Contrary to widely held beliefs that startup companies rely heavily
on funding from family and friends, this research paper reports that external debt financing such as bank
loans are the more common sources of funding for many companies during
their first year of operation. According to the study, nearly 75
percent of most firms' startup capital is made up in equal parts of
owner equity and bank loans and/or credit card debt, underscoring the
importance of liquid credit markets to the formation and success of new
firms.
The research paper, titled The Capital Structure Decisions of New Firms,
is second in a series of Kauffman Firm Survey (KFS) studies. The KFS
surveyed nearly 5,000 businesses founded in 2004 and tracks them
annually over their early years of operation. The survey focuses on the
nature of new business formation activity and characteristics of the
firms and owners over time. This dataset provides a rich picture, and a
first-time glimpse, of the early capital structure decisions of new
firms.
Interestingly, the Capital Structure paper also
found that high-tech firms are more likely to get outside equity
investments in their first year of operations than any other type of
company. According to the data, high-tech firms received an average of
$31,216 in this type of financing, compared with firms overall, which
received only $7,000 on average.
Other key findings in the Capital Structure paper include:
- Outside
debt (financing through credit cards, credit lines, bank loans, etc.)
was the most important type of financing for new firms, followed
closely by owner equity. These two sources accounted for about 75
percent of startup capital.
- Insider debt (from friends, family, and spouses) and outsider equity were much less important sources of startup capital.
- Owner debt and insider equity were the least important sources for startup capital.
- Firms
with high credit scores (low risk) started businesses with much higher
levels of startup capital than firms with low credit scores. The
average amount of startup capital was $136,000 and $50,000
respectively. These compare with about $78,000 for firms overall.
- High-tech
firms with high Dun & Bradstreet Credit Scores (low risk) started
with nearly $275,000 in financial capital. More than $100,000 of this
financing was from outside equity investors such as venture capitalists
and other informal investors.
- Outside equity financing was the most important source of startup capital for high-tech firms with high credit scores.
