What is bootstrap financing?
Anyone who has started a business on a shoestring is adept at bootstrapping, or stretching resources both financial and otherwise as far as they can. But bootstrapping isn’t limited to the start-ups only. It’s a valid way for business owners to treat valuable resources at any stage of their business’ growth.
When you’re thinking about how to raise money, one of the first things you should consider is bootstrap financing, using your own money to get your business off the ground. This is one of the most popular forms of internal funding because it relies on your ability to utilize all your company’s resources to free additional capital to launch a venture, meet operational needs or expand your business. Bootstrap financing is a way to pull yourself up without the help of others. You are the one financing your growth by your current earnings and assets.
Primary types of funding (i.e sources)
- Internal (i.e., bootstrapping)
What makes Entrepreneurial finance different from Traditional finance?
Entrepreneurs lack of:
- history upon which to assess risk
- ability to compare against other firms when industry is new
- short term profit potential in the immediate future
- liquidity . . . CASH IS KING!!!
Various Methods of Bootstrap Financing
- Administrative overhead bootstrapping
- Space – Sharing office/working space. Use co-working spaces in order to cut on leasing cost.
- Furnishing and office equipment- In order to minimize of the cost of furnishing, organizations should try to make use of second-hand furniture which is much cheaper than brand new stock.
- Administrative cost- As a new organization, the available funds are usually in a limited amount and therefore measures should be put in place to ensure there is minimal wastage and highest utilization in regards to administration cost.
- Bootstrap Marketing
- Know your customers. Who are they, what their preferences are, and their purchasing trends to enable stock fast-moving products.
- Impact of the message is more important than the “volume” the number of messages.
- Remember your market space or niche and the benefits you bring, spend your marketing funds carefully.
- Remember that marketing is a process, not an event and should be carefully evaluated.
- Human resource bootstrapping
- Employee “stretching”. A stretch assignment is simply a project or task you take on that falls outside your typical duties and requires you to step outside your comfort zone and learn new skills.
- Using independent contractors to avoid cost to transfer the cost that may occur due unforeseen eventuality.
- Use of service contracts and engaging temporary employees.
- Using student interns.
- Equity compensation to employees.
- Paying with non-monetary benefits.
- Operations and inventory bootstrapping
- Making use of Business Process Outsourcing (BPO) where possible.
- Making Just-in-Time Inventory techniques to reduce the chances of holding dead stock.
- Ensuring that there is an effective cost accounting.
- Limit Product Scope. Start with fast moving items.
- Use of trade credits (TC).
- Making use of discounts and avoid the high cost of Trade Credits TC (interest rate and penalties)
- Having an aggressive method of liquidating accounts receivable, eg factoring of debtors to relive funds held by customers (accounts receivable), having an aggressive method of collecting debts etc.
- Acquiring goods against letter of credits.
- Making sure that your client makes advance payment when purchasing.
- Making policies where your customers pay in advance.
- Bootstrapping from financing activities
- Real estate; Land and building.
- Negotiate for repayment to pay with a longer period and to pay less installments in the initial years.
- Buy an asset whose value can appreciation within a short time hence increasing equity when capitalised. This can secure guarantee for credit supplies.
- Making use of tax incentives which arise due to purchase of an asset eg Industrial Building Deductions (IBD).
- Equipment suppliers; trade contracts. To avoid a bigger initial cash outlay when the business is young
If you spend a lot of money on equipment, you may find yourself without enough working capital to keep your business going in its first months. Instead of paying out cash for your equipment, you can purchase it with a loan from manufacturers; that is, you pay for the equipment over a period of time. In this way, equipment suppliers are a source of bootstrap financing.
Two types of credit contracts are commonly used to finance equipment purchases;
- The conditional sales contract, in which the purchaser does not acquire ownership of the equipment until it is fully paid for.
- The chattel-mortgage contract, in which the equipment becomes the property of the purchaser on delivery, but the seller holds a mortgage claim against it until the amount specified in the contract is paid.
There are many ways that a lease can be modified to increase your cash position. These modifications include:
- A down payment lower than 10 percent or no down payment at all.
- Maintenance costs that are built into the lease package, thereby reducing your working-capital expenses. If you needed employees or a repair person to do maintenance on purchased equipment, it would cost you more than if you had leased it.
- Assignment of all executory costs such as insurance, property taxes, etc. While this will initially increase your cash-flow, it will reduce the amount of taxable income the business generates.
- Extension of the lease term to cover the entire economic life of the property. Use of the property can be guaranteed for as long as you wish to use it.
- A purchase option, which can be added to the lease allowing you to buy the property after the lease period, has ended. A fixed purchase price can also be added to the option provisions.
- Lease payments that can be structured to accommodate seasonal variations in the business or tied to indexes that track interest to create an adjustable lease.
- You reduce the chances of injecting additional capital in the event that the machinery or equipment you are using becomes obsolete due to change in technology.
- Sale and lease back with an option to take ownership of the property after the lease period.
- Friends & Family
Sometimes it is easiest to raise capital from the people that know you best, and can vouch for your personal drive and skill set, much better than a stranger investor can. But, be clear with them upfront that they could lose all of their investment in a risky venture and not to invest more than they feel comfortable “gambling” with.
- Venture Debt
Similar to bank loans, there are loans from venture debt companies. These firms typically work best for financing securable technology asset purchases, with financial terms very similar to credit card debt.
- Angel Investors
If you can uncover them, there are plenty of rich individuals looking for the next big thing. The main problem is finding them.
- State Tax Credits & Programs
In the unlikely event your start-up is generating a profit, be sure to apply for any state tax credits that may be available for start-ups, to reduce your tax bills or offset salaries from new jobs created.
- Start-up-Investor Marketplaces
There are some great online sites that have created networking sites with start-ups on one side and angel investors on the other. Problem is getting your start-up found within the clutter of other start-ups.
- Small Business Loans
Working with the banks as a start-up is not usually advised, given how conservative the banks can be. But, some banks are more start-up friendly than others.
- Small Business Grants
Sometimes free grants are available if your start-up is helping to solve a bigger problem (e.g., healthcare, education).
- Free/Discounted Resources
Always keep your eye out for free or discounted resources for start-ups. Don’t pay for consulting, if you can get free mentorship from a peer. Don’t pay for rent, if you can access a free shared meeting place. Check out preferred vendor discounts for start-ups.
- Personal Assets
Tap into whatever cash resources you have access to, from your cash accounts, to credit cards to home equity loans to selling other investments. The less cash you raise from outsiders, the more your personal stake will be worth, especially during the “infancy” stage of your business when valuations will be at their lowest point.
Co-founders can be a great source of cash investment or sweat equity from people who believe enough in your product to work without a cash salary. Don’t think you need to build your start-up by yourself. Find others who share your dream and complement your skill sets.
- Cloud financing
This is straightforward process where one creates an account, and website forms to help you build a project description, establish fund-raising goals, and explain “perks” designed to entice people to contribute at various levels. However, the people contributing do not have stake in the venture.
Merits of using the various methods of bootstrap financing
- Your business will be worth more because less money has been borrowed, and therefore, no equity positions had to be relinquished.
- You won’t have to pay the high interest on borrowed money.
- Coming from a stronger position (with less debt on hand), you look more desirable to external lenders and investors when the time does come to raise money through these routes.
- You can be creative in finding ways to raise profits, without having to look to external sources. It will give you the added confidence in of operating the business.
Bootstrap financing really begins and ends with your attention to careful management of your financial resources. Be aware of what you spend and keep your overhead low. Make sure you can justify the expense that you incur. Don’t choose an over expensive office or location unless it’s really going to pay off in increased sales. Consider buying second-hand furniture if it works for your office, barter for goods and services when appropriate and buy on promotion, to take advantage of better prices offered for a limited time.
About the Author
Thank you for reading this article. The author, James Ndambiri is an avid Business Advisor and Consultant: A Tax Surgeon, Proficient Accountant, Skilled Auditor, a Guru in Financial and Investment management, Expert in Business Strategy Formulation, Business Transformation Wizard, Family Business Advisor, Lecturer, Business Coach and a Family Man.
James is the Founder, Team Leader, CEO & Managing Partner of MNC Consulting Group. MNC Consulting Group is your most trusted and respected professional business consulting firm recognized by our clients for delivering excellent business advisory and consulting services that create value to their ventures. With our focus set on value addition, we offer our clients the highest quality professional services in Accounting, Audit and assurance, Tax, Business Transformation, Investments and Financial Advisory, Family Business Advisory, Company Secretarial Services and Property Management that addresses their business needs through attracting, recruiting and retaining knowledgeable and passionate professionals who enable us to deliver superior results while contributing positively to the community in which we live and work.
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