Welcome to Part 4 of our series on small business financing in Canada. This week, we’ll cover Private Investors. In case you missed the other parts, we’ve already covered Crowdfunding and Government Grants, and The Banks.
Today, we’ll discuss different types of private investors and whether they are viable sources of financing for owners looking to grow their small businesses.
Angel investors are high net worth individuals who are looking to invest in companies in exchange for equity. They are often interested in taking a more direct role in their investments. Some may even ask to sit on the company’s board of directors or to be included in the business operation in some way. The companies that angel investors consider for investment are very early-stage and are typically unproven. They hope to take a sizable cut of potentially large returns in exchange for the risk.
Angel investors do not usually target small businesses. This is because they are looking for a return several times their initial investment. At the same time, small businesses do not see investors as a viable source of financing. They know they can find more affordable financing elsewhere.
These are one of the most difficult sources of financing to secure. They are a form of private equity financing, typically investing in early-stage, high-growth companies. Venture capital firms make investments in exchange for equity. The amount of equity demanded by a venture capital firm depends on the company, although 15%-30% is a relatively common range.
Increasingly, many companies prefer asking prospective venture capital investors for convertible debt instead of an exchange of money for equity. Convertible debt is a loan which can eventually be converted into equity for the lender. Venture capital firms often wish to take a more hands-on role in their investments. They may require a seat on the board or serve in an advisory role with the firm.
This financing is particularly popular amongst high-growth technology firms. It is very unlikely that a venture capital firm would consider investing in a small business.
Friends and Family
They are often the first step for many entrepreneurs. Friends and family can be a great resource to help get a business off the ground. Terms are often generous when it comes to repaying this group of investors. Most friends or family may simply ask for their initial investment back or a small portion of the equity in the company. Raising money through friends and family is a great way to show other lenders that you are personally committed to the success of your business.
While friends and family can help you start your business, it is unlikely that they have enough money to help with financing for continued growth. For a business that’s operated for several years and requires significant financing to get to the next level, friends and family are usually not an option.
If you’re a small business owner, you’ve probably noticed that the risk tolerance of angel investors and venture capital firms is opposite that of the big banks. Banks prefer businesses with lots of assets to serve as collateral. Angels and venture capital firms, on the other hand, want companies that may not have any collateral.
Despite the trendiness of startups, small businesses still account for a large majority of the growth in Canadian jobs. Many of these small businesses cannot get bank financing. They also aren’t eligible for angel investment or venture capital funding, no matter how successful.
Alternative lenders can fill the gap. We will discuss alternative lenders in detail next week, but if you’d like to find out now how affordable financing from an alternative lender can help you grow your business, check out Lending Loop. Lending Loop is Canada’s first and only peer-to-peer lender and acts as a source of fast and affordable financing to small businesses. A loan application can take as little as 5 minutes and we evaluate applications far more quickly than banks are able to, putting the savings from this efficiency back into the pockets of our Borrowers.