Making the leap to the bootstrapping lifestyle

One of the first rules of bootstrapping is to hang on to other sources of income for as long as possible. In other words, keep your day job! You might have to design your website during lunch breaks or work past midnight to prepare customer orders for shipping. Although keeping a regular job while starting a business can mean a grueling schedule, it provides you with much-needed financial security in the early stages of building your company.

Try something between maintaining a full-time job and starting a business. Many entrepreneurs worked part-time jobs at night so that they could dedicate themselves to their new businesses during the day.

If you’re the all-or-nothing type, perhaps you want to throw yourself completely into the business. Or maybe you’re confident enough in your idea that you just know success (cash!) will materialize. However, you should still plan for alternative sources of income. Look for freelance work, short-term consulting jobs, or whatever else it takes to keep money coming in while building your business.

Saving money to make money

Making sure that cash is coming into your business is only your first step. Learning to conserve your cash is the second rule of bootstrapping. Controlling the outflow of money, or how that money is used, is quite important.

Here are some ways that any good bootstrapper can conserve cash:

• Become frugal. Spend only when absolutely necessary, and then buy on the cheap. Rather than buy brand-new office furniture, for example, find what you need by shopping garage sales, thrift stores, and eBay.
• Budget wisely. Create a financial plan that helps you track income, expenses, and projected sales. By monitoring the money you have coming in and going out every day, you’re less likely to get into trouble. Book 2 shows you how to establish this type of budget and set up your accounting procedures.
• Use other people’s money. Rather than borrow money from banks or investors, “borrow” money from your suppliers and customers. You can negotiate terms with vendors that allow you to pay for supplies 30, 60, or 90 days out (in other words, after you receive them). Then ask customers to pay for your product or services up front or in net 15 days. This strategy lets you use your customer’s money, rather than cash out of your pocket, to pay your expenses.
• Sacrifice for the business. The cash coming into your business should be just that — money for your business. If you’re using revenues to support your personal lifestyle, the business doesn’t stand a chance. Bootstrappers commonly forfeit luxuries and even downgrade their living circumstances while growing a company. Could you live in a smaller house for a while or drive a less expensive car?
• Inspire, don’t hire. The early stages of building your company can be overwhelming, with lots of hats for you to wear. Rather than hire full-time employees, inspire others to work with you gratis (for free). Not everyone wants or needs immediate compensation, so sell people on your skills as a leader and get them excited about where your company is headed. College interns are a good source of free or inexpensive labor for your business. When the economy is weak and jobs are scarce, even out-of-work professionals are willing to accept internships in an effort to improve or expand their marketable skills. The promise of a job (after you’re on more stable financial ground) may be enough to get someone working 5 or 6 hours a week right now. Some individuals are also willing to work for free, in return for a recommendation from your company. For example, a lot of people design complementary websites in exchange for using those websites as client referrals. By seeking out this type of synergistic swap, you can avoid hiring employees in the beginning.
• Find a mentor. Hiring a consultant can break the bank before you even open your doors for business. Mentoring is an alternative way to get advice from established professionals that costs you absolutely nothing. These experts probably won’t do the work for you, but they can advise you on critical decisions, introduce you to other professionals and suppliers, and sometimes even help you find your first customers. People are generous with their time, especially when you ask them to share their personal expertise with you.

Getting resourceful

In addition to locating experts or finding cash, you need to identify other means of getting what you need. Check out these resourceful alternatives to help you jump-start your online business:

• Barter and trade: One way to keep a lid on your spending and still acquire supplies and services is to trade with other companies. Rather than pay a professional to write copy for your web pages, for example, barter with a writer for her service. Barter, or trade, is a method of paying for products or services without using cash. When you barter, you exchange your services or products for those of another person (or company). This method of conducting business has become so popular that you can now join formal barter-exchange organizations, such as Southern Barter Exchange. Membership is usually free. You can find barter organizations online that serve your specific state or region or find one that has a national reach.

  The Internal Revenue Service (IRS) doesn’t mind bartering, as long as you record on your taxes whatever you receive as income. Any transaction involving the exchange of a product or service that doesn’t involve cash changing hands is considered “barter” by the IRS. The IRS has guidelines and reporting requirements for individuals and formal barter exchanges. For example, barter amounts should appear as income for both parties when you complete Form 1099. You can read the complete guidelines for how to report bartering as income on the IRS website (www.irs.gov).

• Try out trial versions before you buy. When you stock up on necessary software for your online business, don’t rush to buy expensive off-the-shelf products, which can cost several hundred dollars. Instead, use free demonstration (demo) versions that are good for a specified period. Eventually these free trials run out of time, so budget accordingly if you anticipate needing to make a more permanent software purchase.
• Use free tools. Lots of free business-related software (called freeware or open-source software) and free or almost-free applications are accessible over the Internet. Independent software developers and small companies typically offer software applications, graphics, games, and developer tools at no cost to you, and with no strings attached. Other apps cost just a few dollars. And even if you don’t find a recognizable brand-name product, you might find one that has similar features. Be aware that freeware and free business apps may have no technical support or very limited support. If you are using open-source software, there is usually a community of developers on forums who help answer questions, but it is not support in the traditional sense of the term.

If you find a software solution you really like, but there’s not a free version publicly available, consider contacting the company directly. Sometimes you can get a 2-week or 30-day trial with all features enabled if you ask for it!

Looking at the pros and cons of bootstrapping

Bootstrapping may sound like you’re flying by the seat of your pants (or your boots), but it’s quite the opposite. It requires adopting a rigorous thought process that includes detailed and innovative planning.

Although bootstrapping may seem painful, consider the alternative of bringing in other investors or borrowing money. Is it worth the sacrifice? Take a look at how a bootstrapping approach can affect your business now and down the road, and then decide for yourself:

• You retain ownership. Keeping full ownership or controlling interest of the business is one of the most important benefits of bootstrapping. You get to make all the decisions, without having to run them by investors or shareholders or even lenders first. You also choose how and when the company grows. And if you need to bring in capital (money) down the road by selling shares of your company, you don’t jeopardize your control. You can sell off a minority interest and maintain controlling interest.
• You can make quick decisions. Typically, you don’t have layers of departments or managers in a bootstrapper organization. You can make decisions without getting bogged down by bureaucratic red tape. The ability to make agile decisions is an important advantage over competitors, especially when you’re heavily into the research-and-development (R&D) process. Your organization can offer new products or make other changes much faster than many of your competitors can.
• You assume minimal risk. Without putting much money on the line, your risk (or what you can afford to lose) is greatly reduced. You also have the most to gain because your investment and your risk factor are small. This motivating aspect can spur you to success.
• You maintain a cash-is-king mindset: Being frugal pays off now and later. Initially, your conservative decisions will assist you in building a positive cash flow for your business. As a bootstrapper, you’ll tend to hold on to those same decision-making philosophies in an effort to maintain your cash reserves as the company expands. This mindset may help to keep your online business debt free.

Turning to your friends and family

You’re probably familiar with the idea of turning to your friends and family (F&F) network for start-up funds. A major advantage of this strategy is that you have a lot of flexibility in how you structure the terms of the agreement.

The simplest method is to simply ask for a loan. You need a certain amount of cash, and your mom or best friend is happy to oblige. As a bonus, the interest amount on the loan is usually minimal or nonexistent, and the time for repaying the money is often more flexible — not a bad deal.

An alternative is to take on your friends and family as investors. In other words, you give up a percentage of shares or stock in the business for the amount of money they agree to provide. On the upside, you don’t repay that money. However, if you no longer want those people to own a piece of your business, you have to buy back their stock to get rid of them.

Websites that offer free or low-cost legal documents, such as Nolo.com (www.nolo.com), sometimes offer promissory note templates or other sample loan agreement documents that you can use to define lending terms when borrowing money from friends and family.

Here are some advantages of acquiring investors from your F&F network:

• You can easily obtain the money. You have an established circle of friends and family members who already know and trust you. Sometimes, you don’t even have to sell them on your business idea — let alone show them your business plan. They just want to help you.
• You can get cash quickly. Unlike going to a bank or venture capitalist, you don’t have to jump through any lending hoops or participate in a series of drawn-out meetings. Friends and family may be able to get their hands on cash quickly and hand it over to you sooner.
• You have a potentially large pool of investors. You can easily find small amounts of money from lots of different sources. If you need $50,000, you can get 10 friends to contribute $10,000 each rather than try to find one person who can contribute the entire amount.

This method has a few disadvantages too, of course:

• You can have problems with unstructured terms. Because you know each other, you tend to keep things informal. That opens the door to uncertainty and inconsistency and big misunderstandings. Be wary of taking on friends and family members as investors without structured, written agreements that clearly define the terms of their investments in your company or the payback terms of your loan.
• You may give up too much stock. You want to gratefully reward those who take a chance on you, especially when you’re close to them. For that same reason, however, you can end up giving away too much interest in your company. Or if you turn to a large group of friends to invest, you may have to ante up a large block of stock for a small amount of cash. This uneven exchange can put you in a precarious position as the company grows.
• The business can interfere with relationships. Taking on your most trusted circle of friends or family as investors can lead to heated disagreements, hurt feelings, and your fair share of misunderstandings. Damage to these friendships or to relationships with family members isn’t easy to repair.

Finding angels

If the uncertainty and lack of structure of the F&F network bothers you, turning to an angel may be more appealing. An angel investor can be an individual investor or a group of investors who are willing to put money into start-up or young companies.

Several important differences separate angels from other types of investors. Angels usually bridge the funding gap. Raising more than $100,000 or $200,000 from friends and family is tough, yet a venture capitalist usually isn’t interested in investing less than a million dollars, especially in a company without a track record. An angel meets midlevel funding needs.

Another important difference is that an angel investor typically doesn’t take an active role in a company. An angel wants to provide capital, not run the business, although that person sometimes becomes a member of an advisory board or board of directors. (We discuss the board of directors as part of your formal business structure in Book 2.) In addition to taking this hands-off approach toward your business, an angel is less likely to demand an immediate return on an investment. Whereas your father-in-law may expect to recoup his money in a couple of years, an angel’s target return may be 5 years.

This network of investors has become more careful and savvy, performing due diligence and examining every aspect of proposed businesses. As with any type of investor, angels invest in businesses they believe will give them a good return on their money. For that reason, angels are influenced by fluctuations in business trends, or what’s considered hot at a given time. One year it could be something as general as social media networks (like Snapchat and LinkedIn) and the next year it could be mobile apps for the healthcare industry. Regardless what types of businesses are popular investment targets, generally angels are more willing to take risks on new, unproven businesses. But keep in mind that the overall requirements for investing are increasingly the same as those used by venture capitalists (as outlined in the next section).

A hands-off approach to long-term lending sounds great, right? It’s not all roses, though. Among the negative factors in seeking money from angels is that they often require a larger stake in a business. Having a higher percentage of ownership in a company offsets their risk. When the return on investment comes, it equates to a significant amount of money for your angels. Also, acquiring money from angel networks is getting tougher. Increasingly, angels are using the same or similar funding guidelines as those of venture capitalists. Angels expect you to have a polished business plan, an experienced management team, and an exit strategy (a way for the angels to recoup their initial investment and then some).

If the negative side of working with an angel doesn’t bother you, how do you locate one? Examine your own network of colleagues, friends, and family — ask if they have any contacts that might be interested. If that strategy doesn’t provide any leads, search for angels at the regional or national level. Here are some places to begin your search:

• Chamber of Commerce or other local business-support organizations
• Professional associations (local and statewide) focused on technology
• Your accountant, banker, or attorney (who often works with or knows angels)
• Investment clubs

Online resources for angel networks and entrepreneurs include

• Go4Funding: www.go4funding.com
• Investors Circle: www.investorscircle.net
• National Network of Angels Investors: www.nationalnetworkofangelinvestors.com
• KillerStartUps: www.killerstartups.com

Venturing into the world of venture capital

Venture capital (VC) funding isn’t the easiest route for securing money for your business. Maybe you remember the stories of the dot-com era when millions of dollars were thrown haphazardly into Internet start-ups. Well, in spite of that bursting bubble, venture capitalists are still out in force; getting their money, however, is much more difficult now.

To be honest, we don’t recommend even considering venture capital as a resource for a brand-new company. This type of funding is designed for businesses that need an aggressive (or very large) amount of money to support the next level of business growth. Venture capitalists are institutional investors (professionally managed funds) that invest anywhere from $500,000 to $10 million or more in a company. Most often, this investment is made in preparation for an initial public offering (IPO) on the stock market, a sale, or a merger with another company.

Suppose that you’re thinking big and are intrigued by venture capital as a funding source. How do you know whether your company is ready to pursue VC money? Although the funding criteria vary among venture capitalists, most of them generally expect the following from your company (and you):

• The company has already used seed money. Your company is long past the point of obtaining money from friends and family as part of its start-up stage. Seeking money from a venture capitalist means that you have already received additional rounds of financing from angel investors and are now ready for a more substantial investment boost.
• The company has a proven track record. Establishing a history of success is a necessity for venture funding. Investors expect your company to have experience under its belt and proof of the underlying business concept. Having an offline (bricks-and-mortar) business that has verifiable financial records greatly increases your success of finding funding.
• An experienced management team is in place. Being the sole employee of a company isn’t a good thing when you’re seeking venture capital. Instead, you must have a seasoned team of executives with the experience to take your company to the next level.
• The company is in a hot industry. Venture capitalists invest in more than a company — they invest in an industry. And some industries or markets are hotter than others at any given time. Your business doesn’t have to be in the top three industries of interest, although it certainly improves your chances for funding.
• The company is in a high-growth stage. Securing venture capital means that your company is no longer in an early growth stage. It’s now positioned for significant earnings. Although the amount can vary, a good rule is that your company can achieve annual revenues of $25 million within a 5-year time frame.
• You’re willing to relinquish control. If you don’t have in place a top-notch team of heavy hitters (including yourself), relinquishing executive control may become a condition of funding. If you previously held the title of CEO and president, you can expect to be replaced by an outsider of the venture capitalist’s choosing.

If you’re serious about pursuing venture capital, you should do a few things first:

1. Start making connections early.

   Go to seminars on venture capital funding (usually sponsored by professional organizations in your community) and meet the venture capitalists involved in giving the presentations.

2. Contact other companies that have recently secured funding.

   Seek out other small businesses and ask for referrals to VC firms. In addition, ask questions and get a general understanding of what the process may be like for a company similar to yours.

3. As you’re building these networks, start your own form of recordkeeping.

   Securing venture capital is a tedious, time-intensive process. The sooner you begin to understand the process, the more likely you are to be successful.

4. Begin making a list of potential venture capital firms.

   Keep track of the companies in which they invest, how much they invest, and in which industries they most actively invest.

When you’re ready, two established resources can assist you in locating and learning about venture capital firms that might be a good match for your business:

• The Directory of Venture Capital & Private Equity Firms, 2016 Edition: This extensive guide, at www.greyhouse.com/venture.htm, offers direct access to more than 3,000 venture capital and private equity firms worldwide. In addition to presenting basic overview information about each firm, the guide also lists extensive contact information, including phone numbers and e-mail addresses. Grey House Publishing, the publisher, offers a hardbound copy ($750) and an online database by paid subscription ($900).
• The Money Tree Report: This quarterly report lists detailed information about venture capital funding in the United States. It’s a collaborative effort between PricewaterhouseCoopers and the National Venture Capital Association with data from Thomson Reuters. For information, and to review the quarterly reports, visit the website at www.pwcmoneytree.com.

Check your local library and used books sold through Amazon for a copy of either resource on this list. Although you may get a slightly older edition of the book, you can save the out-of-pocket cost of several hundred dollars that you would spend for a more current edition, and many of these resources stick around for a while.

During economic downturns or when the economy is generally weakened, both venture capitalists and angel investors become increasingly selective about where and how they invest. Having a solid business plan with a strong road map to a return on investment becomes even more important.