Debt financing for seed funding?
Can anyone recommend websites or organizations that would give loans to pre-revenue startups or to founders who don't currently have income?
- The simplicity and speed of this method could make it worth it, even if the interest is high.
- For safety, though, keep the amount limited to something that the founder can pay back within 6 months, in the worst case.
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I think this is a super bad idea, what if it fails and you're on the hook for a loan with a very high rate? How do you pay it off? Given the high rate of failure for start ups this is a real possibility. I'm not for equity positions for seed funding either but this seems like an even worse alternative. I would highly recommend you not take this type of position, ever. – Tim 12 years ago
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In most situations, that is good advice. But people become entrepreneurs because they're comfortable managing risk, and the numbers sometimes make a lot of sense. Risking having to work 4 months, for example, to pay off small seed debt is acceptable. If it means the startup becomes cashflow positive quickly, than it's not really risky. – Ashton M. 12 years ago
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I understand where you're coming from and your point is accurate but, what are we willing to risk? I would much rather risk a period of my time vs. my credit for example. Couldn't there be a different way to accomplish your goal of profitability without leveraging your personal assets or giving away equity? For an example: I build solutions that I plan out and am able to accomplish alone within my time frame. Do you have your customer development model worked out? Can you say with assurance who your customers are based on feedback, what they will pay and what your expected cash flow will be? – Tim 12 years ago
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That's good advice. In my case, though, yes, we're not a risky startup. The worst thing that could happen to us would be that I go absent in order to get a day job and self-fund our minor capital needs. That'd have a lot of inefficiencies. – Ashton M. 12 years ago
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What @tim said. you never want to be in a position where if things don't work you will be bankrupt. Oh and never take out a loan on your house! You need the question what happens if this goes big, but you also need to ask the question what happens if this goes sideways. The last thing you want is to be paying off a company 10 years after it closed – Zachary K 12 years ago
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I've edited the question to make the numbers more practical in the eyes of the community. In my case, with the salary I can reliably get on the market (in San Francisco), and a simple living situation, it'd take me 5 months to pay off that seed debt and its interest. – Ashton M. 12 years ago
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Then why not live on beans and rice for 6 months and stockpile the cash? That way you don't have to have the loan in the first place and can avoid a HUGE risk. Plus you can write code in that time after work (cause you are not going to be going out anyway right) – Zachary K 12 years ago
3 Answers
No bank is going to give a loan to the corporation where they will only get repaid if it someday makes a profit.
But, contrary to all the no-debt advice, isn't that the situation created by almost all SBA loans? The owners are always liable if the company can't repay the loan.
It's also not easy to get equity investments for a pre-revenue company, as was asked. Probably impossible except for friends and family.
So I think the only realistic choices are debt financing, if you have assets the bank will accept for your personal signature.
Many, perhaps most business start with more than one partner, so the "founder" has given up equity. But this usually provides help not money.
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Just be careful, do not borrow 100K on your house. As if you do and the thing goes south you will loose your house, and if you are married probably your marriage as well. That is WAY too big a downside for my taste – Zachary K 12 years ago
Brandon, I totally disagree with many of the responses posted here. I've started several companies and I took on personal debt every single time. But like you're thinking, I always kept the amount within a range that I thought I could pay back if my latest entrepreneurial dream fell through.
Contrary to popular opinion, BANKS and CREDIT UNIONS do lend money to entrepreneurs. Monitor your credit score and get to know the president or vice presidents of your local independent bank or credit union. Believe it or not, they will lend money if you have a good credit score and they believe in you and your idea. They won't lend you millions, but they will lend $5k to $40k or more. Especially if you use the money to buy things - things that they can consider collateral.
When I needed to use the money to pay people or buy advertising they often helped me 'discover' collateral I didn't even know I had - like sports card or coin collections, or equity in a used car. But there have been a handful of times when I had no collateral and I was able to get signature loans. Signature loans will have a slightly higher interest rate (around 7% these days) than a collateralized loan.
And I have borrowed money using the equity in my house several times. Almost every business owner I know has done it. Just be careful not to put yourself out too far on a limb.
One other thing... offer to take the bank president or VP out to lunch. Even if you don't get the loan the guy will probably give you a fortune worth of free advice. I feel like I've received a free MBA by offering to buy lunches for people like this.
Good lunch.
Debt can either be on the company or on an individual.
The company by definition has limited liability. If things go down the drain the banks money is lost. (thus why they are nervous about lending large amounts to start ups)
The individual(s) can and often do take out personal loans. The problem is startups are risky and often require a lot of Capitol. Large personal loans can easily bankrupt someone. It seems silly to risk your whole future on one venture. Personal debt is fine but only to a level you can repay. A company often needs much more than that to get off the ground.
Equity funding is much better value for everyone involved. For the individual they give away some of their equity when they company is worth very little. For the investor the right opitunity can give about 400% return on investment. (would anyone actually agree to a 400% interest loan?!)
