While it's not part of my core business, I find myself coaching early-stage entrepreneurs from time to time--often because they know a friend of mine. What's interesting is that one of the most common questions I get asked from the founders of these companies is how they can best access the capital they need to land their first customers or establish the competency of their business. Sure, there are times when you run into someone who already has lots of money based on the fact that, say, they already sold a business and are looking to start another. But this is a very rare occurrence. Most early-stage entrepreneurs need money--but they don't know where to start looking for it.

I've written before about what an entrepreneur needs to consider before heading on a show like Shark Tank--which contains good advice about how you should look at your business the way an investor would. The truth is, however, that if you're an early-stage company, there are really only a couple options available to you when you're looking to raise about $500,000 worth of capital.

Let's first talk about where you shouldn't go looking for money.

Private Equity

Private equity groups don't actually invest in early-stage companies. They're focused on later-stage companies and turn-around opportunities in specific sectors like healthcare and fintech, depending on their investment thesis. They want to put their money into companies that have strong management teams and some degree of profitability. In other words--not your early-stage company.  The bigger issue is that they need to put large sums of money to work to cover their overheads and $500,000 simply isn't enough.

Banks

A lot of young entrepreneurs think that banks can be a good source of capital for their early-stage company. They're not--at  least if you are risk averse. Banks want hard assets and collateral to secure loans. So unless you're willing to put your house up as collateral, or even sign a personal guarantee against the loan, banks are not a good source of capital for you. The one advantage a bank loan has is that you don't have to give up any equity to get the money.  But the bottom line is that banks aren't interested in putting money to work in something as risky as a start-up.

Venture Capitalists

Venture Capitalists, commonly called VCs, are generally large, well-funded and sophisticated investors typically based in Silicon Valley. It's not uncommon for a VC to invest $100,000 in a startup--but there's a catch. Typically, VCs are investing in entrepreneurs with a solid track record of scaling up businesses that have billion-dollar potential. So, unless you have that kind of experience on your resume, live in California and have a billion-dollar runway ahead of you, trying to attract a VC's attention is likely a waste of your time.  To be fair, there are limited VC communities in Boston, Austin and Washington DC, but they are generally looking for very specific types of firms with massive growth potential.

If you can't use private equity, banks, or venture capitalists, then where can you get the capital you need for your startup?

The first and most obvious answer is Friends and Family. After all, who believes in you more than anyone else? If you need a couple hundred thousand dollars and you have a rich aunt, perhaps you can convince her to give you an early inheritance. Or maybe you have some wealthy friends--or even friends of friends--who are looking for a good investment opportunity. While you will likely have to give up some equity, it can be your best path to getting the money you need.  The other benefit as amateur investors is that the terms will be advantageous and the price favorable to you.

What's interesting is that when I tell entrepreneurs this, most of them get nervous. They worry about the pressure of failing -- publicly--and putting their friends' or family's money at risk. And it's true, it can really stink if you fail and lose that money in the process. But that's the price you'll need to pay if you want to take advantage of this funding source.

If you don't have any rich friends or family members, the next resort might be to find what's called an Angel Investor or an Angel Investor Network. These are high net-worth individuals, maybe retired executives or entrepreneurs, you are looking to invest in younger companies that have the potential to generate a 10X or 20X return on their money. A great advantage of working with an angel investor is that he or she will likely have vast experience and networks to tap to help you grow your business and generate a return on their investment. It's also relatively easy to find angel investors in your area: there are angel groups in just about every city in the U.S. These groups offer entrepreneurs the chance to pitch their business ideas and, if they like your presentation, they just might invest in your startup.

So, when it comes to finding capital for your startup, focus on tapping your personal network first. And, if that doesn't work out, look for opportunities to connect with angel investors. And if neither of those options pan out, it might just force you to bootstrap your business and grow it organically until you can scale to the point where investors are ready to take you and your business more seriously.

You can find more about Jim and the Inc. CEO Project at www.IncCEOProject.com

Published on: Sep 10, 2019
The opinions expressed here by Inc.com columnists are their own, not those of Inc.com.