When starting a business, you might think you need a big-time investor to infuse your startup with a large amount of capital. You may even have your “Shark Tank” pitch ready to go.
But for many new business owners, investor money is out of reach, as is traditional business financing like bank loans. Instead, many entrepreneurs have to bootstrap and use their own resources to build a business.
Bootstrapping is a way of providing your own financing for your business, requiring you to think creatively about your sources of funding, said Beth Goldstein, entrepreneurship professor at Babson College in Babson Park, MA.
If you’re thinking about self-financing a new business, we’ll give you an overview of what you need to know to bootstrap your startup.
What is bootstrapping?
The term bootstrapping comes from the expression that someone has pulled themselves up by their bootstraps, said Marilyn Pendergast, managing director and partner at UHY Advisors NY, Inc.
“Basically, bootstrapping means you’re going to do it on your own,” Pendergast said.
When starting a business, almost everyone has to rely somewhat on their own finances, Pendergast said. Many startups aren’t eligible for business loans because they lack financial history, and new entrepreneurs typically do not want to give away ownership to investors, she said. Bootstrapping then becomes the primary financing option.
“It gives you control and it gives you the ability to get started in a small way,” Pendergast said.
You can rely on your own savings, money from friends and family and maybe even crowdfunding to bootstrap your business, Goldstein said. Bootstrapping is commonly associated with startups, and most people do cobble together their own financing when first starting out, Goldstein said. But you can bootstrap anytime you need money throughout the life of your business.
Bootstrapping after the launch
There’s bootstrapping to get started, which typically involves using your own savings, and then there’s bootstrapping in the early days of the business. The idea then is to rely solely on business income without plowing through any more of your own funds.
Once your business is up and running, you can shift money within the operation so you’re able to save, such as asking vendors if you can delay payments or requesting that customers pay for products before delivery, Goldstein said. The key is making sure you can stockpile money without jeopardizing your company.
“This is all about cash flow,” she said. “You’ve got to make sure you’ve got enough money coming in to offset what’s going out.”
When bootstrapping a startup, you need to make sure you still earn enough income to support your lifestyle or family, Pendergast said.
“You have to have the ability to make sure you can earn enough to survive while the business is developing,” she said. “You have to have the appetite for that risk.”
To maintain financial stability while bootstrapping, you could work a full-time job and develop your own business in your free time, said Joseph Cabral, entrepreneurship professor at Louisiana State University. You could put money away over time until you’re ready to fully commit to your venture, he said.
“There’s a certain creative element to how you can make your decisions,” Cabral said.
Pros and cons of self-financing a business
For many startups, bootstrapping may be the only financing option to get the business off the ground. Here are some positive and negatives aspects of self-financing.
- Maintaining full ownership. Bootstrapping allows you to remain in complete control of your business, rather than giving a percentage of ownership to investors.
- Increasing your business savvy. When self-financing your venture, you’ll likely be on a tight budget, which can have the effect of imposing discipline. You’ll have to figure out how to run your business in a cost-effective manner.
- Improving your chances of getting a business loan later. Pouring your own resources into your business can increase your chances of being approved for a business loan in the future. The experience you would gain as the business becomes more established would also make you a more attractive borrower. Lenders prefer — and sometimes require — experienced business owners who have put their own equity into the company.
- Fully investing in your business. All the money you raise through bootstrapping can be put into your business. You don’t have to put money toward a loan payment or a return on investment.
- Risk of falling short. You may not be able to gather enough money to meet your needs, or you may not get it as quickly as you expected.
- Underestimating costs. If you don’t calculate the correct business costs, you may not save enough money, which could put your cash flow at risk.
- Missing out on valuable relationships. Although investors take away from your full ownership, they offer intangible benefits in addition to money, such as mentorship and business connections. You may miss out on helpful relationships when you bootstrap.
- Slow business growth. You probably won’t raise as much money through bootstrapping as you would if you brought on investors or took out a bank loan. Starting out with less money may inhibit how fast your business can grow.
4 steps to bootstrap your startup
1. Leverage your own expertise.
Starting a business that’s based on your existing knowledge could save you money, Cabral said. If you have a background in the industry, there may be tasks you can complete yourself rather than hiring outside help.
You would also have access to resources that you’d otherwise have to pay for, such as market research and insight, he said. Forming a business around your own knowledge would help your bootstrapping efforts and allow you to save more resources.
Free help. However, you could still seek outside advice without spending money. You could reach out to small business associations in your area, such as SCORE, the free mentoring program from the SBA. You could also search for an equity-free accelerator program near you that provides cash and guidance.
2. Project your cash flow and costs.
One of the first steps of bootstrapping is understanding how much you’ll need to get started, Goldstein said. You should project your monthly cash flow to see how much money you expect to spend compared with how much income you expect to generate.
Based on your goals for the business, you should understand how much it will cost you not only to get started but to continue operating the business, Pendergast said. All business owners need to be aware of their operating costs.
“No matter how you’re financing it, you need to have that in place,” she said.
3. Look for financial resources.
Once you’ve figured out your overall costs, it’s easier to gather the money you need, Goldstein said. If your savings won’t cut it, you can look within your personal network for sources of funding.
Friends and family may be willing to put money into your business. If you’ve already hired employees, you could see if they know someone who would want to contribute, Goldstein said.
If you do accept financial help from family and friends, make sure everyone has the same expectations, Pendergast said. You need to know if you’re accepting a donation or a loan. If things don’t work out, you may end up harming your relationships, she said.
Beware of credit cards. Although it’s ideal to rely on money you have on hand, many entrepreneurs don’t have the luxury of personal wealth or affluent family and friends and ultimately turn to credit cards, Cabral said. Credit cards are a form of debt financing and could restrict your ability to grow. Instead of putting your earnings into the business, you would have to divert those dollars toward interest payments on an outstanding card balance, he said.
“So even when things are going well, you could have painted yourself into a corner,” Cabral said. “It could really inhibit the early years of development.”
4. Decide how to spend the money.
Figuring out the best use of your money is a crucial part of bootstrapping, Cabral said. Once you’ve gathered funding, you should be smart about where you put it.
For example, working out of a co-working space rather than renting an office may be ideal while your business gains traction, Cabral said. It may also be worthwhile to rent machinery or vehicles instead of purchasing them outright. Big box stores like Home Depot offer tool rental programs that would allow you to access expensive tools without spending the cash to buy them, he said.
“Early on when you’re starting you likely will have inconsistent demand for your products or services. The moment you purchase a building, truck, tools, you essentially have an asset with a bunch of idle capacity,” Cabral said. “By borrowing [or] sharing, you can incur expenses only as the asset is being used, allowing you to maintain cash.”
Contractors versus full-time workers. You may want to take advantage of the booming gig economy to save money. Instead of bringing on full-time employees, you could hire contractors for specific needs like website coding or photography, Cabral said. The entrepreneurial mindset is all about finding creative ways to get more from less, he said.
You should also continue operating with frugality in mind after bootstrapping. Continuing to make the most of your resources will help you manage your money going forward, he said.
“If you maintain that mindset, you’ll be more profitable down the road,” Cabral said.
Is bootstrapping right for you?
If you’re able to finance a business yourself, you could avoid complications that may come from working with investors or getting into debt. If you have substantial personal savings and you’re not burdened by existing debt such as student loans, you’d be in a good position to bootstrap a business, Pendergast said.
“If you know you definitely want to do this and you have some time to prepare, then you can [bootstrap],” she said.
But you need to be comfortable with the risks involved, Pendergast said. You stand to lose your personal funds if you can’t recoup your investment or the business fails. However, being willing to take risks is inherent to running a business, she said.
“Some people have that attitude and others don’t,” Pendergast said. “If you don’t, it’s going to make it very difficult to be an entrepreneur, no matter how you’re financing it.”
If you’d like to bring on investors, bootstrapping the startup phase of the business could buy you time to make your business more attractive, Cabral said. Investors are typically not interested in startups because they won’t generate a return on their investment fast enough, he said. Relying on your own funds to establish the business would allow you to approach investors at a later time.
“At least you would get some sort of initial traction,” he said.
Not only would investors be more attracted to a stable business, but banks would also be more willing to lend to you as well, Cabral said. You would be able to negotiate better terms on a business loan as an established business than you would as a startup.
Bootstrapping could make you more knowledgeable as a business owner as well, Goldstein said. When first starting out, it’s important for you to fully grasp the financial aspects of your business, and bootstrapping helps you understand how much you need to spend to be successful.
“I’ve seen people operate their business more efficiently and effectively when they’ve had to bootstrap,” Goldstein said. “I think bootstrapping, quite honestly, is the way for most businesses to go.”
This article originally appeared on LendingTree.com and was syndicated by MediaFeed.org.
Featured Image Credit: Depositphotos.