Bootstrapping Your Startup Business

November 20 2010 11 Commented

The following article appeared in the November 2009 issue of the Flathead Business Journal, but is no longer available online.

Don’t raise money from outside sources for your startup venture unless you absolutely must!  Raising money takes lots of time.  Use your time to get your company up and running.  And, by avoiding raising money, you will not be required to sell equity (some ownership) in your new venture or go into debt which must be paid back at some future date.  Make do with your own resources, keeping 100% of the equity in your new company, for as long as possible.

For entrepreneurs, bootstrapping means extending your resources (usually cash) until the cash from the sales (revenues) of your company generate earnings and cash necessary to support both your family and the company.

But, all new ventures require startup capital (cash) to fund the business until a product or service can be sold.  To whom should entrepreneurs look for the cash required to develop prototypes – while supporting their families – until the business can generate revenues?  Entrepreneurs need to look to themselves first.  Only when personal resources are exhausted should entrepreneurs look elsewhere.  Why?

  • Lenders are virtually non-existent for new businesses (unless the entrepreneur has collateral for bank loans)
  • Investors (even friends and family), who purchase equity in new ventures, are looking for entrepreneurs with commitment to the success of the new business.  Commitment includes using your personal resources to start your venture before seeking capital from others.
  • Most importantly, bootstrapping your company until important milestones can be achieved increases the likelihood that sophisticated investors will eventually fund the company, if and when capital above and beyond your personal resources is required.  By waiting as long as possible to raise capital from investors and achieving significant milestones in the business, entrepreneurs create value in their businesses and then choosing to sell less equity to raise cash, when funding raising becomes absolutely necessary.  Meeting milestones shows personal commitment to the business, demonstrates the viability of the company and increases the valuation of the company when raising money, and allows the entrepreneur to maximize personal ownership in the company.

What might be important milestones to investors?  Depending on the nature of your company, here might be a few examples:  completing a working prototype of your products; agreements with sales agents or distributors; contract with suppliers; beta testing or purchase agreements with customers; testimonials from customers who have purchased and used your product; filling out your management team; and recruiting an experienced advisory board or Board of Directors.

Bootstrapping can take many forms, but can be divided into personal or business sources of cash and/or reduction in expenses, as is shown in the chart below:

BOOTSTRAPING YOUR BUSINESS
ACTION Source of cash Reduced use of cash
Personal Keep day job x
Working spouse x
Delay/minimal salary to self and others x
Use personal car/computer/equipment x
Mortgage residence x
Using savings x
Maximize credit cards x
Sell personal assets x
Business One partner keeps day job x
Consulting while starting company x
Negotiated delay in vendor payment x
Negotiated delay in landlord payment x
Advances from customers x
Advances from partners x
Selling other products1 x
Early commercialization2 x

1 As a sales representative or distributor for another company

2 Quickly developing and selling products to generate revenues for the       company.  Need not be the “killer application” or a product with all bells and whistles.

Sometimes a useful bootstrapping tactic is to offer non-cash incentives to employees and suppliers.  Options (or warrants) to purchase stock in the company can be offered to employees, vendors (including landlords), customers and partners.  Additionally, permanent or temporary exclusive relationships instead of full cash payments might be of interest to vendors or motivate customers and partners to become early adopters of your products.

Raising Money is Expensive

Why not simply raise money from angels or VCs, instead of bootstrapping your new venture?  Equity investment is the most expensive source of capital for starting companies.  Why?  Debt (if available) may cost 5 to 20% annually.  For highly successful companies, equity costs over 100% per year.  Don’t raise the funds needed to start your company from equity sources unless you absolutely must do so!  And there are additional reasons to bootstrap, rather than raise money now:

  • Fundraising takes much more time than most entrepreneurs anticipate. The time dedicated to raising money could be more effectively used to develop and commercialize your first product.  Generate revenues (and profits) early – by bootstrapping the company.
  • Raising money too early, before meeting substantial milestones for success, decreases the valuation at which money can be raised thereby increasing the percentage of ownership new investors will require to complete the transaction.  Bootstrap the company – keep 100% ownership.

Bootstrapping is a time-proven method for extending the funds available to start a company until the cash generated from earnings is available to fund the growth of the business.  Bootstrapping can also be used to describe the extension, for as long as possible, the expenditure of invested capital in early stage ventures.

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