A Quick Study of the Six Common Sources of Small Business Capital

This post originally appeared on the InvestInNC website.

A well-known, small business grant source in North Carolina recently announced that 15 companies were awarded microgrants averaging just under $10,000. That’s great for those 15 companies, but a total of 208 companies applied, which means 193 companies didn’t make the cut.

That’s a 7 percent success rate.

Under a different program, the same grant source awarded grants to another seven companies averaging just under $50,000. This was out of 185 applicants, which puts the success rate at just under 4 percent. 

Collectively, that means 371 companies are still looking for capital.

I call it the “Powerball Syndrome.” When we hear that a handful of companies “won,” we all want to be the next lottery winner. But the odds just don’t stack up in our favor. The grant program to which I’m referring is an excellent program, but according to the national statistics collected by Morrison and Company,  less than 1 percent of small businesses receive grants.

Now that we’ve already covered grants, let’s take a look at the other common sources of small business capital.

Banks

Large banks approve approximately 25 percent of commercial loan applications. Small banks do better at just under 50 percent. However, the reality of these statistics is that these approval rates are reflective of loans applied for by entrepreneurs who were actually encouraged to apply by loan officers. The ratio that’s missing is how many small business owners were turned away before even applying. I know a few entrepreneurs — myself included — who were literally laughed at when first approaching a bank. Still, most first-time entrepreneurs seem to consider banks their best funding option. Luckily, it’s not the only one.

Fintech

The number of innovative financial technology companies has exploded since the financial crisis of 2008. Fintech rushed in to fill the void created when the traditional funding sources, the ones that existed prior to 2008, dried up. Making that void even greater were the Dodd-Frank regulations that came online as a response to the crisis. Investments in fintech went from $100 million in 2008 to $19 billion in 2017. While this capital is more easily attainable for small business owners, it’s expensive. No industry-wide approval rates on fintech applications were available, but we do know the average fintech loan is approximately $147,000, with interest rates somewhere between 12 percent and 20 percent. Obviously, the money’s available but very costly. 

Angel Investors

In 1934, the Securities and Exchange Commission began to regulate how securities could be offered and sold. This left most of us, the non-accredited investors, unable to invest in private companies. However, accredited investors — either as individuals or as groups — look at new companies for potential investment. This is the “Shark Tank” model, and good luck getting funded. Most angels or groups look at hundreds of companies and fund an average of 2 percent of those companies per year. In 2017, the average angel investment was just south of $284,000. Yet, we hear about the few that make the cut and think, “that could be us!” Remember the Powerball Syndrome I mentioned earlier? Unfortunately, according to the numbers, it probably isn’t happening.

Venture Capital (VC)

This one’s easy: The average size of a VC deal in North Carolina was $11.3 million in 2017If you need less than $5 million, they won’t even want to talk to you. So, for the sake of earlier-stage small business owners and entrepreneurs, we won’t talk about them here.

Equity Crowdfunding

As a result of the NC PACES Act, equity crowdfunding is the newest way for small businesses to raise up to $2M in North Carolina. The very first North Carolina intrastate crowdfunding offering was recently announced, but while it’s a new option for North Carolina businesses, it’s a proven success on the national front. In fact, 66 percent of the small businesses that used Regulation CF (the federal crowdfunding option) successfully raised their minimum amount of capital. Equity crowdfunding is also unique in the fact that it allows entrepreneurs to define their own terms to investors. In addition, it provides an opportunity for non-accredited investors who live in North Carolina to invest in local companies. The benefit to both issuers and investors makes this an extremely exciting option.

Regardless of which options you choose, raising capital all comes down to how much you need and which source or sources of capital offer you the greatest chance of success at the lowest cost.