How Startups and Small Businesses Differ When it Comes to Funding

Funding doesn’t determine a startup from a small business; the nature of the business determines the funding.

Twist of logic perhaps, so let’s explore it.  Very frequently, I find small businesses looking to raise venture capital; let me cut to the chase that such efforts are almost always wasting their time.

The distinctions between small business and startup are in innovation and intention

Intention

Startup is merely a stage of business whereas Small Business is a defining characteristic.

Your intention as a founder is to either own a small business or a company.

Companies will scale to any size possible. Companies aren’t owned by the founder alone; in fact, you’d willingly be replaced if best for the company. Companies share ownership and as such, can offer those shares on the public market (“go public”)

Startup is the early stage of a company.

Your intention is to be a company, not a small business.

Begging the question… well, doesn’t a small business start up?

Yes… but that’s not the same as “a startup.”

A small business starting out is likely able to draw from the knowledge base of existing small businesses.

While that small business is “starting,” the distinction is that HOW to start, what to do, can usually be derived from predecessors.

If you’re opening an Accounting practice, for example, that’s a small business starting out, and it’s able to essentially replicate other accounting practices in the process.

This distinction is the second consideration: innovation.

Startups are largely agreed upon as new businesses that are distinct in some way. They can’t just replicate the Accounting practice, they aren’t the same business.

Their innovation is what enables them to scale beyond being a small business among many existing, to being a company with sizeable market share.

They’re doing *something* new.

Innovation doesn’t mean “tech,” that new could be anything from a radically different business model, to addressing a completely different market; and sure, technology based companies are by their nature of working with technology, likely more innovative.

This is what makes them “startups.” They’re new businesses that are inventing their new approach as a business.

Such businesses may remain small (it’s their intentions that make them big and beyond the starting up stage), but it’s the innovation that distinguishes the new small business from new startup.

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Thus, how they’re funded is determined by what they are. Funding doesn’t determine that they are different.

A startup is more attractive to VC and Angel investment. Startups, becoming companies, are likely to go public or exit whereas Small businesses are not (only being sold when the owner/operator wants out).

A distinction of such investors is that they expect the company to “exit” so they can get their substantial Return on Investment

Small Businesses generally are NOT attractive to VC and are rarely attractive to Angel Investors.

Don’t misunderstand, they can get investors, but it’s more accurate to refer to those investors as “business investors,” not Angels. Such investors are usually referred to as partners and they’ll favor profit-sharing or drawing from the business more than waiting out for that exit.

Business investors typically focus on revenues, hence their favoritism of known businesses, whereas Angel Investors should not be focused on revenue at this early stage… after all, doing something innovative, we can’t really predict or expect the incomes of the business.

Appreciating that distinction, we can also see how small businesses are often more suited to loans, while startup founders typically can’t collateralize or justify financing as a startup.