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Bootstrap Financials in Startups

Bootstrap Financials in Startups

The nature of capital requirements of start-ups is different from more mature and established firms because start-ups lack operating and financial histories, collateral security and also, face a high risk of failure. These start-ups may be profitable or unprofitable in their early stages of operation. Even if they are profitable, the surplus cash which they generate is just insufficient to meet their capital requirements. Therefore, start-ups look for external sources of finance, be it bank finance or angel investment or venture capital.

” When the going gets tough; the tough gets going ” ~Ambuj Gupta

Though there are few government schemes which support start-ups to seek loan through banks, yet not all start-ups qualify to get loan under these schemes. While many start-ups remain unaware of such schemes, others may simply, find loan covenants and conditions to be very tough to comply with. Hence, many of them fall prey to such moneylenders which charge huge interest.

This leads to a situation when they have to do large debt service at the same time when start-up costs are very high and revenues are too low. Thus, insufficient amounts of capital coupled with huge amount of debt result into a weak initial financial structure which results in the form of poor operating performance, lack of viability and loss of many market opportunities.

The lure of seeking finance from angel investors or venture capital makes many start-ups rush to woo prospective investors and persuade them that they meet possibly all criteria of venture screening. However, what comes in between is the asymmetry of expectations as investors don’t buy hopes and dreams which start-ups intend to sell; information asymmetry and agency problems further add to these expectation gaps.

Start-ups need to understand that angel investors and venture capitalists remain very selective as they put their money at stake. They can back only a few of the many start-ups which seek funding, and not all.  Interestingly, the research also suggests that there is more external funding like venture capital available to start-ups in the latter stages as their businesses become more viable and start generating returns with large upside potential of scaling-up to deliver supernormal returns to these investors.

The purpose of this article is to bring the attention of startups to a possible and effective alternative to fulfill their capital requirements, which lies in the form of bootstrapping financials of start-ups itself. These techniques of financial bootstrapping can be understood as ‘the use of highly creative ways for meeting the need for resources without relying on long-term external finance from debt and/or equity’.

Financial bootstrapping is a resource management strategy, essential to the survival and growth of start-ups. What lies at the core of financial bootstrapping is the ability of an entrepreneur to think creatively about managing resources in such a way that delay the need and quantum of external funding. Therefore, bootstrapping involves imaginative and parsimonious strategies for planning and judicious use of all resources.

Many start-ups do begin with bootstrapping, however, lose track of it very soon and show dependency on outside capital. This article pin-point the kind of culture of professionalism which financial bootstrapping techniques can bring forward in start-ups making their lives much simple and easy going.

The techniques of financial bootstrapping draw out from professional practices of minimum inventory, zero waste, Just-in-time (JIT) system, Business Value Chain, Stakeholder Theory and so on. Bootstrapping can assist start-ups in building their own unique competence which helps them in not just the survival, even creating long term value in the business.

Table 1 lists techniques for bootstrapping financials of start-ups, which have been categorized in the following six categories:

Owner-related financing and resources

Most of the start-ups start this way only. They stretch their own resources. The 3Fs (founders, family and friends) come together so that the entrepreneurial idea can take-off to the next level.

Customer-related methods

These techniques are targeted towards improving the liquidity and cash position of the business. The focus remains on an aggressive payment collection strategy while maintaining good customer relations.

Delaying payments

These techniques suggest to look for alternative ways through which payments can be either avoided or delayed legitimately. These techniques work on a common philosophy that ‘saving money is like the money earned, the other way round’.

Because of delaying payments or avoiding payments, start-ups can manage with less working capital and cash. However, delaying payments shouldn’t overburden with any penalty or interest charge on start-ups and also, it should not harm relations with suppliers or other stakeholders.

Minimization of capital invested in stock

These techniques want start-ups to invest at the minimum level in stocks or inventory. This is possible either through efficiency in making sound estimates of stocks or through building effective collaborations with suppliers and fellow entrepreneurs. The whole idea of cutting down investment in stocks leads to improving returns on capital.

Joint-utilization of resources with other ventures

These techniques stresses on networking with other entrepreneurs, the like-minded people with whom the premises, the employees and/or even the equipment can be jointly utilized. A lot of local entrepreneurship organizations (like incubators, angel networks, business chapters, co-working spaces, etc.) host events and conferences where start-ups must participate and seek such networking/collaboration with other entrepreneurs.

Subsidy finance

These techniques are not about saving money but rather finding alternative ways of securing money; either through subsidies/grants/incentives or through winning in startups fests, etc. This requires a constant vigil and eye on new opportunities arriving outside the business. Start-up entrepreneurs must aware themselves with all government/bank/other schemes to take maximum benefits out of the same.

Table 1: Techniques for bootstrapping Financials
Owner-related financing and resources

  • Withholding owner’s/manager’s salary for shorter/longer periods
  • Using owner’s private credit card for business expenses
  • Obtaining money/saving money via owner’s/manager’s assignments in other businesses
  • Obtaining loans from family/relatives/friends
  • Employing family member/relative and/or friends at non-market salary or no remuneration basis
  • Running the business partially or completely in the home

 

Customer-related methods

  • Charging interest on overdue payments from customers
  • Speeding-up invoicing to customers
  • Offering selective credit conditions (liberal/strict) to customers
  • Offering customers discounts if paying cash or making payments early
  • Ceasing business relations with customers frequently paying late
  • Deliberately choosing customers who pay quickly
  • Taking payments in advance from customers (may be a condition to process orders)

 

Delaying payments

  • Deliberately delaying payment to supplier(s) without harming relations
  • Taking equipment/plant and machinery, etc. on lease instead of buying
  • Buying used equipment/plant and machinery, etc. instead of new
  • Deliberately delaying payment of tax, but not at the cost of penalty
  • Hiring temporary personnel instead of employing permanent personnel/employees

 

Minimization of capital invested in stock

  • Seeking out best conditions possible with supplier(s)
  • Minimizing capital invested in stock or inventory
  • Coordinating purchases with other businesses to optimize inventory levels
  • Buying on consignment from supplier(s)

 

Joint-utilization of resources with other ventures

  • Sharing equipment/plant and machinery, etc. with other businesses
  • Sharing employees with other businesses
  • Sharing premises with other businesses
  • Borrowing equipment from other businesses for shorter periods
Subsidy finance

  • Obtaining Subsidy from government
  • Raising money from factoring or discounting of bills receivables
  • Seeking Grant/incentives for innovation and/or sustainable business practices
  • Participating in startups fest to win prize money

 

Some of the tangible benefits and motivations from bootstrapping financials techniques are as follows:

  • Bootstrapping helps in gaining legitimacy and confidence in business
  • Bootstrapping boosts trust in family/relatives/friends
  • Bootstrapping lowers cost of operation
  • Bootstrapping fits well when there is a lack of capital
  • Bootstrapping reduces risk which otherwise, comes alongwith external sources of finance
  • Bootstrapping allows freedom of action because of no interference from new debt or equity
  • Bootstrapping makes start-ups free from exit planning for new investors, if taken on board
  • Bootstrapping protects from losing control to new equity
  • Bootstrapping tackles cashflow problems
  • Bootstrapping helps growing wisely
Figure 1: The Balancing Act
Figure 1: The Balancing Act

What author want to stress in this article is that bootstrapping financials should not be seen with short-sightedness. Start-ups should bootstrap as much as it retains them and other stakeholders in a comfort zone. In that journey of entrepreneurship, start-ups cannot afford to lose relations with multiple stakeholders. Entrepreneurs must keep that realization intact that the business built upon honesty and trust find better roots and take business to the long run. The Figure 1 named as ‘The Balancing Act’ further depicts the right balance which should be maintained while practicing bootstrap financials techniques. If practiced sincerely, bootstrapping has great potential to unlock long-term value creation in startups. Entrepreneurial training programmes on bootstrapping can also be organized for start-ups as bootstrapping approach can fill the financing gap created by abysmal access to external financing for start-ups. Entrepreneurs also need to practice bootstrapping as an art, a philosophy and a way of life.

Dr. Ambuj Gupta is Professor with Christ (Deemed to be University), Lavasa, Pune, India. He can be contacted at [email protected]

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