The Entrepreneur’s Dilemma: Bootstrapping Versus Venture Capital
The first steps are easy. Brainstorm diligently, think of a clever idea, put together a talented team of people who believe in your idea, and…
The first steps are easy. Brainstorm diligently, think of a clever idea, put together a talented team of people who believe in your idea, and get to work. But then entrepreneurship gets complicated: where can you find the money to turn your idea into reality?
Now, prospective entrepreneurs have several different, intriguing options for funding. As previously discussed on Fueled, new websites, including Kickstarter and FundaGeek, help entrepreneurs get funding from anonymous strangers. Many companies and organizations offer fellowships and grants for the most promising ideas. But, although these new sources of funding are propping up, there remain two primary ways for entrepreneurs to get funding: bootstrapping and venture capital. Which one do you choose?
Bootstrapping: Creative Freedom at High Personal Cost
When entrepreneurs choose to bootstrap, they commit to pursuing their project without external help. Essentially, individuals or teams pool their own money together and find enough to pursue their idea without having to find an external backer and sell a large equity stake in their product. This option intrinsically appeals to many startup teams because there is a certain “go it alone” feel to it that is exhilarating and, if they succeed in creating a commercially viable product, the rewards are huge.
But bootstrapping is often challenging and has important strategic drawbacks. It is challenging for several important reasons: finding enough money is difficult, pooling personal funds can tax individual team members financially, and entrepreneurs often underestimate the amount of money needed to independently pursue their projects. Depending on the idea, startup projects can be particularly expensive and often incur new, unforeseen costs. That is particularly true of technological ideas, which are currently in vogue but require exploratory costs (to pay experts to determine if the idea is feasible) and initial product development costs. Even if a team proves the idea is feasible, they often need to build a working model or prototype to prove that to investors, which can sometimes add thousands of dollars to startup expenses.
There are also strategic challenges to bootstrapping: not all startup groups have product development, marketing, or networking expertise on the team. So, when they choose to go it alone, they are not only risking their own money and the prospect of running out of funds, they may be losing out on the critical resources that angel investor or venture capital backers have and that could prove pivotal to making their ideas a reality.
Venture Capital: Well-Connected Cash with Hidden Demands
Seeking venture capital support, angel funding, and investors makes sense for some startup teams, but all entrepreneurs must think carefully before pursuing this path. If an idea is unique and commercially viable, entrepreneurs will often be able to secure investor backing, which minimizes their own financial exposure and provides the funds necessary to create a working product. Such backers often have connections and networks as well, which is often pivotal to getting the launch product to a wide variety of consumers. After all, if you create a great product but no one can find it, how far can you go?
But finding venture capital and investing backers is not a universal panacea; it is hardly the right answer for every project. Venture capitalists know they have leverage over prospective entrepreneurs and will wring out large concessions for their financial support. Entrepreneurs often lose majority equity share of their ideas even before they turn them into products! Many venture capitalists also use that leverage to get involved in the creative process, which reduces the entrepreneur’s ability to mold their product. Anyone who has seen the show Shark Tank on ABC understands this concept; funds are critical but external money often comes with a price.
Making the Decision
So, where does that leave entrepreneurs? Should they bootstrap or seek venture capital funding? Ultimately, it depends on the entrepreneur’s own experience and style, the scale of their project, and their capital requirements. If the startup team is experienced, particularly if they have experienced collective success or individual team members have created viable products in the past, bootstrapping can be viable. If team members are wealthy, then using personal finances to back the project is less concerning financially. If the project is smaller in scale, then bootstrapping is often the better idea: there is less of a financial burden and the team keeps the (presumably more modest) potential payoff for themselves. So, if a project is small and run by an experienced startup team, then bootstrapping is almost always the best answer. If it is larger in scope and the team is inexperienced, then venture capital and investor support will likely be necessary.
Projects run by experienced entrepreneurial teams that are large in scope and need significant funding fall into a distinctly grey area. Sometimes, individual team members will have the financial flexibility to be their own venture capitalists. Others will use their experience and credibility to secure venture backing while giving up less equity stake and creative control. Perhaps the best answer is: every project begins as an idea and startup teams will need to work for free and bootstrap to the point where they can determine viability. At that point, if it is, teams need to determine the cost to move forward, their own resources, and whether they will need significantly more funds than what they have available to turn their idea into a working, marketable product.
Ultimately, whether you choose the bootstrapping or venture capital route, success is very possible. How you get there is up to you.
Photo credit: Forbes Magazine