Bootstrapping: Meaning and its Advantages

Modern startup enterprises seem to be focused on the media hype. The focus of the entrepreneurs is to raise enough funds so that they become newsworthy. Once the name of the startup starts appearing in the news, it is considered to be worthy by everyone including other investors, employees, and even customers. Hence, many startup founders begin looking for investors much before they even appoint their team or begin their operations in any way.

However, that is not the only alternative. The concept of startups taking money from private investors in the early stages is a recent phenomenon. For a very long time, startup founders use to run the business with very limited capital. Nowadays, this practice is known as bootstrapping.

In this article, we will know more about bootstrapping and how it works.

What is Bootstrapping?

As mentioned above, bootstrapping is a mechanism to build a viable startup company without the help of external capital in the form of angel investors and venture capitalists. Bootstrapping is a mechanism wherein the business is built in a lean manner so that it can grow internally without the help of external capital.

In the recent past, only a handful of startup businesses have followed the bootstrapping path. This is because most startup founders believe that bootstrapping is a highly romanticized idea that is difficult to execute. They believe that the conception and execution of a business is a different task that should be executed by a different set of people as compared to financing a business. However, empirical data shows that monetary rewards are significant if an entrepreneur can successfully use the bootstrapping route. It is for this reason that many entrepreneurs still try taking this route.

Advantages of Bootstrapping

There are many investors who have a firm belief that bootstrapping is the best way to begin an enterprise. This is because bootstrapping offers certain very distinct advantages to the business. Some of these advantages have been listed below:

1. No Dilution of Ownership: The biggest advantage of bootstrapping is that there is no dilution of ownership. This is because when owners sell their shares at early stages, they have to do so at rock bottom valuations. However, when it comes to companies that use the bootstrapping method, they do not have to part with their equity. If this equity stays with the firm and the founders for a long time, they get a better return on their investments instead of giving the same return to angel investors. Founders of companies that have been bootstrapped have a much larger personal wealth even if their company has not achieved a billion-dollar valuation.

2. Company Can Set its Own Pace and Direction: The entire venture capital model is based on growth at breakneck speed. Venture capitalists want a very fast return on their investment. This is the reason that many startup founders want to stay away from venture capitalists.

   Many founders have witnessed perfectly good businesses being destroyed because of the artificial urgency created by the venture capitalists. Many founders want to have a slow and steady start. If the founders use the bootstrapping business model, then they have the freedom to grow at any pace that they see fit.

3. Control over Operations: Many venture capitalists and angel investors want to gain control over the business which has been built by the founders. They do so by obtaining veto rights and other mechanisms to control the day-to-day operations of the firm.

   Many founders want to maintain control over their product portfolio as well as the markets that they want to serve. Since obtaining funding generally means loss of control, entrepreneurs may deliberately refrain from obtaining funding. Many startup founders want to keep control of the company within their families as well. Hence, they often refrain from obtaining external funding.

4. Realistic Business Model: A lot of the startups in the modern world are based on unrealistic business models. This is the reason that they tend to drop in value after they have been listed on the public exchange. Over time, public investors have realized that a lot of these companies are just selling rose-tinted dreams to investors. They go on a cash-burning spree in order to capture the market and acquire more customers. However, when the time comes for the products to be competitive and generate positive cash flow, these companies often fail. The advantage of bootstrapping is that there is no external hand that is supporting capital misallocation being done by founders.

   A company can only become successful if it has a sustainable model which generates positive cash flow in the long run. This is a good thing since a self-correcting mechanism is in place and founders are continuously able to obtain feedback.

The bottom line is that most founders consider bootstrapping to be a thing of the past. The common belief is that professional funding is required to build and sustain a startup business. However, as we can see from the above points, bootstrapping does have its own advantages.