Major sources of capital for small businesses include seed funding, bank loans, angel investments, and venture capital. They fall into two forms of financing: equity and debt.
- Equity financing gives the investor equity in your company, but you do not have to pay them back.
- Debt financing allows you to avoid giving away pieces of your company, but you do have to pay it back.
Seed Funding
Capital that initially funds a new business or idea is called seed funding. It is typically used to finance product development, market research, and business formation. Seed investors often gain a stake in the business (equity) in exchange for funding the startup but do not need to be paid back.
The NIH’s, NSF’s, and other government agencies’ SBIR and STTR grant and contract programs are a major source of seed funding in the United States, and unlike private investors, they do not take a stake in the business. Unlike loans, there is no debt. Make sure that your business fulfills the requirements for government seed money. For example, for Small Business Innovation Research (SBIR) and Small Business Technology Transfer Research (STTR) grants through the NIH or NSF, small businesses must. . .
- Be a US for-profit business.
- Have the correct legal form of the business.
- Meet ownership requirements specified in the list of eligibility criteria.
- Have no more than 500 employees, including affiliates. However, most awards go to businesses with ten or fewer employees.
SBIR Grant Amount: $1.7 million in two phases
Seed funding is an essential form of capital for small businesses at the outset and so is covered as its own topic (see Early Funding).
Post-awards are also available to help further development after an SBIR award. They help bridge the gap between an SBIR award and a commercially viable product.
Bank Loans
Bank loans are often easier to obtain after you have paying customers. They offer the advantage that you do not lose equity in your company. A disadvantage is that you are personally responsible for repaying the loan even if the business fails. Banks ask for collateral to avoid risks and make sure they will get paid back. Young companies often lack assets to use as collateral, so you would have to put up a personal asset, such as your home. For this reason, most early small businesses try to avoid bank loans.
Angel Investments and Venture Capital
Angel investors are individuals who provide capital to a business startup, usually early in development, in exchange for preferred shares or partial ownership of the company. Investments may be one-time or ongoing depending on the need.
Venture capital (VC) is funds provided to a startup that investors see as having long-term growth potential. VC investments are controlled by an individual or group. The investments are made in return for significant ownership of the business and are expected to have a high rate of return based on metrics such as market or predicted consumer needs, competitiveness, the superiority of the product or service, innovation, the business’s past success, and the success of earlier investments. Like angel investors, venture capitalists are likely to provide management, promotion, and contacts to protect their investment.
The first venture capital money you receive is called series A and often occurs after proof of concept, beyond what was achieved with seed money. Series A funding is typically used to finish development and help the startup grow, such as to increase marketing, hire new employees, or expand into new markets. Subsequent funding series, B and C serve to expand the market reach and expand into new markets and products.
Both angel investors and venture capitalists do not have to be repaid but do get equity in your business.
Amount: $250,000–20 million
- Return on Investment (ROI): ROI is the ratio between income made upon an investor selling or “cashing out” an investment and how much was invested. Investors obviously want a high ROI. The potential for financial gain is often greatest for early investors, but the risk is also often greatest. Both angel and venture capital investors risk losing all the money they invested. In exchange for taking this risk, they are cautious and may make a lot of demands on the business for information to assess risk and profitability. Investors vary as to how long they are willing to wait to obtain a high ROI. Many look for investment opportunities with preferred shares where they are paid before those holding common shares.
- Look for Aligned Objectives: Make sure your objectives are aligned with your investors’ objectives. Most investors want to make a lot of money quickly. For example, an investor who wants a quick, high ROI is mismatched with a business that is primarily interested in making a difference in the world during the inventor’s spare time and at a low cost.
(Adjogatse 2022; Excedr 2022)
Examples of Conferences Where You May Meet Potential Investors
- Biotech Showcase 2023 – Provides biotechnology and life sciences companies the opportunity to network with potential investors and executives from companies that may be interested in buying a company.
- Life Sciences Summit – Connects emerging biotech companies with early-stage investors to find capital and strategic partners.
- Redefining Early Stage Investments (RESI) – Conferences to connect start-ups in the 4 Ds (drugs, devices, diagnostics, and digital health) with early-stage investors.
Tip: How to make your business more attractive to investors
- Achieve a milestone before meeting with investors, one that reduces their risk and/or brings in money.
- Find out what milestones are most important to your potential investors and show progress in those.
- Avoid family or other non-accredited investors who may need to get their money back for personal reasons when it might hurt your business. If you did use money from these sources to get started, buying them out may make the business more attractive to investors.
- Make sure you have clear ownership of your intellectual property (IP). Avoid anything that might result in a challenge from someone who views it as an infringement on their IP.
- Involve your investors in the financial plan.
- Courses are available for a fee on how to be an investor-ready entrepreneur.
- VC and angel investors are more interested in companies that have had SBIR funding. Similarly, loans are easier to obtain if you’ve received an SBIR in the past.
Resources on Angel Investors, Venture Capital, and Government Loans
- Search a database of angel investors for angel investors in health care or biotechnology.
- Venture Capital in Biotech (Wait!! Come Back!! Let Me Explain!!) – An introduction to venture capital and explanation of the particulars for the biotech industry. By Christa Dhimo. Published on LinkedIn. March 19, 2021.
- Biotech Venture Capital – Lewis Maleh interviews biotechnology venture capitalist Jonathan Tobin about science, investment, and how new drugs get to market. Episode 12. Podcast: Don’t Take Out Your Phone. May 20, 2019.
- GovLoans – Describes loans available for small businesses. Even with a grant, you may need a loan to cover some startup costs.
- 49 Biotechnology Accelerators and Incubators – List of the best accelerators and incubators in 2022 developed by Failory, a newsletter for startup founders.
Other Potential Sources of Capital
- Vendors may be willing to delay your payments to them—thus improving your cash flow until you get more customers—if they need your product or service.
- Customers may be willing to invest if they strongly need or want your product or service.
- Patient advocacy groups may be another source of funding for biotech and medtech startups.
- Some biotech and pharma companies are partnering with and funding biotech startups.
- Private investors may be willing to invest based on a strong interest in the problem you are solving or the importance of your solution.
References
Adjogatse E, Hernandez B. How to find investors for your biotech startup. Probacure.com. September 2, 2022.
Excedr. Biotech Funding for Startups: What are Your Options? Excedr. June 14, 2022.
