Hierarchy of Funding

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What is the “Hierarchy of Funding”?

“Money often costs too much.” — Ralph Waldo Emerson, essayist and poet

Key Points:

• If your business needs to buy equipment or to hire employees, chances are you require Funding.
• In order to acquire Funding, it’s often necessary to give up a certain amount of control over the operations. No one gives money away for nothing. The more money you ask for, the more control they’ll want.
• The Hierarchy of Funding describes the different funding methods. The higher you climb, the more funding you get and the more control you give up:
  
  
  
  • Personal Cash. The best form of financing is to invest your own money.
  • Personal Credit. Easy and quick if your needs don’t exceed a few thousand dollars.
  • Personal Loan. Typically made by friends/family. Be careful because failure to pay back may harm your personal relationships.
  • Unsecured Loan. Typically made by banks or credit unions. It’s used for small amounts, usually doesn’t require collateral so the interest will be higher.
  • Secured Loan. It requires collateral. If you don’t make the payments, the lender can seize the property signed as collateral.
  • Bond. Debt sold to individual lenders. Instead of asking a bank, a business asks other individuals directly.
  • Receivable Financing. Special type of secured lending unique for business. The collateral is the business receivables. The bank can force the business to pay the loan before anything else, even salaries.
  • Angel Capital. The “angel” investor gives you Capital in exchange for partial legal ownership of the business. Some angels offer advice, but they usually can’t make business decisions.
  • Venture Capital. VCs are very wealthy and they offer very large amounts of capital. It happens in “rounds” and there’s a lot of negotiation involved. VCs require a lot of control, usually a seat in the company’s board of directors.
  • Public Stock Offering. It involves selling partial partial ownership of the company to investors on the open market. Whoever owns the most shares of the company controls it, so “going public” is very risky in terms of control. Public Stock Offerings are usually used by angel investors and VCs to exchange ownership for money.
• The more control you have to give up, the less attractive the funding. More opinions means slower operations.
• It’s not uncommon for investors to remove executives that are not performing well, even if they are the founders (e.g.: Steve Jobs).

Questions for Consideration:

• If financing would be useful, how much control over your business would you have to give up to obtain the funding?
• Are you financing force multipliers that can only be paid for via financing, or are you spending borrowed funds on things that are better paid for with cash?

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