The first thing you need to decide, says Oliver Woolley, is what kind of business you are building – a ‘lifestyle’ business or a ‘growth’ business?

If you can, avoid raising finance in the start-up stage but when you do need an injection of cash, there are quite a few things to consider, starting with deciding which of the two types of business you are building:

(a) a “lifestyle” business that you want to develop but have no real expectation of selling
(b) a “growth” business, which you are looking to grow and scale and then sell in the foreseeable future (eg the next five years).

The objectives you set for the business will dictate the type of finance you should raise: the two key options being equity (selling shares in your company) and debt (borrowing from a bank or financial institution).

If growth and sale are not part of your plan, then an equity raise is not the right choice for you.

‘Remember that raising equity finance is a marathon not a sprint’

Equity finance sources

There are myriad investment sources ranging from business angel networks, seed funds, incubators, family offices, regional funds, corporate venturing funds, international investors (individuals and companies) and enterprise capital funds (ECFs).

For early stage companies it is especially important to develop a network of industry contacts as it is these connections (individuals that understand your sector or know you personally) who, directly or indirectly, are the most likely source of investment.

Right amount from the right people

If raising equity finance, you should make sure you are raising the right amount at the right time at the right valuation from the right source. A mismatch here will decrease the chances of successfully raising capital.

Sources of early stage equity fundraising

Legal structure

There are a number of business structures in the UK: sole trader, partnership, limited liability partnership (LLP), unincorporated association, community interest company (CIC) and company limited by guarantee. In order to raise equity finance, you need to set up a limited company that is registered at Companies House. This makes the buying and selling of shares in your business more practical.

Enterprise Investment Scheme (S/EIS)

Private investors paying tax in the UK can benefit significantly from tax relief from the funds they invest into UK limited companies under either EIS or SEIS.

The Enterprise Investment Scheme (EIS) offers up to 30% income tax relief on investments up to £1 million per tax year – extending to a further £1 million for investment in knowledge-intensive companies. The Seed Enterprise Investment Scheme (SEIS) offers 50% tax relief of investments up to £200,000 – as a deduction from your income tax bill. (2023 limits).

Approximately 70 per cent of private investors in the UK prefer to invest in companies that provide them with tax relief under the S/EIS, according to our own research. In fact, the majority will not even look at an investment opportunity unless the eligibility of tax relief is explicitly stated upfront.

There are also more than 100 S/EIS investment funds that pool private investors’ funds and look to invest into early stage ventures to obtain tax relief on their behalf.

Obligations

One of the biggest complaints from private investors is the fact they get ignored the day after they invest their cash into a business. If you are asking private investors for money you need to keep them on board with regular reporting: quarterly updates, and an annual shareholder meeting, sharing annual accounts and the budget for the following year.

Financial projections

Entrepreneurs need to strike a balance between explosive hockey-stick shaped financial projections which they believe investors will want to see and credible numbers that have a realistic chance of being achieved.

Typically, you will need to show financial projections for five years: the first two years broken down by month and the following years in quarters. It can be helpful to prepare target and realistic (and even worst-case) scenarios.

Financial projections should include the following:

• Cashflow forecast outlining the cash needs of the company. This will include capital expenditure, exclude depreciation, and allow for delays in receiving payments from clients/customers as well as building in payment terms to suppliers
• Profit and loss account forecast outlining the profitability of the company. A company can be profitable and yet still require cash for capital projects
• Balance sheet forecast outlining the financial position of the company at each year end in terms of assets and liabilities

Do keep it simple. Massively over-complicated and detailed Excel models that can only be understood by the author will put off investors. It is important to show the key revenue drivers to enable investors to understand the business model.

Full disclosures

A pet peeve of investors is business plans that only tell you the good bits. Investors need to see the whole truth to make a decision – which means the good, the bad and the ugly.

If raising money from experienced investors and funds, you will be expected to provide disclosures on a range of matters, including:

• Do you employ your spouse, son or daughter, or any other family member?
• Has any member of the team been involved in insolvency or been disqualified from being a company director?
• Are any of the management team members involved in another business? Ideally, they are wholly and exclusively working for the company without any potential conflicts of interest
• Have you disclosed all financial liabilities, including taxes due?

Exit routes

A clear exit strategy should be part of your investment proposition. The business exit is where investors will get their money back – hopefully with a return.

Business angels research conducted by the UKBAA and the British Business Bank shows the most common way in which businesses exit are:

• Trade sale 55%
• Sale to other shareholders (including management buy-outs) 10%
• Sale to a third party through a secondary sale process 10%
• Listing on a stock market 10%
• Other 15%

It is good practice to provide examples of businesses that are similar to yours who have exited.

Related: How to choose the right exit strategy

Finally, remember that raising equity finance is a marathon not a sprint. It can be as short as six weeks to close investment but typically it takes six or more months.

Oliver Woolley is CEO and co-founder of digital investment platform Envestors

See also: The essential guide to raising private equity