“Bootstrapping vs Raising Capital” are two binary words that many people use to describe the spectrum of fundraising options. Money does not normally fall from the well-informed investor’s pockets like rain in a storm. A more apt title would be “you will be bootstrapping and most people would not give you a lot of money for a long time.” Not so enticing, is it? You should look at the following to determine the best way to raise your capital:
What Is capital?
As first-time entrepreneurs consider funding, one common misconception is that they only consider venture capital.
Venture capital is only appropriate for a minimal subset of companies with the right, high-growth profile and a risk-reward profile that makes sense for that type of investor.
Certain forms of funding are available to entrepreneurs and small business owners. Loans, crowdsourcing, and other forms of equity investment (maybe with a profit share, etc).
It is critical to consider all the various forms of capital available and to recognize those that may be appropriate for your business. This brings us to our next question.
Why do I need capital?
Some first-time entrepreneurs believe that raising capital is simply part of the process of launching a new company; A goal in itself which is not correct. You should have a clear reason for requiring capital to expand your company. If you are successful and can expand without the help of outside money, that is something you should think about. Unfortunately, many early-stage entrepreneurs need funding because their company does not run on its own and must be subsidized. That is not a valid reason to desire capital. You should think about this issue carefully.
Make a financial model of your company to help you think about this. Even if they are often incorrect at this point, they are still useful tools for interpretation and thinking about various scenarios. It will also better prepare you to speak with an investor in specific terms.
What kind of business do I have, and what is my goal?
This question will assist you in determining the types of capital that are viable for your business (if at all). For example, if you open a coffee shop intending to be profitable and then operating it for years, you would not be able to obtain venture capital. However, you can need a small business loan to purchase more inventory or recruit more workers to stay open longer each day. However, if you start a company to bring satellite internet to Africa, you would almost certainly need and be able to access venture capital (if you have any business traction at all) due to the scale of the market and the potential outcomes of your business.
For all of this, there are no “official laws.” For example, Keventers Milkshakes began as a single shop but quickly decided that its goal was to become a large brand and scale rapidly. As a result, the market profile shifted from one that might be more appealing to a small business lender to one that would be appealing to a venture capitalist.
If you only remember one thing from this section, it should be that you should think about what types of capital are appropriate for your company based on its profile.
Do I have traction?
Traction may refer to a variety of different items depending on the industry. It could mean that you have enough income to underwrite a loan in a small business; in a venture business, it could mean that you have enough growth and consumer interaction to warrant an investment.
This is most likely the holy grail in terms of determining whether or not the company would be appealing to capital sources. There are obviously other variables at play depending on the type of capital you pursue, such as “market size” and personal relationships, but any smart investor would instinctively ask about traction.
As a general rule, if you don’t have any momentum and are a first-time founder, you should disregard the chapter title. There are three possible outcomes:
- “FFF”- You have wealthy relatives, friends, or know fools who will give you money.
- You will be bootstrapping before you gain traction.
- You have done almost the same thing in a larger organization and are regarded as an expert. In this scenario, you may be investible despite the lack of explicit momentum.
Are you willing to give up some decision-making authority? Or, are you willing to sell your business eventually?
There isn’t much else to be said about this subject. In certain ways, it’s self-explanatory. But here are a few things to consider. The amount of decision-making authority you’ll need to give up to secure investment is usually inversely proportional to your leverage- if you have a lot of momentum in a big market, you’ll probably have an advantage. If you don’t, you’ll likely be giving up a lot of leverage if someone invests in you at all. These particulars, such as decision-making authority, board positions, and so on, vary from fund to fund and often change depending on the stage of the investment.
Also, if you are unwilling to sell your business, you will not receive venture capital. The logic is straightforward. If you are unwilling to sell your business, the investor is relying on you to pay them a massive dividend of income that far outweighs the compensation profile of a later stage investment or the stock markets (to compensate for the increased risk). That is just not going to happen 99.9% of the time. Your failure chances are extremely high, and to compensate for the high risk of losing all of your investor’s capital, there must be the possibility of a huge return. In general, a liquidity event is the most common way for an early-stage business to accomplish this.
Carefully analyzing and answering the aforementioned questions can help you land on your answer of whether you should look to bootstrap or raise capital. There is no general thumb rule to that question. Simplify your business for yourself, and see what options you have, thereafter make an informed call.