you make it by bootstrapping the less reliant you are on investors. Sure, it's intimidating to start a business now when all you see are costs and having a big outside check sounds real nice, but eventually the business will start generating some revenue, and eventually it'll start paying for itself. Usually what you need is time to get there, and Bootstrap Capital is what typically fills in the gaps.
2. You’re more Attractive to Investors. Bootstrapping forces you to be very capital efficient, because, well, you have no choice! That is exactly what investors want to see. They want to see a Founder that watches every penny of their money and can show that they can make a lot out of a little. A Founder with a strong bootstrapping story is very appealing to investors for just this reason. They think “If they could get that far without money, think about what they could do with my money!”

Therefore, whether you plan on raising money or not, your default position will be not only using a some of your own capital and resources, but demonstrating that you’re crazy efficient with how you use those resources.

Every Founder draws from roughly the same pool of resources when bootstrapping. It’s all about being scrappy. If it feels like you’re constantly trying to create a skyscraper out of Lego bricks, well, that’s pretty much what it means to start a company. There’s rarely another version.

By now you’ve certainly heard of Crowdfunding, and there are so many different methods of raising capital from strangers (which include debt and equity) that we tend to lump it into Bootstrapping as well.

Crowdfunding can be a great way to raise small amounts of capital for your startup, however the myth of what it can do and the realities are pretty different. You don’t “post an idea on a crowdfunding site and strangers just hand you money.” It’s an incredible amount of work that closely resembles doing an actual product launch. That said, it is a great way to raise small amounts of money if you feel you have an audience that you can address through your own means.

The most valuable type of bootstrapping capital is “customer capital”. That just means you’re selling a product to a customer and using their proceeds to fund your business. You know, like a business.

Savvy Founders will leverage customer capital in lots of ways including taking pre-orders (which you see a lot of in crowdfunding), doing service work that allows you to use your time (in lieu of having a product yet) or negotiating contracts to guarantee payments quickly, sometimes at a discount.

If there’s one universally agreed upon best way to raise money for your startup, Customer Capital is it. It should be the first thing you consider above all else. We mentioned it last because we didn’t want you to overlook all the other options.

There's a good chance that your company will never attract (or need) outside funding, so if nothing else, Bootstrapping should be your primary concern when it comes to funding your new venture.

Remember the best outcome is not needing more capital to begin with. Wouldn't that be nice?

It’s often hard to determine exactly how much capital to raise. Should you raise enough for 6 months, 1 year or 2 years? Should you raise enough to buy assets or just lease them? Are you asking for too much? Too little? Should you be talking to an investor a bank?

Yeah, it’s a bit overwhelming.

The trick to assessing your capital needs is to break them into smaller milestones and determine which milestone you need to fund next. Startups don’t get a giant check all at once to take care of all their capital needs. They get enough money to reach the next major milestone, and then they raise more if they need to. What we’re going to work on is identifying your next major milestone and the best path to fund it.

Before we dig into milestones its first helpful to get a better feeling for how the major phases of capital raising tend to work. We’ll dig into this more a bit later but for our purposes now, capital raises tend to work in this order:

• Personal Capital ($50k or less). You use your own means to get the business incorporated, perhaps build a prototype of the product, and try to solicit an early adopter to get validation around your business.
• Seed Capital ($250k or less). An angel investor (which his often someone you have a previous relationship with) puts in a relatively small check for equity. Alternately you may secure a small loan from a bank, although it’s often hard to do without some sort of asset as collateral.
• Angel Capital ($1m or less). Professional angel investors (similar to Seed Capital) who make angel investments for a living invest a more significant amount of money in the business in hopes that it will help you achieve a major milestone that could attract a much larger follow on funding round.
• Venture Capital ($1m or more). Once you’ve shown you have a great deal of traction (we’ll talk about this later) professional venture capitalists look to inject large sums of money to really grow the business significantly.

While the amounts of each stage may vary a bit (we’re using typical averages here) the phases are pretty typical. You will want to focus on raising enough capital for this phase of the business, wherever you happen to be.

Raising capital is the most expensive thing your company will ever do. It’s unlikely that you’ll have any transaction that will be more dilutive to the equity ownership of you and your team than the decision to raise money. If you take on debt which is non-dilutive, there’s the “expense” of risk if you default.

Either way, it’s not a decision to be taken lightly because in both cases, there are no “take backs”.

Therefore, you’ll want to strike a strong balance between asking for enough capital to achieve your next milestone but a small enough amount that is both achievable and not overly dilutive and risky.

Here’s an example of where overshooting the mark could cost you dearly:

The same concept applies with debt. You don’t want to take on a million-dollar loan and service that debt if you could have taken on a much smaller amount and lowered your liability.

Determining exactly how much capital your company needs are based on four main factors:

1. Key Milestones. What is the next major milestone that will prove the business has forward progress. Things like opening a restaurant, shipping the first product, closing the first customer.
2. Required Resources. Who do you need to hire? How much marketing budget will you need? What’s the minimum order size your supplier needs to make your product?
3. Time to Delivery. How long will it take to achieve your next major milestone? This will determine how much capital you will need for your required resources.

Key Milestones are actually going to be the most talked about point in your discussion with investors. In their mind, they are thinking “If I fund this business and the Founder hits their milestones, will the business then be able to either attract more customers or more capital to continue to grow?”

The best way to think about this is – determine what would add meaningful value to the business to make it ready for more growth. Every company varies a bit, but the most common milestone categories are:

• Ship Initial Product. Whatever the requirements are to get a product in your customer’s hands (ideally to pay for), this is almost always a critical milestone that will be the center of your discussion.
• Confirm Paying Customers. Shipping your product doesn’t guarantee anyone will buy it. You still have to be able to prove that customers want to buy the product you invented just yesterday. Investors will want you to assign a timeline (say, 6 months) during which you plan on getting the product into as many customers’ hands and validating they want to pay for it.
• Validate ROAS. Your “ROAS” is your Return on Advertising Spend, which simply means if you pay $1 to acquire a customer, you hopefully make more than $1 in what you sell them. Showing that on a small scale basis you can cost effectively acquire customers is a critical milestone to be able to scale the business. This is sometimes referred to as your “CAC” or Customer Acquisition Costs.
• Hire Team. Often you’ll be hiring a team well before you begin building the product, so investors will want to see what people you’ll need and when you plan on bringing them on board.
• Contract Suppliers. If you have a business that sells hard goods you’ll need to prove that you can lock down key suppliers at a reasonable cost to produce the product sooner than later.

This isn’t an exhaustive list, but it gives you a sense for the types of milestones you’ll want to consider when you build toward you plan.

Your Required Resources and Key Milestones tend to work hand in hand. Whatever Key Milestones you lay out are of course going to be tied to the resources you need to achieve them. Once you have determine what you’re trying to achieve, the resources begin to fit right in. The most common are:

• Shipping your MVP. Your MVP or “Minimum Viable Product” is the simplest version of your product that you can produce that someone will pay for. If you can raise enough money to create something that initial customers will buy, that can prove your value to attract more capital.
• Acquiring Customers. If you already have a product to sell, having a budget to acquire new customers is always important. Typically this budget will drive your revenue projections, so the goals of revenue and needs to fund customer acquisition often go hand in hand.
• Expanding your Team. What are the critical roles that you need to grow? Think small. A lean team at maximum output is always the best approach since salaries tend to eat up the lion’s share of most startups.
• Building Inventory. If you’ve got hard costs on inventory, determine what a healthy amount of inventory would be and the capital required.

Once again, this isn’t an exhaustive list but it’s the most popular categories that make up a capital raise. You may also find that your specific situation requires things like securing an office lease or putting a large deposit down for a manufacturing run. All of this will be determined by your Key Milestones.

Of the 3 factors, this is often the hardest one to determine.

How long will it take you to find paying customers? How could you possibly know that? Are you in the crystal ball business? Of course not. Investors aren’t asking for the exact day someone will buy. They are asking for how long you need to stay in business in order to find out.

For example, if you raise enough capital to last 6 months, do you feel confident that you can have the product in front of customers by Month 4? That would give you 3 months to find paying customers which isn’t a lot of time. You may not know a customer will buy your product by Month 5, but you sure know that you’ll be out of money by Month 6 based on how much you raise.

Each of your Key Milestones should have a ballpark estimate for when you’d like to achieve those milestones, from hiring your team to shipping your product. No one expects an exact date, but they do expect reasonable estimates for how long something may take to get done.

Will you hire your team in a week or 2 months? You don’t know. So you would estimate it would take up to 2 months. Will it take you 3 months or 6 months to build your product? You don’t know. So you estimate it will take you 6 months. The time it would take to hire the team (2 months) and the time it would take to ship your product (6 months) means it’ll be 8 months before you ship something.

Investors can then estimate that you’ll need enough operating capital to last well over 8 months. If you get things done faster and need less capital, that’s literally never been a problem any startup has been faced with!

Your delivery estimates should consider the worst case if you want to be in the best position to be successful.

If you’re raising money from professional investors, you’ve basically got two options – Equity or Debt. We’re going to spend a lot of time discussing the ins and outs of both, but at this point we’re going to give you the super short version of the two:

Easy right? Not so much. What they are is easy to understand, how to choose them and how to acquire them is a slog.

It’s important to note that you’ll probably use a combination of both types of funding as you grow, so it’s worth understanding both so that you can use the right tool for the job.

Looking to open a restaurant? Venture capital makes no sense. Looking to fund a software startup? Don’t bother with your local bank. Have a services company and want to raise money for it? You’ll have a tough time locating a debt or an equity investor.

Just because people have money doesn’t mean they invest in your type of business. Or maybe they do, and they don’t invest at your stage (size) of the business.

Here’s a quick example of how the major funding sources tend to favor certain industries:

Does that mean Venture Capitalist has never funded a coffee shop? Not necessarily (Starbucks had venture money) but that doesn’t mean that was the first money they raised (it wasn’t). Each funding source tends to have an area of focus that plays to their strengths.

Venture Capital tends to go toward businesses that can have exponential growth like an Internet company but have incredible risk. Banks can’t afford that kind of risk so they tend to look for investments that have much smaller returns like a restaurant but are much more likely to generate a profit to pay back their loans. Then there are a ton of “specialty finance” companies that cater to specific needs, such as Merchant Cash Advance lenders who offer a loan based on existing receivables of a company. Everyone has their comfort zone, but it’s up to you to look for funding that aligns with the types of stuff those funding sources appreciate.

Realistically most decisions between Equity and Debt come down to one simple question – “Do I want to give up stock for the long term or take on personal risk with a loan in the short term?”

Equity often sounds like a better option because, well, who wants personal risk? Why take the risk of putting your home up for collateral on a business loan when you can take an Angel Investor’s money with no personal risk?

Well, there are a few reasons but it looks something like this:

In either case we’re assuming you even have the option of going that route. It’s not that simple. Investors may have no interest in your company and lenders may have no interest in giving you a loan. That’s why we said that “Bootstrapping is always Plan A” and this is the reason most startups are bootstrapped without outside capital.

You’re not limited to just one option. You can talk to both investors and lenders and get a sense for which terms make the most amount of sense for you. Again, most Founders aren’t weighing the two equally – they are pursuing whatever path is even an option. That’s why it makes sense to explore both options so you have a better chance at securing funding at all.

And with that, let’s explore what both options look like.

Pursuing an equity fundraise means that, in exchange for the money they invest now, investors will receive a stake in your company and its performance moving forward.

Equity is one of the most sought-after forms of capital for entrepreneurs, although certainly the least available. Simply put – there are very few equity investors who have a check to write and there are 1000x more Founders with ideas to fund. It’s a supply problem.

Equity is valuable when the business requires an investment that will involve a high degree of risk without an immediate payback or return of capital. That's why certain companies that require a long runway before they will start generating cash flow look to equity capital. They cannot be stuck making monthly debt payments when they don't yet have income!

The challenge for most Founders isn’t simply understanding that you’re giving up a piece of your company to take on investors. It’s understanding the entire process. Next we’ll discuss when to use equity, what the challenges are, and how to understand the terms used.

There are several situations in which an equity fundraise makes the most sense or is the only real option for a company.

When you need a LONG runway

Not every business will start generating income as soon as it launches, but spending a few years in the red doesn’t mean your company isn’t a viable business proposition—or much more than viable. Internet companies, for example, are notorious for going years in operation without even attempting to charge their customers. If you’re going to need a sizeable infusion of operating cash to sustain your business before it starts turning a profit, equity investments are the only form of capital that makes sense.

When you have zero collateral (for a loan)

In order to take out loans, you need to have something to offer as collateral in case things don’t work out quite as you planned. If you don’t have anything of value to give loan providers that security, your only real option for funding is to find equity investors who are willing to take a chance on your idea with nothing to “sell” if the business goes south.

When you can’t possibly bootstrap

While home-growing your company from your kitchen bit by bit may not sound as glamorous as hitting the ground with investors already in your lineup, most investors will expect you to start there before they invest. But some businesses—a private jet service, for example— require a massive amount of capital just to get off the ground. In those cases, you have little choice but to go directly to equity.

When you’re positioned for astronomical growth

Equity capital tends to follow businesses and industries that have potential for massive growth and exponential paydays. Your local coffee shop concept may do really well, but it doesn’t have the potential to become Google, so you’re not likely to attract many equity investors. On the other hand, if you’re looking to build the next Starbucks chain, and you have a vision and a plan that supports that kind of growth, chances are investors will be very interested in jumping onto your bandwagon on the road to IPO.

Bear in mind that just needing money doesn’t qualify you for finding investors – you also have to be the type of company equity investors tend to fund. But if you’re nodding your head to all of these conditions, chances are you’ll be pitching investors in the not-too-distant future.

Not surprisingly, there are some real challenges around going the equity route when raising capital. These shouldn’t necessarily keep you from considering equity, but they are real challenges that every startup faces no matter where they are in the continuum of fundraising:

Equity investors are interested in one thing: liquidity. That means they won’t be satisfied with a cut of your profits each year.

Most investors, especially venture capital investors, expect a company to be either sold or IPO within 7-10 years. That means you only have one outcome that will get you there – serious growth. A big outcome to you might be a $5 million business generating $1 million in profit each year. A big outcome to them will more likely be a $100 million or $1 billion business.

One caveat – the expectations tend to scale with the size of the check. A small investor putting $10k into your specialty greeting card business may be just fine with a small outcome, including distributions. But as you look for bigger checks, it’s a safe bet to expect investors to ask for big rewards.

There are far more people looking for equity investors than there are checks being written.

A single angel investor may look at hundreds of deals in a year and write just one check. Now imagine how hard it is to get funded if you’re even the least bit unprepared versus all of the other promising startups who did their homework.

Finding an investor is not about just having a great idea – everyone has a great idea. Finding an investor is about having the most traction, the best plan, and the biggest return on their investment. Every aspect of your startup is in competition with every aspect of someone else’s start, and the stakes are high.

Finding an investor can easily take 3-6 months, sometimes longer. This isn’t like applying for a mortgage and waiting for a yes/no response. It’s more like trying to find a partner to marry. There’s no way to guarantee when you’ll find the perfect love connection between your idea (which again is one of many) and an investor who just can’t say no.

Even once an investor shows interest, there are lots of follow-on meetings to do diligence to make sure they are ready to make a bona fide offer. Once they make an offer, you then spend more time negotiating all the finer details of the deal. Then the lawyers come in and the process gets even longer.

Founders budget many months where they expect to prepare their materials, identify investors, setup pitch meetings, and hopefully close a round of funding. It rarely happens quickly, so just be prepared.

Once you give up equity, there’s a 99% chance you’ll never get it back. Of course this applies not only to equity investors but to co-founders, employees and anyone else you incentivize with stock. But investors tend to take very large blocks of stock very early in the company’s infancy.

What may seem like a small amount of stock now – say 25% - becomes exponentially more when you consider the next round of capital that you raise will also want a meaningful chunk of stock – maybe another 25%. This compounds over time until some Founders find themselves with a very small stake in a company that they felt like they owned outright just a few years ago.

Sometimes a smaller piece of a bigger pie is more valuable. Most of the time its just a smaller piece.

Some entrepreneurs will say “Well so long as I control the majority percentage of my company, I’m still the boss so who cares if I take capital?” That’s incredibly wrong for a few important reasons.

First, most investment documents will have key provisions that prevent you from doing many things you’d assume you can do, such as setting your own salary or selling to an acquirer on a deal that makes you wealthy. The “Term Sheet” of an investment is designed to outline terms that an investor will want to protect their investment and provide very real controls over the company despite what percentage they own.

Second, there’s something in the investment world known as the “Golden Rule – She with the gold, rules.” That’s a fancy way of saying whomever controls the purse strings of your company, be it a banker or an investor, truly has control over the fate of the company.

Last, startup investments usually establish a Board of Directors to make key decisions. Most of the decisions may be made by you day to day, but the big ones, such as when you can sell the company, will most certainly require Board approval.

Despite all of these challenges, many of the most well-known startups have taken equity and many have done just fine. So while these are concerns, they don’t need to be deterrents.

Most of us don’t sit around talking about the details of an equity investment deal (thankfully) but once you start talking to investors, you’re going to need to know a handful of important terms that relate to how equity deals are done.

Don’t worry about memorizing terms, just focus on the concepts. Some of these you will have heard before, and right now we’re just going to provide a basic understanding so you don’t get held up when talking about an investment.

There are a handful of terms that will almost certainly be thrown around when you raise capital. These are the most common and represent the least you need to know when talking to investors:

For now you don’t need to become an expert in talking through complicated investment terminology. But if you understand the basic concepts you should be well on your way to starting the conversation amongst investors.

Convertible Debt is often used as a method for making an Equity investment which is why we tend to cover this topic as an Equity discussion versus a traditional Debt discussion.

Convertible Debt is essentially a mash-up of debt and equity: you borrow money from investors with the understanding that the loan will either be repaid or turned into a share in the company at some later point in time—after an additional round of fundraising, for instance, or once the business reaches a certain valuation.

This is often done among early stage startups to allow an investor to put money into the startup now but to wait until the startup can be more realistically valued later on it in its growth.

Convertible Debt has become really popular among early stage startups because agreeing on a value of the company in its infancy is always hard. Therefore, Convertible Debt allows both the investor and the startup to “kick the can” down the road until later when the company has grown a bit and can more easily be assessed on value.

A convertible debt fundraise makes the most sense for startups that are not yet ready to set a valuation for their company, either because it’s too early to determine one, or because they have reason to believe that the valuation will be much higher at a later date.

It's important to note that Convertible Debt tends to favor the entrepreneur versus the investor in many cases because it provides a mechanism where the entrepreneur can give up less equity in the future if the company winds up becoming wildly successful. Investors agree to this structure as a way to get into an investment with an entrepreneur without creating too much friction around valuation. Again, this benefits the startup more often than the investor, so it’s typically driven by the startup.

When you can’t Agree on Valuation

Most startups are almost impossible to value in their infancy. Is your mobile app worth $250k, $2.5 million or $20 billion? (Answer: not $20 billion). In almost every case it’s too early to make that determination until the startup has had time to put the investment to work and create a product that has more tangible value.

The goal is then to let a later investor – who can more aptly determine the value of the company because it has matured enough to do so – to value the company. It’s a bit of a risk on both the startup and the investor’s part because the future valuation could favor either party a bit more. To protect against that (for the investor) there is something called a “valuation cap” that we will discuss later that limits how high the future valuation can affect the existing convertible debt investment.

When you Might NOT Raise more Money

Although convertible debt deals are typically intended to convert to equity at a future date, that conversion is almost always intended for a future financing round. Of course, there’s no guarantee that your startup will raise more money, either because it can’t or it doesn’t need to.

In that event, the convertible note will simply turn into a traditional loan, at which point you really will have to pay that amount back unless you can agree on a fair valuation to convert the note to equity. What’s nice is that both parties have a bit of optionality to consider either outcome.

When you want to Move Quickly

Convertible Notes tend to use fairly standard legal documents to bring both parties together earlier. Since there often aren’t as many provisions as an equity investment (because technically it’s not an equity holding – yet) the negotiations tend to move by a lot faster and therefore the raises tend to be more streamlined. There’s just less to argue about!

While convertible debt tends to favor the entrepreneur, it’s not without its challenges.

Compared to a straight equity investment that has no repayment provision, convertible debt is by all means still a loan. That means the investor may not choose to convert that money into equity and instead ask to be paid back – with interest.

Comparatively, a straight equity investment doesn’t get repaid (at least not like a loan). You have the peace of mind in knowing that whatever investment has been made is essentially “permanent” and can’t turn into some new liability further down the road. To be fair, this doesn’t happen that often because either the company can’t raise more money (no trigger event) and just goes out of business or it does well enough that the investor would prefer to convert to equity (forgiving the loan).

With convertible debt you are punting the valuation to some future period down the road. Unfortunately, you’re also running the risk that when you do raise money, the valuation of the company could be lower than what you had anticipated in this round.

Investments work on a lot of speculation about the future. Sometimes the rosy picture of the future is even rosier when the concept is just a sexy idea and not a real company that has real challenges. The moment you take investment capital and find out that the product has shipped later than expected, customers didn’t pay like you thought they would, and your time to profit might be a much longer road than expected – that can all go south when it comes valuation time.

By contrast, locking in a valuation now (and just doing a typical equity investment) can provide some potential downside risk if the valuation you’re getting now feels reasonable.

Generally speaking, investors prefer to negotiate a valuation now, so they don’t have to wonder if they may get a discount against their investment later. If you’re working with investors who aren’t particularly enthusiastic about the terms of convertible debt (not all are), you may run the risk of turning off prospective investors who would otherwise consider investing.

Like anything else, this is simply a matter of having an open dialogue to discuss preferences.

Convertible Debt deals are really just driven by a handful of specific terms that govern the events that trigger the debt (to convert) and the value of the existing investor’s capital when their debt converts to equity.

Most of these terms are fairly standard within Convertible Debt documents so if you’re having a discussion around setting up a convertible debt instrument, you’ll definitely need to know these terms:

When entering the funding landscape and trying to wrap your head around everything, be patient. Startup funding is a critical component to your business venture and is a big issue to tackle. Even experienced entrepreneurs haven’t dealt with all the different types of capital in their careers. The key is understanding the different options available, and then very deliberately evaluating your options.

Debt is the most common form of outside capital for new businesses. While angel investors and venture capitalists get all the big headlines for funding exciting companies, it’s the debt providers that are behind most of the investment dollars that go into the 99% of companies that aren’t splashed across magazine covers and business websites.

Debt options like business loans, larger lines of credit, factoring and other forms of financing are useful when there is a well-identified means to service the debt in place.

The challenge in debt financing is that it requires some form of collateral (in most cases) to secure a loan. That collateral can come in many forms, from personal guarantees to company receivables to equipment and real estate. Therefore debt is more typically an option for traditional businesses with tangible assets versus speculative businesses (think: Internet startups) that may have to wait years before any tangible asset is created.

Unlike pursuing equity investors who write very few checks, debt options are far more ubiquitous and well understood. The challenge around debt is that very few startups have assets to use as collateral for a loan. Thus, once again, it’s why Bootstrapping is always Plan A.

There are quite a few debt options, though, so we will walk you through each so that you can understand how one might be more accessible than another.

As with equity, there are a handful of scenarios where debt is the most useful option for financing your company.

When you need less than $50,000

Debt works particularly well for smaller startup amounts, typically below $50,000, because those amounts are more in line with what the average person can collateralize themselves. Some debt options, such as the SBA loan program, can even offer loans with less personal guarantees or collateral.

When you need capital quickly

Debt options tend to be far more readily available and can be turned around more quickly. Debt investors used more of an “application” style approach where they can process your request and turn it around in as little as a few days or as long as a month, depending on how complicated your ask is. Equity, by comparison, can easily consume 3-6 months and has no guarantee that you’ll have any money at the end of the term.

When you need the money for a very concrete, tangible reason

If your funding needs are in the physical realm—you just need real estate, for example, or computers or other equipment— a debt raise makes a lot of sense. You’ll have your collateral right there, and you’ll be in position to give your investors tidy timelines.

When equity isn’t available

Equity investors tend to focus on a small number of industries that have exponential growth opportunities. This typically means some version of tech. If you’re looking to open an apparel company, your equity options may be few, as investors see more upside in tech deals than apparel deals. Therefore a lender is a more likely ally.

When you don’t want to dilute your stake

Debt options typically don’t involve anyone taking a stake in your business. It’s why you typically don’t hear about your local business person (who started with loans) complaining about their last Board meeting with angry investors. If you’re particularly excited about retaining control of your startup (you probably should be) then debt is also pretty attractive.

While debt is more pervasive than equity, it does come with some of its own challenges that may be difficult for a first time Founder to overcome.

Despite what you may think, banks and other lenders don’t make that much profit on a single loan, especially if a few go bad. It’s this simple – banks make so little on loans that each time a loan goes bad they have to have some asset to collect upon in order to make up for the loss. That’s why collateral is the name of the game.

Lack of collateral is not the end of the world: Lack of collateral doesn’t completely rule out the possibility of taking out a loan. But if you don’t have any collateral and you don’t plan on signing for the loan personally, your options are mostly limited to smaller loans like the SBA-backed options.

Almost any form of credit that you’ll sign up for in the first few years of your startup is going to require a personal guarantee of some sort, no different than your car loan or a home mortgage. Everyone is freaked out by this, understandably so, but it’s typical.

Over time you can begin to shift some of that liability from your personally guaranteed debt plans to one that is guaranteed by the company, but only when the company has proven it has sufficient collateral (think: billings, hard assets, real estate) to stand on its own. That will probably be a while. In the meantime, you’re on the hook personally.

Your credit card company may be OK with you making minimum monthly payments but chances are your lender will not. Commercial loans are setup with fixed monthly installments (like your car or home) which as they come due can be painful early on for a startup just struggling to get its first paying customers.

There are some credit products that allow you to pay back your loan as your cash flow improves (a “merchant cash advance” sometimes allows for this) but those are the rare exception.

There are lots of options available for using debt to fund your business, and if you read nothing else in this section it’s worth just scanning these options so you’ll understand the landscape.

Applying for a business credit card works almost identically to a personal card except that it is in the company’s name. Realize, though, that the card being in the “company’s name” doesn’t absolve you of liability. If the company runs out of money and the issuing bank is owed money, they will come after those who applied for the card personally to collect.

Business cards vary but generally offer initial credit balances ranging from $10,000 to $50,000. Just like a regular credit card, they also give the business the option of making a minimum monthly payment which can help if it’s being used to manage cash flows for future receivables.

Most small businesses at some point try to secure a business line of credit. It’s basically a graduation from the limits of a credit card to help fund the business. These are most commonly secured at your local bank after you’ve been in business for a couple years. The bank will offer a larger line of credit – typically between $50,000 and $500,000 once the underwriter can see that the company has consistent paying customers and fairly predictable cash flow.

There’s not much downside to a business line of credit since, like a credit card, you can pay it down and avoid future payments that spiral out of control. But just like any credit facility, it has to be used as a last resort versus a primary method of covering non-recoverable expenses like payroll and rent.

If you’re going to buy a building, you’ll need a commercial mortgage. A commercial mortgage mostly resembles a consumer home mortgage in that the entire product is tied to a single property.

Similarly, the bank will require a down payment, usually a bit higher than what you’ll find to qualify for a home. These down payments can range from 20% on the low end to 30% or more on the high end. Also, banks will almost certainly require a personal guarantee for the loan for early stage businesses since other forms of collateral are rarely available for such a big loan in the early days.

One of the most consistently overlooked forms of capital are vendor credit lines. Companies who sell products primarily to small businesses – think Staples, Dell, even Home Depot – almost always have an in-house credit facility that tends to be easier to get and more generous than other debt providers.

These will still require a personal guarantee, however because the business itself has a vested interest in selling you more goods, they will often be a bit more aggressive at establishing a line of credit to help you afford meaningful purchases to your business.

Banks have access to the SBA Loan Program which provides a bit of extra collateral from Uncle Sam to subsidize the personal cost toward getting a small business loan. These loans are indeed small – typically below $25,000, but they are often the first real loans a startup can get.

While the Government may be subsidizing some of the collateral, that doesn’t mean you’re off the hook on repayment. Banks will still require that you personally guarantee the loan to ensure you repay responsibly.

We’d be remiss if we didn’t single out the American Express card as maybe the easiest access to quick business capital you can get. American Express issues a 30-day charge card (you have to pay the balance in 30 days) very frequently to brand new businesses.

Having an extra 30 days to pay your costs can have a massive impact on a small business. For example, you may use the card to pay for Google Adwords to get paying customers to your website. You then collect their money today. 30 days later you pay American Express for the Google Ads that you ran. You’re actually collecting money faster than you’re paying it out. Even startups who have raised millions of dollars tend to have an American Express charge card.

A lot of lenders will provide loans secured by the future receivables of your company, provided you have a strong track record of having receivables to begin with. For example, if you’ve been collecting $30,000 per month for the past 18 months (or longer), lenders will offer you a loan based on being able to collect against that $30k receivable number. Essentially, they know you’ve got cash coming in the door so they know there is a way to repay the loan.

That said, they also want to get paid first (before anyone, including you) and they tend to charge a fairly high interest rate for their services. Startups that use receivables factoring tend to use it to supplant un-even cash flow, such as seasonal business who does really well for half the year and runs slow the other half.

Merchant cash advance is the business version of a payday loan. Just like a payday loan, it’s the last place you go for a quick infusion of capital and the requirements to pay back are extremely high. To the defense of the merchant cash advance companies, the interest rates are high because the repayment rates are low – there’s a correlation there in being the last resort of a business.

In order to qualify, your business will have to show that It has a consistent history of collecting receivables. This tends to favor companies that collect their revenues via credit card since the history of those transactions is easily available to the merchant cash advance company.

Like most first-time Founders, we learned that it quickly becomes apparent that you need capital, but what's less apparent is where to actually get it and how.

It should now be clear that bootstrapping should be the very first action item on your funding to-do list. Before you branch outward to secure capital partners or even expect someone to invest in your company, you should exhaust all possible bootstrapping avenues -- including friends and family, personal savings, crowdfunding, and “sweat equity.”

We learned that a debt raise makes more sense for traditional businesses that have collateral in the form of tangible assets, such as restaurants, retail, and real estate; and that equity raises are best suited for high risk, high reward startups that may take years to develop tangible assets, including software, hardware, and healthcare companies.

You should now have a fairly good grasp for the different ways that startups raise money so you can make the most informed decision about which funding option(s) work best for your needs.

In the next phase, we’re going to take this one step further by breaking down the exact steps you can take to begin actually identifying the investors that are the best fit for your particular funding goals.