9 Small Business Financing Sources to Explore

If you want to go fast, go alone. If you want to go far, go together.

This old saying is relevant when it comes to small businesses. Most businesses eventually reach a point when they need to seek small business financing from outside sources.

Some business owners turn to outside funding because the books are thriving. But in the COVID-era, many others are looking at surviving and using the extra financial support as a bridge across difficult times.

Despite being the beating heart of many economies, SMEs often find it difficult to secure funding. In fact, it can be hard to know what your options are in the first place.

This guide aims to help you with this. You’ll discover:

Let’s jump in.

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Should you seek outside funds for your small business?

You might want to get some help with cashflow. Or maybe you’re planning to buy some new specialist equipment. Or, you could be exploring how to bring more of your retail store sale activities online. Business owners have an almost endless array of reasons for seeking outside funding.

“When the pandemic hit, our $2.8 million per year business crashed to zero overnight,” said Michael Alexis, CEO of TeamBuilding, which runs team-building events for companies such as Johnson & Johnson, Netflix and Apple. “For us, seeking outside funds was a lifeline to keep the business going while we reinvented with a new model.”

Funding was clearly transformative for TeamBuilding—but every business is different. And it’s important to take a look at the downsides of outside funds, as well as the upsides.

Pros and cons of small business financing

The main benefit to pursuing outside funding is that it allows you to continue achieving your business goals—without having to cut back on expenses.

When businesses cut costs, it can hamper important goals, said Nishank Khanna, CFO of Clarify Capital. “Paying for the right talent, or the best equipment, for example, is often worth the upfront money because it makes your business better,” he said.

That said, a major drawback of raising certain funding is that it can dilute interests and add more external pressures. “For example, if you sell equity in your business to raise funds, then you will have a smaller stake in it,” said Alexis. “As the business grows, you don’t participate in as much of the upside. If you take a loan, then you add interest charges and a risk of default.”

When to seek outside funds (and when to hold off)

But let’s say you’ve decided you’re going to go ahead.

When should you seek funding for your small business?

Here’s what two business owners had to say.

Seek funds before you need them , suggests John Miller, who is COO of Addition , a London-based financial services firm for SMEs. “Write a financial plan and then work out when you need to raise. Don’t rush to the first deal you see, as there are plenty of options out there.”

Seek funds when you have a business plan. Your plans should include how you will repay your loans and grow your business,” said Jeffrey Zhou, CEO of Fig Loans . “You may feel a business plan is too formal if you’re asking for funds from friends and family—but keeping things professional is always advised. This way, everyone who is willing to chip in has a more informed perspective of the potential risks,” he said.

What you do with funds matters just as much.

How to use small business financing

Small businesses need to be smart about putting outside funding to use.

“Small businesses need to think like investors,” said startup consultant Jonathan Mills Patrick, a former banking executive and three-times startup founder who has been involved in over $800M in debt and equity funding for entrepreneurs. “Taking on additional capital should preferably happen when there are available investments that can be made with that capital. For example, buying a new piece of equipment that will help satisfy increased orders.”

TeamBuilding’s Alexis suggests small businesses treat funds like their own business’s money. “Countless startups have raised millions of dollars and then burnt through it quickly. Instead, treat the money as if you have earned it, and then diligently invest it to earn back more,” he said.

9 small business financing sources

Small businesses can look at a range of different options for funding—let’s take a quick look at some of those.

1. SBA loans

You often have to be in business for a few years to secure a business loan. “It sounds paradoxical, but it’s because most lenders will require some proof of concept and viability before taking the risk,” said Jeffrey Zhou, CEO of Fig Loans. “However, it is possible to get a small business loan from the Small Business Administration (SBA), which will grant microloans of up to $50,000 for new businesses.”

Business bureaus, state programs, and non-profits often also offer special grants and scholarships.

TIP: Be sure to look out for dedicated programs for women entrepreneurs in the BIPOC, LGBTQIA+, and other under-served business communities.

2. Asset finance

This is a popular option for businesses that rely on specialist equipment or machinery to serve their customers. With asset financing, you can borrow to buy or replace an asset. And asset is a broad term here—think of your delivery trucks, your ovens, your fridges or your top-end computers and printers. The loan is secured with the asset you buy. That’s the collateral that lenders will recover if you’re unable to repay.

3. Bank lines

Or a revolving credit facility, if you want to give it another name. Think of this as a mix between an overdraft and a credit card,but for your business. You agree to a revolving credit facility with your bank. You’re given a maximum withdrawal amount and your business can access the funds at any time you need.

4. Receivables financing

Service-based small businesses can struggle with late customer payments. And accounts receivable can heighten concerns about cash flow. All up, they can be a real source of stress for owners,especially if things are already tough. Invoice financing can relieve some of this pressure because it allows businesses to use outstanding invoices as collateral for funding, or a ‘float’ of the invoice amount.

5. Government funding

Small businesses should seek outside funds through government aid, says Jim Prendergast, SVP of asset-based lending company AltLINE Sobanco. “In many states, there are government incentives to opening up your own business, which means they’ll usually help you financially. Though you can fund most of the business through your own money, it’s always wise to take advantage of any government programs available,” he said.

6. Emergency funding

Most governments created pandemic subsidies for small businesses, such as Canada’s subsidies for small business payroll and commercial rent payments. But be quick, as many of these programs are beginning to wind down, with application windows closing soon.

7. Venture Capital funding

VC funding can help your business cover ongoing operating costs, but it’s probably the most suited to startup or scaleup businesses with an identifiable potential to ‘scale up’. That’s VC-speak for becoming bigger, more valuable, more profitable and more attractive to future investors.

8. Family and friend loans

Funding from your own personal network is another option. That could be a friend, your partner or the good old-fashioned bank of Mom and Dad. Bear in mind that everyone should still know where their money is going. You’ll be accountable for repayments based on the agreed terms.

9. Crowdfunding

Another one for businesses that have a start-up feel. Fledgling businesses often turn to crowdfunding to validate product ideas and build an audience of potential future customers. Crowdfunding is as much an art as it is a science—and business owners will need to put some serious effort into marketing a fund-raising campaign if they want to reach their target amount.

Tips for choosing a funding partner

Whichever option you choose, bear these tips in mind.

Understand your pain points and why you want more funding , said Michael Knight, co-founder of Incorporation Insight , which helps new businesses to incorporate. “If your business is experiencing slow periods, credit lines or a business loan may provide you with the working capital to keep going. If you want to fund business growth, consider equipment financing and leasing options if you need new equipment.”

Choose a reputable source of external funds from partners that understands your industry. That’s a tip from Carol Tompkins, a Business Development Consultant at AccountsPortal , an online accounting software. “Also, choose a partner whose terms are fair, and who sees value in what you are offering to the market. Do thorough background research on each source before applying for the funds,” she said.

Lightspeed Capital: a new funding option for US small businesses

Recently, Lightspeed has partnered with Stripe to provide eligible merchants with financing of up to $100,000 (USD), to help them adapt with confidence to the changing realities of the retail industry. Merchants must be based in the United States and be using Lightspeed Payments in their retail business, to be eligible for Lightspeed Capital.

Is outside funding right for your small business?

The biggest benefit of outside funding is that you can keep your business moving without dipping into personal savings. “While there may be occasional expenses that pop up and can be easily put on your tab, draining your savings to cover startup costs can hurt your financial future. If something goes wrong or there are delays getting started you could find yourself without any safety net and a harmful blow to your credit score,” said Zhou of Fig Loans.

Interested in upgrading your retail business with the right technology, tools and financing partner? Talk to us to learn how Lightspeed’s complete commerce platform can help.

What Are Sources For Small Business Financing?

What Are Sources For Small Business Financing?

One method for small businesses to obtain money is through “equity financing” or “debt financing.” Equity financing means that you sell stock in your company to a buyer, who then has an ownership interest in your company. Debt financing is a business loan – you owe the person or entity that holds the debt (usually in the form of a promissory note) the amount borrowed and interest. Here are the most common sources of equity and debt financing for small businesses.

You. Contributing your own money to your business is the easiest way to finance it. You can tap into your savings, use a home-equity line of credit, or sell or borrow against a personal asset, such as stocks, bonds, mutual funds or real estate.

Family and Friends. Your parents, relatives and friends may have access to more cash than you do. They may be willing to lend you money or take an ownership interest in your company.

Small Business Administration. The Small Business Administration (SBA) offers a number of loan programs to small businesses. Through these programs, the SBA provides loans to small businesses that are not able to obtain financing on reasonable terms through normal lending channels. You can apply for these loans through your local participating lender, usually a bank.

Banks. Banks make a majority of loans to small businesses. But for start-up businesses, banks can be the hardest place to find money because, to ensure prospects for repayment, bank-lending standards usually favor a history of profits that start-ups do not have. If you have a good business plan and personal assets that you can offer as collateral (or a guarantor or cosigner satisfactory to the lender), you may be able to qualify for a bank loan.

Credit Cards. If you have a credit card, you have a built-in line of credit. Credit cards are one of the most costly ways to finance your company. Nevertheless, start-up businesses routinely use credit cards as a source of funds if they are unable to obtain financing elsewhere.

Leasing Companies. Through leasing companies, businesses can finance computers, office equipment, phone systems, vehicles and other equipment. By leasing equipment, you can lower your initial costs because you won’t have a large outlay of cash for the equipment. You can also more easily upgrade your equipment upon lease expiration.

Customers. If you have existing customers, they may be willing to pay you in advance for your products. Then you can use their money to purchase products or inventory.

Trade Credit. Vendors and suppliers are often willing to sell to you on credit. This is a great source of financing for both start-up companies and growing businesses.

Small Business Investment Companies. Small Business Investment Companies (SBICs) are licensed and regulated by the Small Business Administration. SBICs are privately owned and managed investment firms that provide venture capital and start-up financing to small businesses.

Venture Capital Firms. Venture capitalists provide funds to companies that they believe have exceptional growth potential. Very few small businesses are able to obtain financing through venture capital firms.

Investment Banking Firms. Investment bankers “take companies public.” That means that the investment banker offers stock (an ownership interest) in your company to the public. This option is generally only available to small businesses that have very strong growth history and potential.

Private Placement. A private placement is an offer of stock or debt to wealthy individuals or venture capitalists without going public.

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Venture Capital: What Is VC and How Does It Work?

What Is Venture Capital (VC)?

Venture capital (VC) is a form of private equity and a type of financing that investors provide to startup companies and small businesses that are believed to have long-term growth potential. Venture capital generally comes from well-off investors, investment banks, and any other financial institutions.

However, it does not always take a monetary form; it can also be provided in the form of technical or managerial expertise. Venture capital is typically allocated to small companies with exceptional growth potential, or to companies that have grown quickly and appear poised to continue to expand.

Though it can be risky for investors who put up funds, the potential for above-average returns is an attractive payoff. For new companies or ventures that have a limited operating history (under two years), venture capital is increasingly becoming a popular—even essential—source for raising money, especially if they lack access to capital markets, bank loans, or other debt instruments. The main downside is that the investors usually get equity in the company, and, thus, a say in company decisions.

Key Takeaways Venture capital financing is funding provided to companies and entrepreneurs. It can be provided at different stages of their evolution, although it often involves early and seed round funding.

Venture capital funds manage pooled investments in high-growth opportunities in startups and other early-stage firms and are typically only open to accredited investors.

Venture capital has evolved from a niche activity at the end of the Second World War into a sophisticated industry with multiple players that play an important role in spurring innovation.

1:24 Venture Capital

Understanding Venture Capital

In a venture capital deal, large ownership chunks of a company are created and sold to a few investors through independent limited partnerships that are established by venture capital firms. Sometimes these partnerships consist of a pool of several similar enterprises.

One important difference between venture capital and other private equity deals, however, is that venture capital tends to focus on emerging companies seeking substantial funds for the first time, while private equity tends to fund larger, more established companies that are seeking an equity infusion or a chance for company founders to transfer some of their ownership stakes.

History of Venture Capital

Venture capital is a subset of private equity (PE). While the roots of PE can be traced back to the 19th century, venture capital only developed as an industry after the Second World War.

Harvard Business School professor Georges Doriot is generally considered the "Father of Venture Capital." He started the American Research and Development Corporation (ARD) in 1946 and raised a $3.5 million fund to invest in companies that commercialized technologies developed during WWII. ARDC's first investment was in a company that had ambitions to use x-ray technology for cancer treatment. The $200,000 that Doriot invested turned into $1.8 million when the company went public in 1955.

Hit From the 2008 Financial Crisis

The 2008 financial crisis was a hit to the venture capital industry because institutional investors, who had become an important source of funds, tightened their purse strings. The emergence of unicorns, or startups that are valued at more than a billion dollars, has attracted a diverse set of players to the industry. Sovereign funds and notable private equity firms have joined the hordes of investors seeking return multiples in a low-interest-rate environment and participated in large ticket deals. Their entry has resulted in changes to the venture capital ecosystem.

Westward Expansion

Although it was mainly funded by banks located in the Northeast, venture capital became concentrated on the West Coast after the growth of the tech ecosystem. Fairchild Semiconductor, which was started by eight engineers (the "traitorous eight") from William Shockley's Semiconductor Laboratory, is generally considered the first technology company to receive VC funding. It was funded by east coast industrialist Sherman Fairchild of Fairchild Camera & Instrument Corp.

Arthur Rock, an investment banker at Hayden, Stone & Co. in New York City, helped facilitate that deal and subsequently started one of the first VC firms in Silicon Valley. Davis & Rock funded some of the most influential technology companies, including Intel and Apple. By 1992, 48% of all investment dollars went into West Coast companies; Northeast Coast industries accounted for just 20%.

According to Pitchbook and National Venture Capital Association (NVCA), the situation has not changed much. During the fourth quarter of 2021, West Coast companies accounted for more than one-third of all deals (but more than 60% of deal value) while the Mid-Atlantic region saw just around one-fifth of all deals (and approximately 20% of all deal value).

In the fourth quarter of 2021, though, much of the action shifted to the Midwest: The value of deals rose 265% in Denver and 331% in Chicago. While the number of West Coast deals is waning, the San Francisco Bay Area still dominates the VC world with 630 deals worth $25 billion.

$330 billion American VC-backed companies raised nearly $330 billion in 2021–roughly double the previous record of $166.6 billion set in 2020.

Help From Regulations

A series of regulatory innovations further helped popularize venture capital as a funding avenue.

The first one was a change in the Small Business Investment Act (SBIC) in 1958. It boosted the venture capital industry by providing tax breaks to investors. In 1978, the Revenue Act was amended to reduce the capital gains tax from 49% to 28%.

Then, in 1979, a change in the Employee Retirement Income Security Act (ERISA) allowed pension funds to invest up to 10% of their assets in small or new businesses. This move led to a flood of investments from rich pension funds.

This move led to a flood of investments from rich pension funds. The capital gains tax was further reduced to 20% in 1981.

These three developments catalyzed growth in venture capital and the 1980s turned into a boom period for venture capital, with funding levels reaching $4.9 billion in 1987. The dot-com boom also brought the industry into sharp focus as venture capitalists chased quick returns from highly-valued Internet companies. According to some estimates, funding levels during that period went as high as $30 billion. But the promised returns did not materialize as several publicly-listed Internet companies with high valuations crashed and burned their way to bankruptcy.

Advantages and Disadvantages of Venture Capital

Venture capital provides funding to new businesses that do not have access to stock markets and do not have enough cash flow to take debts. This arrangement can be mutually beneficial: businesses get the capital they need to bootstrap their operations, and investors gain equity in promising companies.

There are also other benefits to a VC investment. In addition to investment capital, VCs often provide mentoring services to help new companies establish themselves, and provide networking services to help them find talent and advisors. A strong VC backing can be leveraged into further investments.

On the other hand, a business that accepts VC support can lose creative control control over its future direction. VC investors are likely to demand a large share of company equity, and they may start making demands of the company's management as well. Many VCs are only seeking to make a fast, high-return payoff and may pressure the company for a quick exit.

Pros & Cons of Venture Capital Pros Provides early-stage companies with the capital needed to bootstrap operations.

Unlike bank loans, companies do not need cash flow or assets to secure VC funding.

VCs can also provide mentoring and networking services to help a new company secure talent and growth. Cons VCs tend to demand a large share of company equity.

Companies that accept VC investments may find themselves losing creative control as their investors demand immediate returns.

VCs may also pressure a company to exit their investment rather than pursue long-term growth.

Types of Venture Capital

Venture capital can be broadly divided according to the growth stage of the company receiving the investment. Generally speaking, the younger a company is, the greater the risk for investors.

The stages of VC investment are:

Pre-Seed: This is the earliest stage of business development when the founders try to turn an idea into a concrete business plan. They may enroll in a business accelerator to secure early funding and mentorship.

Seed Funding: This is the point where a new business seeks to launch its first product. Since there are no revenue streams yet, the company will need VCs to fund all of its operations.

Early-Stage funding: Once a business has developed a product, it will need additional capital to ramp up production and sales before it can become self-funding. The business will then need one or more funding rounds, typically denoted incrementally as Series A, Series B, etc.

Venture Capital vs. Angel Investors

For small businesses, or for up-and-coming businesses in emerging industries, venture capital is generally provided by high net worth individuals (HNWIs)—also often known as "angel investors"—and venture capital firms. The National Venture Capital Association (NVCA) is an organization composed of hundreds of venture capital firms that offer to fund innovative enterprises.

Angel investors are typically a diverse group of individuals who have amassed their wealth through a variety of sources. However, they tend to be entrepreneurs themselves, or executives recently retired from the business empires they've built.

Self-made investors providing venture capital typically share several key characteristics. The majority look to invest in well-managed companies, that have a fully-developed business plan and are poised for substantial growth. These investors are also likely to offer to fund ventures that are involved in the same or similar industries or business sectors with which they are familiar. If they haven't worked in that field, they might have had academic training in it. Another common occurrence among angel investors is co-investing, in which one angel investor funds a venture alongside a trusted friend or associate, often another angel investor.

The Venture Capital Process

The first step for any business looking for venture capital is to submit a business plan, either to a venture capital firm or to an angel investor. If interested in the proposal, the firm or the investor must then perform due diligence, which includes a thorough investigation of the company's business model, products, management, and operating history, among other things.

Since venture capital tends to invest larger dollar amounts in fewer companies, this background research is very important. Many venture capital professionals have had prior investment experience, often as equity research analysts; others have a Master in Business Administration (MBA) degree. Venture capital professionals also tend to concentrate on a particular industry. A venture capitalist that specializes in healthcare, for example, may have had prior experience as a healthcare industry analyst.

Once due diligence has been completed, the firm or the investor will pledge an investment of capital in exchange for equity in the company. These funds may be provided all at once, but more typically the capital is provided in rounds. The firm or investor then takes an active role in the funded company, advising and monitoring its progress before releasing additional funds.

The investor exits the company after a period of time, typically four to six years after the initial investment, by initiating a merger, acquisition, or initial public offering (IPO).

A Day in the VC Life

Like most professionals in the financial industry, the venture capitalist tends to start his or her day with a copy of The Wall Street Journal, the Financial Times, and other respected business publications. Venture capitalists that specialize in an industry tend to also subscribe to the trade journals and papers that are specific to that industry. All of this information is often digested each day along with breakfast.

For the venture capital professional, most of the rest of the day is filled with meetings. These meetings have a wide variety of participants, including other partners and/or members of his or her venture capital firm, executives in an existing portfolio company, contacts within the field of specialty, and budding entrepreneurs seeking venture capital.

At an early morning meeting, for example, there may be a firm-wide discussion of potential portfolio investments. The due diligence team will present the pros and cons of investing in the company. An "around the table" vote may be scheduled for the next day as to whether or not to add the company to the portfolio.

An afternoon meeting may be held with a current portfolio company. These visits are maintained regularly in order to determine how smoothly the company is running and whether the investment made by the venture capital firm is being utilized wisely. The venture capitalist is responsible for taking evaluative notes during and after the meeting and circulating the conclusions among the rest of the firm.

After spending much of the afternoon writing up that report and reviewing other market news, there may be an early dinner meeting with a group of budding entrepreneurs who are seeking funding for their venture. The venture capital professional gets a sense of what type of potential the emerging company has, and determines whether further meetings with the venture capital firm are warranted.

After that dinner meeting, when the venture capitalist finally heads home for the night, they may take along the due diligence report on the company that will be voted on the next day, taking one more chance to review all the essential facts and figures before the morning meeting.

Trends in Venture Capital

The first venture capital funding was an attempt to kickstart an industry. To that end, Georges Doriot adhered to a philosophy of actively participating in the startup's progress. He provided funding, counsel, and connections to entrepreneurs.

An amendment to the SBIC Act in 1958 led to the entry of more novice investing in small businesses and startups. The increase in funding levels for the industry was accompanied by a corresponding increase in the number of failed small businesses. Over time, VC industry participants have coalesced around Doriot's original philosophy of providing counsel and support to entrepreneurs building businesses.

Growth of Silicon Valley

Due to the industry's proximity to Silicon Valley, the overwhelming majority of deals financed by venture capitalists are in the technology industry—the internet, healthcare, computer hardware and services, and mobile and telecommunications. But other industries have also benefited from VC funding. Notable examples are Staples and Starbucks, which both received venture money.

Venture capital is also no longer the preserve of elite firms. Institutional investors and established companies have also entered the fray. For example, tech behemoths Google and Intel have separate venture funds to invest in emerging technology. In 2019, Starbucks also announced a $100 million venture fund to invest in food startups.

With an increase in average deal sizes and the presence of more institutional players in the mix, venture capital has matured over time. The industry now comprises an assortment of players and investor types who invest in different stages of a startup's evolution, depending on their appetite for risk.

Latest Trends

Data from the NVCA and PitchBook indicate that venture-backed companies have attracted a record $330 billion in 2021, compared to the total of $166 billion seen in 2020—which was already a record. Large and late-stage investments remain the main drivers behind the strong performance: Mega-deals of $100 million or more have already hit a new high-water mark.

Another noteworthy trend is the increasing number of deals with non-traditional VC investors, such as mutual funds, hedge funds, corporate investors, and crossover investors. Meanwhile, the share of angel investors has gotten more robust, hitting record highs, as well.

Late-stage financing has become more popular because institutional investors prefer to invest in less-risky ventures (as opposed to early-stage companies where the risk of failure is high).

But the increase in funding does not translate into a bigger ecosystem as deal count or the number of deals financed by VC money. NVCA projects the number of deals in 2022 to be 8,406—compared to 12,362 in 2020.

Why Is Venture Capital Important? Innovation and entrepreneurship are the kernels of a capitalist economy. New businesses, however, are often highly-risky and cost-intensive ventures. As a result, external capital is often sought to spread the risk of failure. In return for taking on this risk through investment, investors in new companies are able to obtain equity and voting rights for cents on the potential dollar. Venture capital, therefore, allows startups to get off the ground and founders to fulfill their vision.

How Risky Is Making a Venture Capital Investment? New companies often don't make it, and that means early investors can lose all of the money that they put into it. A common rule of thumb is that for every 10 startups, three or four will fail completely. Another three or four either lose some money or just return the original investment, and one or two produce substantial returns.

What Percentage of a Company Do Venture Capitalists Take? Depending on the stage of the company, its prospects, how much is being invested, and the relationship between the investors and the founders, VCs will typically take between 25 and 50% of a new company's ownership.

What Is the Difference Between Venture Capital and Private Equity? Venture capital is a subset of private equity. In addition to VC, private equity also includes leveraged buyouts, mezzanine financing, and private placements.

How Does a VC Differ From an Angel Investor? While both provide money to startup companies, venture capitalists are typically professional investors who invest in a broad portfolio of new companies and provide hands-on guidance and leverage their professional networks to help the new firm. Angel investors, on the other hand, tend to be wealthy individuals who like to invest in new companies more as a hobby or side-project and may not provide the same expert guidance. Angel investors also tend to invest first and are later followed by VCs.

The Bottom Line

Venture capital represents an central part of the lifecycle of a new business. Before a company can start earning revenue, it needs enough start-up capital to hire employees, rent facilities, and begin designing a product. This funding is provided by VCs in exchange for a share of the new company's equity.