Seed Capital Funding Cycle

Successful businesses are well-planned and well-capitalized. Successful capitalization requires having the ability to access capital when you need it. And in most cases, it does not mean immediately finding a venture capitalist willing to fund your venture. The fact is that only 0.1 percent of all business investment capital comes from established Institutional Venture Capital funds. *

Many entrepreneurs lose valuable time and opportunities during their search for capital because they chase after investments they cannot obtain. They do not take the time to study what they are attempting to do and determine who might be interested in their venture. Many entrepreneurs begin their search for capital from the wrong source without taking the time to determine if they meet the source's criteria or interests.

An entrepreneur with a concept for a new product is faced with very few options to intrigue investors. With no product and no revenue models, very few large investors are willing to provide any amount of capital without a guarantee of a (large) return on their investment. Therefore the initial funding primarily comes from sweat equity and personal savings to develop a working model of the product. The source of funds may include personal savings, personal equity, family and friends.

At the next stage of the funding cycle, entrepreneurs need seed capital to support critical early-stage research and development of their intellectual property. The entrepreneur may require $25k to $500k from informal investors to develop the working model into a prototype, create the initial product and carry out the initial marketing efforts. An often-overlooked source of seed funding by entrepreneurs is the federal government's Small Business Innovation Research (SBIR) program.

After the seed capital is used, additional pre-venture capital is needed to introduce the product to the marketplace. The entrepreneur may need to seek out other active informal investors who could provide $0.5 to $1 million in funding to continue the development of the product and market models.

Once the entrepreneur starts to produce the product and begins to actually generate revenue, she might approach institutional venture capitalists who might be willing to invest $3 million to $5 million into the business. Keep in mind it takes a considerable amount of planning and negotiating with venture capitalist to secure funding. A savvy venture capitalist is interested in very high returns on his investment from defendable and sustainable revenue models.

Statistics show that a significant number of businesses fail. The high failure rate is the direct result of improper planning and understanding of capital. Take the opportunity to develop plans and understand your capital needs throughout the different stages of your business. This time spent may well lead to a successful business adventure.

* The Art and Science of Obtaining Venture Capital, by J. Corey Pierce.

- John Parfet, former business specialist, MO SBTDC for University of Missouri Extension's Creating Quality newsletter 3/1/03.