Funding and Starting a Web 2.0 Company
There are three basic brands of funding for your new shiny web 2.0 company. Bootstrap, Angel and Venture Capitol. Which one you use really relies on your personality (how well you tolerate risk) and how deep your pockets are.
Bootstrapping is the common term for someone who pays to develop the company out of their own pocket to get started. Bootstrapping has become wildly popular in reality after the dot com bubble because VC (Venture Capitol) funding all but vanished for technology post boom. Sites start out small and grow as their customer base grows, every spend is weighed against what the person can individually afford. Loans are taken out, house equity is used, savings are used to fund the original seed company. Business Finance describes the advantages of bootstrapping your company:
Bootstrap Financing: The simple definition of bootstrap financing is to build a business out of little or nothing with no or minimal outside capital.
Advantages to Bootstrap Financing: Besides being one of the most inexpensive ways to raise capital for your business, bootstrap financing also looks good to outside lenders when the time comes to raise money through these routes. It also makes your business more valuable since no money was borrowed and no equity positions of the company had to be given up. Also there is no interest that must be paid since the money you get is generated from your own business and it’s resources. Source: Business Finance http://www.businessfinance.com/bootstrap-financing.htm
Angel funding is a person who gives you money, usually for ownership equity in the company. There are a lot of angel funding companies and people. The stake is set in the contract, and they can sometimes vote their "shares". Usually though they do not have more than nominal control and can pull their money at any time. Wikipedia states:
An angel investor (known as a "business angel" in Europe, or simply an "angel") is an affluent individual who provides capital for a business start-up, usually in exchange for ownership equity. Angels typically invest their own funds, unlike venture capitalists, who manage the pooled money of others in a professionally-managed fund. However, a small but increasing number of angel investors are organizing themselves into angel networks or angel groups to share research and pool their investment capital.
Angel capital fills the gap in start-up financing between the "three F"s (friends, family, and fools) of seed capital, and venture capital. While it is usually difficult to raise more than US$100,000 – US$200,000 from friends and family, most venture capital funds will not consider investments under US$1 – 2 million. Thus, angel investment is a common second round of financing for high-growth start-ups, and accounts in total for more money invested annually than all venture capital funds combined (US$24 billion vs. $22 billion in the US in 2004, into 45,000 companies vs. 4,900 companies, according to the University of New Hampshire’s Center for Venture Research). Source: Wikipedia http://en.wikipedia.org/wiki/Angel_investor
Venture capitol took a major hit when they pulled out of the tech boom in 2000 and 2001, so you might actually hear people who say that they want no part of VC money. Seattle and Silicon Valley all have robust VC groups that do give money to companies that have a good record of accomplishment and have gone through either bootstrap and/or angel funding already. VC money though comes at a cost, and it is not uncommon for a VC company to walk in and start managing a company to preserve their money, or liquidate the company if the company is going under. Wikipedia states:
Venture capital is not suitable for all entrepreneurs. Venture capitalists are typically very selective in deciding what to invest in; as a rule of thumb, a fund may invest in as few as one in four hundred opportunities presented to it. Funds are most interested in ventures with exceptionally high growth potential, as only such opportunities are likely capable of providing the financial returns and successful exit event within the required timeframe (typically 3-7 years) that venture capitalists expect.
This need for high returns makes venture funding an expensive capital source for companies, and most suitable for businesses having large up-front capital requirements which cannot be financed by cheaper alternatives such as debt. That is most commonly the case for intangible assets such as software, and other intellectual property, whose value is unproven. In turn this explains why venture capital is most prevalent in the fast-growing technology and life sciences or biotechnology fields.
If a company does have the qualities venture capitalists seek such as a solid business plan, a good management team, investment and passion from the founders, a good potential to exit the investment before the end of their funding cycle, and target minimum returns in excess of 40% per year, it will find it easier to raise venture capital. Source: Wikipedia http://en.wikipedia.org/wiki/Venture_capital
Depending on your needs, and the depth of your pockets, you could bootstrap, angel fund and remain private and still meet the terms of the deals made. Or you could pursue VC money knowing that they have a limited shelf life and need to pull out in a certain number of years from the investment. As well, you have to show growth rates and return rates that are going to be attractive to people who are willing to fund at both Angel and VC levels.
In the end though, it is how you manage money and you manage the risk of brining someone into your company to help fund the next wave of growth. Many companies are eschewing VC money and sticking with angel funds, while others are willing to go the VC route. Its up to you on how you fund your company.