Financial institutions currently assess risk by determining creditworthiness of a company. What does this mean? It is a way for them to evaluate the possibility of a borrower defaulting on his debt obligations by considering factors such as assets owned, credit score and repayment history.
The issue is that the financial ecosystem has not been built to support startups at a pre-commercialisation stage.
A startup needs its first breath of capital to:
- Create the product or service it is seeking to offer
- Form a team (whatever is essential as human capital in the beginning) to help plan and execute step 1
- Develop a marketing plan with actual ROIs
- Hire and train a salesperson (or sales team in some cases)
Financial institutions, investors and the like often enter the process once sales are made. They base themselves on these sales to finance and take guarantees against the startup. You’re probably thinking that this doesn’t make sense.
You’re right. It doesn’t.
It does however to financiers. If there is a positive cash flow due to sales, it means less risk for them since the startup will be more likely to pay their debt obligations. How then do you get through step 1 to 4?
All jokes aside, you need to be aware of this truth before seeking financing. You want an investor who will support you prior to the commercialization stage. Many bootstrap this process, others seek love money, some mortgage their homes.
I truly believe it is more important to take the time to:
- Plan out your idea before taking such burdensome risks (what problem are you trying to solve?).
- Set out your milestones and goals.
- Price what you need to get you to the sale portion of the business.
Then you can start seeking out grants or other programs that will provide you some capital to jump start the pre-commercialization process.