You have to have money to make money, the saying goes. But how do you get that seed money for your greatest-of-its-kind unique business idea? Especially when you need a lot of it? Venture Capital!

Options for Financing a New Business

When you start a new business, you’re going to need cash for all kinds of things - physical space, furniture, equipment, office supplies, prototypes, and sooner than later, payroll. New business owners have a few options for raising capital:

• Personal Savings:  Empty your own bank account or tap the equity in your home.
• Loans:  Borrowing from banks or family members can get you started.
• Bootstrapping:  If the business is simple enough (especially if it’s service related) you can bootstrap it. Get it going with a tiny initial investment and then reinvest profits from the business itself to grow.
• Venture Capital:  Especially if you need a large amount of start-up cash and you aren’t wealthy, venture capital can help a business grow quickly.

Venture Capitalists invest in all kinds of businesses, usually by gathering money from wealthy individuals, companies, and pension funds, into an investment fund which will pump money into new businesses according to their investment profile. They target the new companies with certain risks and rewards in mind.

A Typical VC Model

Venture Capital (VC) funds typically liquidate in 3 to 7 years. They expect companies to either go public by selling shares on a stock exchange or to purchased by another company in that time frame. Either way - whether cash is coming in from another company or from stockholders, the VC firm cashes out. If all goes well, there is more money in the fund than when they started and this is distributed back to the orginal investors.

New business is risky business, but VCs make their money ­­when the companies they invest in go public. When this happens, millions of dollars can flow into the company. This makes up for the inevitable failures that are part of investing in new ideas or new ways of doing business. VC investors are looking for a return as high as 20% per year.

When Your Company Takes VC Funds

When your company is ready to start up or grow, you look for venture capital firms to invest in the company. You  present your business plan to the VCs, and if they like it you get their money. This initial investment is called a seed round. New companies may receive VC three or four times before going public or getting acquired.

In return for their investment, the VCs take stock in the company. This usually comes with some voting or control rights such as a seat on the board of directors, or agreements to seek approval for certain transactions. If you’re very lucky, the VC provides not only cash, but also valuable business contacts or experience in your company’s industry.

Negotiating the VC Transaction

Henry Ford may have only wanted workers’ hands, and start-ups may just want VCs’ money. But that’s not the way it works. Just as Ford had to take the whole employee in order to get those productive hands, companies that take VC must accept the guidance and control of the VC partners. But how much is enough?

In order to decide just how much stock the VC firm receives, they work together with the founders to value the company. This is called the the pre-money valuation of the company. Once all parties agree on how much the company is worth, the VC firm invests the money. Now that the company has cash, its value is called the post-money valuation. The amount of company stock the VC firm receives is based on the percentage increase from the pre-money to the post-money valuations. This is often between 10% to 50%.

What’s Up With VCs and Internet Start-Ups?

While many types of businesses can be good candidates for VC, we hear a lot about this type of investing in the ‘dot com’ world.  Remember what VC is good for - raising large amounts of money for fast growth. Many internet businesses need larges amounts of cash for advertising, equipment, and employees. And they don’t have time to bootstrap. Compounding the need for cash quickly is the rate of change online.

Image Credit: AMagill, Flickr

Not too much to drive you to drink this week.
Here’s are some money stories for your weekend:

• The Business Insider Green Sheet reported on the drop in venture capital flowing to green technologies. Come on guys, Earth Day’s coming! (Come back Monday for the ABCs of VC.)
• SustainableBusiness.com covered the national youth movement to get Congress to pass stronger climate legislation to address emission reduction targets, transition America to 100% clean energy, and eliminates loopholes that allow companies to continue polluting.
• The Third Sector looked at a new report on the financing crisis in non-profits. (In my community, the United Way just cut all distributions by 15%.)
• Newt Gingrich praised the Financial Accounting Standards Board for relaxing the mark-to-market rules.

Bottoms up!

Image Credit: Olivier Bareau, Flickr

The last time I wrote about Mark Cuban was when the SEC charged him with insider trading. Now, Mr. Cuban has made the news for some positive investing practices.

Mark Cuban, Michael Eisner and Flat Stanley at SXSWi 2008

He has established the Mark Cuban Stimulus Plan to “figure out how to help the economy.”

In a nutshell, Mr. Cuban has invited entrepreneurs to post their business plans on his site, blogmaverick.com.

In return for posting their plans, Mr. Cuban will consider funding their ventures.

Since the Mark Cuban Stimulus Plan was initiated in February, there have been some interesting submissions. You can view Naked Pizza and Wickler, both of which have deals “in the works” according to Cuban’s blog.

Cuban thought out the rules of funding well before offering his stimulus plan to businesses, here they are:

1. It can be an existing business or a start up.
2. It can not be a business that generates any revenue from advertising. Why ? Because I want this to be a business where you sell something and get paid for it. Thats the only way to get and stay profitable in such a short period of time.
3. It MUST BE CASH FLOW BREAK EVEN within 60 days 
4. It must be profitable within 90 days.
5. Funding will be on a monthly basis. If you dont make your numbers, the funding stops
6. You must demonstrate as part of your plan that you sell your product or service for more than what it costs you to produce, fully encumbered
7. Everyone must work. The organization is completely flat. There are no employees reporting to managers. There is the founder/owners and everyone else
8.  You must post your business plan here, or you can post it on slideshare.com , scribd.com or google docs, all completely public for anyone to see and/or download
9. I make no promises that if your business is profitable, that I will invest more money. Once you get the initial funding you are on your own
10. I will make no promises that I will be available to offer help. If I want to , I will. If not, I wont.
11. If you do get money, it goes into a bank that I specify, and I have the ability to watch the funds flow and the opportunity to require that I cosign any outflows.
12. In your business plan , make sure to specify how much equity I will receive or how I will get a return on my money.
13. No multi-level marketing programs (added 2/10/09 1pm)

Keep up with the applicants and beneficiaries of Cuban’s stimulus plan at blogmaverick.com.

“Once regarded as irrelevant to economic activity, environmental problems are drastically rewriting the rules for business, investors, and consumers, affecting over $100 billion in annual capital flows,” say Worldwatch Institute project co-directors Gary Gardner and Thomas Prugh.

The world’s first global, sustainable market is becoming a reality according to a new report from the Worldwatch Institute. Environmental initiatives, revolutionary industrial production methods and a surge in environmentally focused investment groups are all highlighted among the increasingly important role that environmental issues play in the new world economy.

Another sign of dramatic change is the 575 environmental and energy hedge funds now in existence, most of them formed in the last few years. “Clean tech” has rapidly grown to be the third largest recipient of venture capital, trailing only the Internet and biotechnology. And 54 banks, representing 85 percent of global private project finance capacity, have endorsed the Equator Principles, a new international standard of sustainability investment.

The report also highlights how the current global economy is outpacing its “ecological base” using up natural resources at an unsustainable rate but notes that we possess the power and tools to change its course.

“Continued human progress now depends on an economic transformation that is more profound than any seen in the last century,” says Worldwatch president Christopher Flavin. “We should be practicing a sustainable approach to economics that takes advantage of the ability of markets to allocate scarce resources while explicitly recognizing that our economy is dependent on the broader ecosystem that contains it.”

Read the Worldwatch article at Adam Smith, Meet Mother Earth, more on the report at State of the World 2008: Innovations for a Sustainable Economy (full report available for purchase: $15 e-book, $18.95 paperback)

Solar has become the leading sector of the greentech market with a fast transformation in recent reboom years. Greentech Media recently reported

VC investment in the solar industry has gone from a few deals in 2004 to potentially reach $1B in 2007. This phenomenal investment growth is spurring innovation and efficiency in every sector of the booming $15B solar industry. We are seeing a VC-funded entrepreneurial wave get the attention of incumbent solar vendors, private equity investors, government, and even reach the public consciousness at the consumer level.

The solar industry is fast growing at 25% per year, a trend that is expected to continue for at least the next five years, according to Greentech Media’s VC Investment in Solar: 2005-2009. The graph below gives a graphic idea of how the industry has outpowered others in its class, as well as showing how investors are balking at biofuels this year compared to last year’s buzz.

Get more on cleantech this year at Cleantech Venture Investment Hits $2.6B at Earth2Tech where “by sector, solar took the cake, with 35 solar deals worth a total of $664.6 million.” And at Green Tinge Is Attracting Seed Money to Ventures at the New York Times.

How solar is getting around:

• Tindo, the Solar-powered Bus!
• Solar Green Homes delivered by Truck!
• Solara: California’s First Solar-powered Community

Via EL