2018 was a big year for venture capital.
In 2018, venture capitals (VCs) invested $254 billion in 18,000 startups, increasing by 46% from the $174 billion that was raised in 2017.
Yet, in this system where so many investors seem to want to provide the money to turn your big idea into reality, many people still prefer to navigate through the bootstrapping waters.
This article won’t be like the typical Twitter thread you may have already read where one path or the other is criticized as if it was a Burger King vs. McDonald’s argument—a childish, never-ending battle of people criticizing the other path while they haven’t even tried it.
We’ll instead approach the argument with an understanding that either way can be used, and it completely depends on the business’ and founders’ objectives.
Bootstrapping vs. venture capital funding
There are thousands of glamorous cases where startups’ growth and achievement of objectives were accelerated by fundraising. There are likewise thousands of fascinating cases where bootstrapped startup founders achieved unicorn status getting financed by no one but their parents. For every one of these success stories, whether by bootstrapped or VC-funded businesses, there are other cases that ended up with failure-related outcomes, if not shut down completely.
The point is, stories of failure can be found on both paths, so the path itself is not a great measure of whether one way or the other is better. It’s not a competition, no matter how many people seem to make it out that way. Rather, it’s a matter of finding out which path is better for each startup idea and for each founder.
The best way to determine which startup funding method is right for you is to analyze the benefits and drawbacks of each. Then you can reflect on how you will start financing your business.
Benefits of bootstrapping
Turning down VC money comes with more than just an adrenaline rush. Read up on the benefits of bootstrapping below.
Freedom
One of the main advantages of bootstrapping is not diluting ownership in your company.
Even if you have one or two co-founders, you may have more of a percentage of ownership than founders who go over many series of fundraising. This can also mean that the shares owned by the founders of a small, bootstrapped startup are worth more than the shares of a large, VC-backed startups’ founders.
The complete ownership that founders have over their bootstrapped startups allows them to fully dictate the management and future of their companies, achieving what people call a “lifestyle business”.
VCs have their own motivations, goals, and interests – and because of the money they’ve invested, they will be in a strong position to tell you what to do and how. Their interests might be different from yours, so there may be a clash of ideas. There is a chance you won’t feel as free as you aimed to be when you left your full-time job and founded your startup due to your autocratic bosses.
Freedom: the power or right to act, speak, or think as one wants. That’s what bootstrapping is about in the business sphere.
Focus on product and customers
Bootstrapped startup founders can spend 100% of their time creating a great product that customers love, and growing the business itself. VC-backed startup founders, instead, need to split their time between working on their actual business and impressing, updating, negotiating with, and meeting with investors.
Focusing all your time in the business means you are much more connected with what’s going on and with your customers. This can lead to better decisions and longer user retention.
At the early stages of a startup, moreover, a sole focus on the business and customers can mean reaching an ideal product-market fit faster, validating the idea, before getting tied to a product that’s doomed to fail.
Profit-driven
A lot of media and thought leaders have lately been criticizing a common concept among VCs: they seem to focus completely on growth and making things happen faster while completely ignoring business profits.
With companies like Lyft that are making millions of dollars per quarter in losses, this approach towards financing startup activity has been condemned across all channels. As skepticism snowballs, it will surely have effects on future startups raising money.
Cashflow is king, and it’s the number one thing you need to control when starting a business. The bootstrapping path forces founders to be completely conservative with their money and always consider business profits. While VCs demand you find a way to spend all of the money they provide you with, bootstrapping forces you to focus on how to make that money.
On the flip side, it’s no secret that a big percentage of VC money is allocated to carrying out acquisitions. Since 2013, Lyft has acquired 10 companies. Some of these were operating at a loss or were shut down months after being acquired. Profits were never taken into consideration by Lyft’s investors when allowing the company to buy these other companies with their money.
In the case of bootstrapped startups, while the acquisition of other firms can be quite difficult as the amount of money readily available is much less, all investments are made with careful consideration of how much time will it take the business to get the money back.
Spend wisely
Nowadays, the cost of starting a business is relatively low (depending on the industry, of course).
Building a successful business now depends much more on innovation, discipline, and capable management rather than on having large sums of money to invest. If you have $41 to spend on a domain and web host and use free no-code development tools, you are able to build a business that could eventually make thousands per year.
There’s a lot of free stuff out there. If you have zero knowledge about businesses, there’s a ton of great free content. If you have little to no money to invest, there are lots of free tools that can help you to at least validate your idea and make your first bucks, if not completely build your business.
VCs, as stated above, incentivize founders to spend the money they offer to achieve growth. Large proportions of this money won’t be spent wisely. When bootstrapping, instead, you have no other option than carefully controlling every dollar spent.
Drawbacks of bootstrapping
Other than simply having less money to throw around, what are the other drawbacks of bootstrapping?
Little money to reinvest
The bootstrapping path means you need to use your personal savings and resources or debt capital to start your business. As the startups begin to grow in terms of revenue and profits, you’ll have higher amounts of retained earnings.
However, the profits you retain will never be as much as the amounts VCs can provide you with. This will mean you don’t have large funds to re-invest in new employees, acquisitions, or new products, among other expenditures you can allow yourself when you are a VC-backed startup founder.
Little money to re-invest is the core drawback of bootstrapping and it is related to all the other disadvantages mentioned below. Money is what hides, in some way, behind anything in life.
Slow growth
Bootstrapped businesses have little money to re-invest in research and development or hiring employees, compared to VC-backed companies who can achieve faster production processes, use expensive technology, and acquire other firms. There is no doubt that the growth of your bootstrapped business will be much slower than if you had opted for the VC path.
Without VC money you will also be limited in terms of visibility. Marketing strategies become viral campaigns if quick results need to be achieved, or inbound if long-term objectives are set. Few paid advertisements can be made until retained earnings increase.
Additionally, hiring a staff turns out to be impossible for some period of time. If you’re not co-founding your startup with other entrepreneurs specialized in different areas (marketing, development, design, operations, human resources, etc.), the growth of your business could also be backstabbed by the mistakes you’ll make and obstacles you’ll face.
Competition
Competition can be a huge drawback for bootstrap startups in two scenarios. The first is when launching a new business in a competitive market (or a market that is about to become competitive). There are some industries that are dominated by big VC-backed brands and it’s impossible to get into them, let alone without any VC money.
According to Brennan White, founder of Cortex, “If you’re in a space where the first to market will have a massive moat that will be hard to compete against, raising funds will be necessary for success.”
The second scenario is when you already have a solid bootstrapped business that’s steadily growing and is making profits, but competitors start raising funds or a new VC-backed firm appears in the market.
In such cases, there probably won’t be many other possibilities other than considering raising your first round. Competitors will otherwise beat you in terms of features and costs, and this can eventually lead to them stealing all of your customers.
Connections and help
Sometimes it’s not what you know, but who you know. Cash is only one of the benefits of VCs. Another is getting connections and expert help that can lead to valuable partnerships, increasing visibility, and achieving key markets.
However, strategic connections with all kinds of people may be facilitated. They play a crucial role in the success or failure of companies.
Personal risk
Ninety percent of startups fail. That’s a stat you need to consider even before starting a business. When bootstrapping, this means you have a 90% chance of losing all the money you put into starting the company. When going the VC way, the money is from others and you have nothing to really worry about.
There are an infinite number of reasons why startups may fail and no matter how experienced, skilled, and persistent you are, you still have high chances of being forced to shut down your company and lose everything.
So, are you really achieving freedom by bootstrapping? Freedom is achieved by having the complete power of decision over what to do with your business. However, spending hours a day figuring out how to achieve profitability knowing that there is a high chance that you will fail and lose all the money you’ve invested in the company feels far from being free.
However, the freedom you achieve can be augmented if you consider that bootstrapping can lead to forcing yourself to work for longer shifts while continuously thinking about how you are going to become profitable. How many bootstrapped founders have spent a whole night or weekend glaring at their accounts and waiting for a customer payment to arrive? That’s hardly freedom, at least in a personal sense.
Benefits of VC funding
So, you’ve chosen the VC route. Here are some of the benefits you can look forward to:
Faster growth
VCs’ main objective after investing in a startup is to make it grow as fast as possible so that they can get their investment back in a short period of time.
With VC money, founders can spend on launching new products or features, hiring experienced and skillful staff, acquiring the newest technology, etc. without really worrying about revenue and profits. The mantra is getting big fast, no matter the cost.
Getting big fast, however, generally involves a huge business idea that has a big potential market. In these cases, VCs are the best way to go. Why? Because building something innovative requires a ton of capital.
Trace Cohen, a seed investor from New York Venture Partners, claims, “We want to see your plan to generate $50 million in five years— that means you’ve become a player in your industry, you have amazing customers and figured something out. Anything less than that isn’t worth our time”.
Extra credibility
Every time you hear that X startup has raised Y amount of money, you feel a little bit more trust in that business. People tend to think, “If investors have given them their money, why wouldn’t I?” Their products and features become more trendy.
For example, let’s say you were considering unsubscribing to a SaaS product you’ve been using for the past two years because it lacked some important features you might require later on. However, the SaaS company has recently received a huge investment which encouraged you to keep using it. The money invested will mean new features, better user experience, and greater customer support, so it’s not worth it to move away.
Expert help
As we explained above, money is only one of the resources provided by VCs. Another super important one is expert help and advice.
VCs tend to have lots of contacts that can lead to new staff, fruitful partnerships, and more customers, among other benefits. When bootstrapping, you need to rely on your own contacts and network, which can sometimes not be enough.
There are lots of cases where one specific email, call, or meeting with a VC leads to a new idea, a pivot, or a sale that then results in turning the startup into a success.
Less personal risk
Bootstrapping involves a risk of losing all the money you invested (which can sometimes be all of your or your family’s savings or money raised through crowdfunding). If you go the VC path, this risk disappears. This provides some people with more freedom and peace.
That is, of course, if VCs take equity in the startup, meaning the founder has no obligation to repay the money if the startup fails or shuts down. In the case of many bootstrappers who ask for a bank loan to start their business, the personal risk is huge as the money needs to be repaid plus interest.
Drawbacks of VC funding
Sometimes VC money can mean too much of a good thing. These are a few of the drawbacks of using VC funding to grow your startup.
- Misunderstandings
Keeping a great, strong relationship with investors is essential for every VC-backed startup. There are chances of future business funding rounds if founders take advantage of VCs’ connections and advice and continue to grow. On the other hand, some startups fail due to bad cash management after investors didn’t want to provide them with more funds.
However, as in every relationship, things don’t always go well. There might be some different opinions between the VCs and founders which can lead to clashes where each side wants to show how they are more powerful than the other.
Misunderstandings could always occur, but the key to avoiding them is clear and constant communication. A balance between a distant relationship and an overwhelming one needs to be found.
Loss of control
From the moment you give up some equity in your startup in exchange for cash, you lose the total control you had over the startup. Major decisions, from now on, will require consultation with the VC firm.
This loss of control is the main reason why many people are so against VCs. They equate having a VC firm to tell you what to do and what not to do to working at a company under a superior.
Some founders tend to start businesses with certain objectives in mind and with really specific purposes and goals for the future. In these cases, VC funding is probably not the best path to take as the VCs might have completely different visions, and trying to run your business can start to feel like a prison.
Less time on to spend on your business
Venture capitalists point out they receive about 1,000 proposals for every three or four companies they fund, according to Tarang Shah’s book “Venture Capitalists at Work.”
The amount of time it takes to get money from a VC is huge. It requires a tedious contact process, really long negotiations, never-ending meetings, the bureaucratic filing of legal documents, and other boring stuff. Filling in documents is one of the most boring parts of doing business, and that’s a good enough reason to want to avoid it.
Once the deal has been closed and the money is in your bank account, you still need to dedicate a lot of time to keeping up relationships with your VCs and keeping them updated on what’s going on in the business. This results in founders dividing their time in between fundraising and working on their business which can eventually ward off customers and lead to poor decision-making.
Less financial discipline
When you see such big numbers in your business bank account, it’s difficult to spend wisely. That’s why (and how) Adam Neumann, ex-CEO of WeWork, bought a private jet for $60 million with investors’ money.
VC-backed businesses tend to spend more money on the same things bootstrapped startups can achieve while spending much less. Expenses rise when VCs demand fast growth.
Apart from costs, profits tend to stop being the main priority in VC-funded startups. VCs encourage growth and then, only when a startup has a solid customer base, do they turn their focus on monetization and the business model.
Gender bias
Only 11.2% of the VC deals of 2019 went to a startup whose CEO was a woman. Even as women in VC-backed companies become more visible, this percentage is still shockingly low.
You can argue the number of men starting businesses in VC areas is bigger than the number of women, and that is probably true. Yet 11.2% vs 88.8% seems like a huge, discriminatory action from VCs, especially when women in business claim their main struggle is lack of capital.
Which path should I follow?
It’s now up to you to decide whether you go the bootstrapping or VC path with your startup. What you need to understand is that bootstrapping or VC funding are just two different ways of financing a business. Don’t look at VCs or angel investors as evil. Understand they are capital enablers for big business ideas. Don’t look at bootstrapping as a slow way of making things happen. Understand it allows you to build a lifestyle business.
Before bootstrapping your startup to success, make sure your personal finances are in order.
Also published on Medium.