Decisions regarding how you finance your business should be taken very seriously as it is one of the most critical decisions you will make at the start-up phase. When considering the different financing options, you need to spend some time learning about the conditions that come attached to early stage capital investment. By far the best way to finance your business is from current cash flow arising from sales but unfortunately this is not realistic for most start up businesses.
Angel investors – realistic option
A cursory glance through mainstream newspapers indicates that raising start up finance remains difficult as UK banks are simply not lending money to businesses (especially start-ups). As UK entrepreneur Luke Johnson of Beer & Partners argues;
“Angel investors are the only realistic option for these early-stage companies. Currently banks are barely open for business, or tend to offer loans on unattractive terms, so the need for equity capital is greater than ever. What’s more, since current low interest rates give savers such poor returns, more and more angel investors are emerging that have a strong appetite for direct investment in small companies.”
As Luke Johnson indicates, we have witnessed a growth in the number of angel investors seeking to fill this gap seeking to support entrepreneurs through the provision of early stage capital.
In addition, the ongoing success of the RTE programme, Dragon’s Den (where entrepreneurs seeking investment pitch their business plans to a panel of prospective investors), has added to the growing popularity of angel investment as a primary means by which entrepreneurs secure early stage investment in their fledgling businesses. However I believe there is an alternative more compelling option which is more appropriate for non capital intensive businesses like Internet startups and it is known as bootstrapping.
When you bootstrap your business you look to (a) start your business without any external finance and to (b) manage the business with a very tight control on costs. There are numerous benefits to start-ups in avoiding outside investment (particularly at the pre-revenue stage). These benefits include creating a strong cost discipline, galvanising staff against profligacy, helping to maintain a focus on driving revenues (while controlling costs), and finally helping to ensure an ongoing focus on innovation. By ensuring as low a cash burn rate (rate at which a company uses up cash) as is feasible, you increase the chances of your business succeeding. Similarly, without any debt repayments or obligations to shareholders you can afford to be more flexible with your idea (pivoting to Plan B if need be).
Once you have proof of concept and evidence of demand, it is a lot easier to secure financing at considerably more favourable rates if needed.
As Greg Gianforte author of ‘Bootstrapping: The Secret to Entrepreneurial Success’, declares ‘When you’re Bootstrapping, you’re forced to deal with customers and to fulfill their needs from Day One. If you have a lot of external funding, on the other hand, you can be fooled into thinking you’ve already created an actual business just because you’re paying salaries and rent. But you haven’t. You only have a business when you have paying customers. Bootstrappers know this instinctively, and never lose that customer focus.’
Validate your idea
‘My advice for entrepreneurs in industries with relatively low capital costs (like internet/software) is to bootstrap. Of course, you can start by trying raising venture or angel capital when you have just an idea (you never know, you might get lucky); but don’t waste too much time on it. And don’t get discouraged if they [VC’s] turn you down; you are in the majority. Instead, focus on validating your idea, building it, and selling for survival.
In short, bootstrapping is an excellent way to grow your business (particularly an Internet business) as you really focus on the need to generate profits that can be reinvested to drive further growth.
Finally to get a feel for bootstrapping in practise read Spencer Fry’s article ‘How to bootstrap your company to profitability’ and ‘The Art of Bootstrapping’ by Guy Kawasaki.