Investing money in businesses

How to find funding for your business The process of looking for money must match the needs of the company. Where you look for money, and how you look for money, depends on your company and the kind of money you need. There is an enormous difference, for example, between a high-growth internet-related company looking for second-round venture funding and a local retail store looking to finance a second location.

This should help you determine which funding options are viable for your business and which investment options you should pursue first. Venture capital The business of venture capital is frequently misunderstood. Many startup companies complain about venture capital companies failing to invest in new or risky ventures.

People talk about venture capitalists as sharks, because of their supposedly predatory business practices, or sheep, because they supposedly think like a flock, all wanting the same kinds of deals. This is not the case. They have a professional responsibility to reduce risk as much as possible. Who should pitch to venture capitalists? Venture capital professionals look for businesses that they believe could produce a huge increase in business value within just a few years.

They know that most of these high-risk ventures fail, so the winners have to win big enough to pay for all the losers. Typically, they focus on newer products and markets that can reasonably project increasing sales by huge multiples over a short period of time. They try to work only with proven management teams who have dealt with successful startups in the past.

If you are a potential venture capital investment, you probably know it already. You have management team members who have been through that already. You can convince yourself and a room full of intelligent people that your company can grow ten times over in three years.

People in new growth industries, multimedia communications, biotechnology, or the far reaches of high-technology products, generally know about venture capital and venture capital opportunities. Angel investment Angel investment is much more common than venture capital and usually is far more available to startups, and at earlier growth stages too.

Although angel investment is a lot like venture capital and is often confused with it , there are important distinctions. First, angel investors are groups or individuals who invest their own money. Second, angel investors tend to invest in companies at earlier stages of growth, while venture capital typically waits until after a few years of growth, after startups have more history.

Businesses that land venture capital typically do so as they grow and mature after having started with angel investment first. Like venture capitalists, angel investors normally focus on high-growth companies at early stages of development. You should also be aware that angel investment was affected by the JOBS Act that loosened some restrictions and allowed what we now call crowdfunding.

Traditionally, angel investment was limited by U. Under certain conditions, startups and even non-high-growth small businesses can solicit investment from a wider range of investors. Details are still fuzzy on a lot of this, so, when in doubt, check with a good attorney first.

Some government agencies, business development centers, business incubators, and similar organizations will be tied into the investment communities in your area. You can also post your business plan on websites that bring angel investors together.

The two most reputable sites in this area are: AngelList Be careful dealing with anyone or business firm offering to find you startup investment if you hire them to act as front or negotiator for you, or do your business plan, or your pitch presentations and such. These are shark-infested waters. I am aware of some legitimate providers of business plan consulting, but legitimate providers are harder to find than the sharks. Real angel investors want to deal with the startup team founders, not brokers, or finders, or consultants.

Commercial lenders Banks are even less likely than venture capitalists to invest in, or loan money to, startup businesses. They are, however, the most likely source of financing for established small businesses. Startup entrepreneurs and small business owners are too quick to criticize banks and financial institutions for failing to finance new businesses. Banks are not supposed to invest in businesses and are strictly limited in this respect by federal banking laws.

Would you want your bank to invest in new businesses other than your own, of course? Furthermore, banks should not loan money to startup companies either, for many of the same reasons. Federal regulators want banks to keep money safe, in very conservative loans backed by solid collateral. Why then do I say that banks are the most likely source of small business financing?

Because small business owners borrow from banks. A business that has been around for a few years generates enough stability and assets to serve as collateral. Normally there are formulas that determine how much can be loaned, depending on how much is in inventory and in accounts receivable. Some would say that home equity is the greatest source of small business financing. They are normally applied for and administered by local banks. You normally deal with a local bank throughout the process of getting an SBA loan.

For startup loans, the SBA will normally require that at least one-third of the required capital be supplied by the new business owner. Furthermore, the rest of the amount must be guaranteed by a reasonable business or personal assets. Ownership Investments: Referring largely to things like stocks, real estate, precious objects, and business investments, ownership investments refer to investments in which the buyer actually owns the asset.

This is the most common type of investment. Accounting professionals can help to ensure that these investments are still producing income or appreciating. Lending Investments: As a lending investor, you serve as a banker. Bonds, savings accounts, and Treasury inflation-protected securities or TIPS are all lending investments. Money-market funds are cash equivalents.

A good portfolio should have a few of all three of these types of investments. While building a portfolio, an investor might also hear about mutual funds, which pool money from multiple investors together to make larger investments.

An exchange-traded fund, or ETF, is similar to that concept but is traded like stock. What Are the Best Business Investments? In general, the best investments have these qualities : Businesses with high returns on capital Durable competitive advantages Excellent scalability Assets available for a good price that is likely to offer returns The advisers and accountants at Ignite Spot can help you diversify your investment portfolio, assist you in getting started with investing, or teach you how to invest in a small business.

How Do Accountants Account for Investments? The accounting experts at Ignite Spot handle three investment account types, and the balance sheets are accounted for in different ways depending on what kind of business investment account you used.

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Married entrepreneurs should think through the pros and cons associated with separate business ownership. If you intend to keep your business investment in your name only, draw investment funds from your personal savings or checking account; not a joint account. Often the par value is a low number — a penny a share or less. I recognize that it is difficult to value privately-held companies that are not yet generating significant revenues, patents or profits.

Knowledgeable investors do their homework. However, when entrepreneurs pull money out of personal savings to fund a business, they often forget to treat their small business investments like any other investment. The most prudent approach is to keep a diversified investment portfolio.

Investing personal savings in a business is an important milestone. Holding back some savings for personal rainy day needs should not be perceived as any lack of faith in your business prospects. Rather, look at it as positive confirmation that you can be a shrewd business investor who is out to reduce needless risk at every turn. Susan Schreter is a year veteran of the venture finance community and entrepreneurship educator.

Her work is dedicated to improving startup longevity in rural, urban and suburban America. Investing in Small Businesses In years past, sole proprietorships or general partnerships were more popular, even though they provide no protection for the owners' personal assets because owners are all in. Many do not even know of different methods of financing available, besides business loans.

Note Today, small business investments are often structured as either a limited liability company or a limited partnership, with the former being the most popular structure because it combines many of the best attributes of corporations and partnerships. These structures also protect personal assets. Whether you are considering investing in a small business by founding one from scratch or buying into an existing small company, there are typically only two types of positions you can take—equity exchanging money for ownership and profits or debt lending money.

Though there may be countless variations, all investment types lead back to these two foundations. Equity Investments in Small Businesses When you make an equity investment in a small business, you are buying an ownership stake, or a "piece of the pie. The business can use this invested cash for a variety of actions—capital expenditures needed for expansion, cash for running daily operations, reducing debt, or hiring new employees.

In some cases, the percentage of the business the investor receives is proportional to the total capital they provide. In other cases, the percentage of ownership and dividends can differ. Consider the investment partnerships Warren Buffett ran in his 20s and 30s. The limited partners were fine with this arrangement because Buffett was providing the expertise. Note An equity investment in a small business can result in the biggest gains, but it comes hand in hand with the most risk.

If expenses run higher than sales, part of the losses get assigned to investors. If it turned into a bad quarter or year, the company might fail or go bankrupt. However, if things go well, returns can be generous. Debt Investments in Small Businesses When you make a debt investment in a small business, you loan it money in exchange for the promise of interest income and eventual repayment of the principal.

Debt capital is most often provided either in the form of direct loans with regular amortization reduction of interest first, then principal or the purchase of bonds issued by the business, which provide semi-annual interest payments mailed to the bondholder. The biggest advantage of debt is that it has a privileged place in the capitalization structure. That means if the company goes bust, the debt has priority over the stockholders the equity investors. Generally speaking, the highest level of debt is a first mortgage secured bond that has a lien on a specific piece of valuable property or an asset, such as a plant or factory.

Note A first mortgage secured bond requires property, such as real estate, as collateral. For example, if you loan money to an ice cream shop and are given a lien on the real estate and building, you can foreclose upon it in the event the company implodes. It may take time, effort, and money, but you should be able to recover whatever net proceeds you can get from the sale of the underlying property that you confiscate. The lowest level of debt is known as a debenture , which is a debt not secured by any specific asset but, rather, by the company's good name and credit.