6 Ways to Finance your Start-Up
Written by Sarah Dallyn
JD Candidate 2024 | UCalgary Law
Starting a business is an exciting venture, however, entrepreneurs face many challenges in getting their enterprise off the ground. One of the biggest challenges start-up companies face is securing financing in the initial stages of development. In Canada, there are various sources of financing available for early-stage start-up companies. This blog will provide an overview of the common types of financing available to entrepreneurs and will discuss the benefits and disadvantages associated with each funding source.
Love Money
One of the most common sources of funding start-up ventures receive in their earliest stages of development is referred to as “love money.” Love money is a type of seed capital raised directly from close friends and family, typically before a business is able to secure financing from other sources.[1],[2] This money is largely given based on the party’s relationship with and faith in the entrepreneur, rather than on a calculated analysis of potential risks with the venture. Since many new start-up companies fail, there is a real possibility that any money received in these early stages will be entirely lost.[3] Additionally, due to the relatively small size of these investments, there are often no formal investment agreements entered into setting out the risks and warnings associated with the investment.[4] This lack of formality can lead to loved ones investing money without being properly informed of the risks associated with their investment.
Bank Loans
Institutional banks also provide loans to start-up companies. However, getting a bank loan for a start-up can be difficult, as banks typically require collateral and a solid business plan. In addition, start-ups often have limited credit history, making it harder to secure a loan. Nonetheless, banks can be a good source of financing for start-ups that have solid business plans and can provide collateral. Some banks are particularly geared towards helping start-up ventures and entrepreneurs. One example of an Albertan bank that has developed strong entrepreneurial programs and loan programs is ATB Financial which has created an Entrepreneur Centre providing resources and funding information for entrepreneurs. Additionally, ATB X offers an 8-week start-up accelerator and coaching program for Alberta businesses.[5]
Angel Investors
Angel investors are typically high-net-worth individuals who repeatedly invest their own money into start-up ventures in exchange for equity in the company.[6] In addition to investing large amounts of money in a venture, angel investors also bring value through their expertise and industry connections which are invaluable during the early growth phases of a start-up. The most common structure of angel investments are common shares purchased at a bump in value from the price paid by the founders.[7] Another angel investment structure that has gained popularity in Canada in recent years are Simple Agreements for Future Equity, commonly referred to as SAFEs. SAFEs are convertible notes where the debt elements have been removed.[8] However, despite the increasing popularity of SAFEs, they may not be the best financing structure for Canadian start-ups given Canada’s weaker venture capital market for subsequent financings, and the lower rate of exit transactions in Canada. In Canada, there are several angel investor groups, including Canadian International Angel Investor, York Angel Investors Inc., and TenX Angel Investors Inc.[9]
Crowdfunding
Crowdfunding is a relatively new method of financing start-up companies that is growing in popularity in Canada. With crowdfunding, a large group of people contribute small amounts of money to fund a project or start-up, usually through online platforms. This method is often used for creative projects, such as films or music albums, but can also be used for start-up companies. Since issuing securities to the public triggers legal obligations in Canada which are time-consuming and costly for start-ups to manage, certain provinces have implemented crowdfunding regimes that exempt start-ups from having to comply with all of the traditional securities issuance requirements.[10] Crowdfunding prospectus exemption regimes currently operate in British Columbia, Saskatchewan, Manitoba, Quebec, New Brunswick, and Nova Scotia. Some popular crowdfunding platforms in Canada include Kickstarter, FrontFundr, Indiegogo, and FundRazr.
Government Grants and Loans
The Canadian government offers several grants and loans programs to support start-ups. The most popular program is the Canada Small Business Financing Program (CSBFP).[11] This program provides loans of up to $1 million for start-up companies to help finance the purchase of equipment and other assets. The Business Development Bank of Canada provides various funding options for entrepreneurs, including small business loans, start-up financing, equipment purchase financing, and working capital financing.[12] The Canadian government also provides various grants to start-up companies. For example, the National Research Council Canada (NRC) offers funding to innovative start-ups that are working on projects in specific industries. Furthermore, the Canadian government has created specific tax incentive programs to encourage start-ups in Canada including the Scientific Research and Experimental Development Tax Incentive Program. The Alberta government also offers numerous funding programs for start-up companies including the Alberta Export Expansion Program and Alberta Innovates funding agency.[13]
Venture Capital
Venture capital firms provide funding to start-up companies that show high growth potential. In exchange for the investment, venture capital firms receive equity in the company. Venture capital firms often invest significant amounts of money in start-ups that are in the early stages of development if the venture meets the firm’s criteria. Due to the sophistication of these institutional investors, venture capitalist financings often involve active supervision of the start-up as part of the venture capital firm’s investment strategy.[14] Additionally, the process of securing a venture capital investment is arduous and time-consuming compared to the other types of funding discussed above. This is largely due to the in-depth analysis and valuations conducted by the venture capital firm prior to deciding whether to invest in the enterprise. If a start-up secures this type of financing, venture capital firms impose onerous terms on their investment, including but not limited to, control rights, warrants, anti-dilution rights, redemption rights and drag-along rights.[15] Some popular venture capital firms in Canada include Real Ventures, iNovia Capital, MaRS Investment Accelerator, and Georgian Partners.[16]
In conclusion, starting a business can be challenging, but there are various financing options available for start-up companies in Canada. From government grants and loans to angel investors, venture capital firms, crowdfunding, and bank loans, each financing option has its own benefits and drawbacks. Start-up companies should carefully consider each option and choose the financing method that best fits their needs and business goals. If you are an early-stage entrepreneur in the process of financing your venture and have questions on what options might be available to you, please reach out to the BLG Business Venture Clinic for more information.
[1] Bryce C. Tingle, Start-up and Growth Companies in Canada: A Guide to Legal and Business Practice, 3rd ed (Toronto: LexisNexis Canada Inc., 2018) at 267 at 268.
[2] Investopedia, Love money: https://www.investopedia.com/terms/l/lovemoney.asp.
[3] Supra note 1 at 269.
[4] Supra note 1.
[5] ATB Financial, https://atbentrepreneurcentre.com/.
[6] Supra note 1 at 270.
[7] Supra note 1 at 272.
[8] Supra note 1 at 24.
[9] Government of Canada, List of designated organizations – start up visa, online: https://www.canada.ca/en/immigration-refugees-citizenship/services/immigrate-canada/start-visa/designated-organizations.html#angel.
[10] Canadian Securities Administrators, https://www.securities-administrators.ca/investor-tools/understanding-your-investments/start-up-crowdfunding-faqs/.
[11] Government of Canada, Canadian Small Business Financing Program, online: http://www.canada.ca/csbfp.
[12] The Business Development Bank or Canada, https://www.bdc.ca/en/financing.
[13] Government of Alberta, https://www.alberta.ca/small-business-resources.aspx.
[14] Supra note 1 at 313.
[15] Supra note 1 at 333.
[16] Canadian Venture Capital & Private Equity Association, https://www.cvca.ca/.
