Bootstrapping vs. Venture Capital and the space in the middle

April 10, 2022

Having a Venture Capital firm invest in you is like having a boss who tells you how to run your company. Bootstrapping means only building a lifestyle business that grows excruciatingly slowly.

There is much prejudice in the startup world around how businesses should think about their finances. And for the longest time, there were only two camps: bootstrapping vs Venture Capital.

Venture Capital on the one hand means giving up control for the chance to build the next Google. Bootstrapping stands for the indie maker movement that builds companies in small niches. 

Figuring out which founder should choose which path was not always easy.

When to choose Venture Capital funding or bootstrapping?

First of all, what exactly do these terms actually mean? 

Until recently, Venture Capital was the only funding available to startup founders. The two terms were basically synonymous. If a founder wanted to find an investor, they would approach a partner at a VC firm. These are typically different to Private Equity investors

Notably, many angel investors also followed in the footsteps of VC strategies, commonly simply funding early stage startups before they would go on to raise a Venture Capital round.

Bootstrapping on the other hand refers to building and growing a startup without any outside investors. In this case, the business can only grow through the funds the founders initially invested and the revenue the venture itself generates.

The two strategies come with their own set of pros and cons, which founders need to evaluate to pick the path that best suits them.

The first decision needs to be made around the ambition of the venture. If the founder would like to create a small to medium sized business that dominates a niche market, bootstrapping is likely the way to go.

The reason is that VC investors expect their portfolio companies to become corporations with billion dollar valuations (or die trying).

The Venture Capital model relies on a portfolio investment approach, in which one or two companies in a batch of 20 investments realize large exits, while the rest fails. Here, the economics only work if the ventures that do make it really hit it out of the park.

For founders that means tackling a large total addressable market (TAM), and putting everything into growth until the startup dominates that market. 

As a result, founders need to be committed to the unicorn path over everything. Getting an acquisition offer for $10 million? Pass. Another offer for $100 million? Pass. Only once that “M” turns into a “B”, offers can be considered.

Sam Altman, former president of Y Combinator, has prominently stated that “You should try to limit yourself to opportunities that could be $10 billion companies if they work”. 

Bootstrapping on the other hand does not come with these growth expectations. Here, founders commonly even avoid big TAMs so they won’t have to compete with other startups that have large VC investors backing them. 

The result tends to be much smaller companies that are created and grow much more slowly, as their growth is only financed through profits (as opposed to an investor’s money).

Another decision that needs to be made is one about risk. More specifically, how likely does a successful outcome of a business need to be?

Many young founders especially have a large risk tolerance. High odds of failure are accepted in pursuit of building the next Facebook.

In this case, Venture Capital can be a great path. Most VC-backed startups fail. And when they fail, they go to zero. But if they work out, founders can win big depending on the amount of equity they are left with.

If the founding team is more risk-averse (of course launching a startup is always risky), bootstrapping might be the way to go. 

In bootstrapped startups, things are less chaotic comparatively, because few people get hired at any given time, and growth is slower and thus more manageable.

Moreover, founders can decide to keep the company at a sustainable size as opposed to risking survival in order to meet the next milestone.

The last big decision needs to be made around independence. Many people choose to quit their jobs and join the startup ecosystem to be their own boss.

In a bootstrapped business, founders are their own bosses. The captable consists of the founding team and nobody else.

That does not necessarily mean complete independence, since the founders still need to make decisions together. But they are at least only accountable to each other.

As soon as VC investors get involved, the dynamic changes a bit. All of a sudden, there is “an adult in the room”, for better or worse.

million dollar payout

VC firms commonly take board seats in their portfolio companies, at least if their investments are big enough. That means the founding team does not make decisions independently anymore.

When push comes to shove, investors can also oust founders. For example Martin Eberhard, a co-founder of Tesla, was removed as CEO by Elon Musk, Tesla’s primary investor at the time. 

With VCs on board, founders don’t build their own companies anymore, they build a company for themselves and their shareholders.

What is the alternative?

Some founders might weigh the pros and cons of bootstrapping and VC fundraising and still not find it hard to make a decision. There are alternatives specifically for funding a lifestyle business.

Bootstrapping especially can be hard for many people who do not have the savings to sustain themselves during the time when the startup does not produce sufficient revenue yet.

But in recent years, new alternatives have emerged. This is most importantly due to the fact that more and more “Indie Hackers” and bootstrappers have been able to start highly profitable, sustainable businesses in larger and larger quantities. 

Venture Capital funds are still not interested in investing in these companies, as their growth potential is capped by comparable small market sizes. But many other, newer types of investors will. 

This “funding for bootstrappers” can take multiple forms.

Indie Investors

TinySeed is a great example for a new type of investor which provides independent, B2B SaaS companies with an early seed check with the intention for the company to grow customer-funded from there.

No unicorn hunt here, the goal is to get businesses off the ground that have the potential to grow into a 7- or 8-figure company.

TinySeed invests in SaaS startups with a bit of revenue and traction with a low 6-figure check in return for 10-12% in equity.

Notably, indie investors even fund solo founders, something traditional VCs have shied away from for a long time.

This approach is also sometimes referred to as fundstrapping, as founders are fundraising small amounts while intending to run their startup like it were bootstrapped without raising any future rounds.

Also, many business angels have started to dip their toes into indie investing, moving away from simply following traditional VC narratives.

Revenue-based financing

Pipe is likely the most well-known provider of non-dilutive growth capital, but there are new competitors emerging left and right. Similar players in the market are Lighter Capital and Clearco.

These platforms allow founders of businesses with a SaaS or sometimes eCommerce model to raise capital for their startup from investors who in turn receive a predetermined share of the venture’s revenue for their investment. 

The interesting part here is that the “funding” does not require founders to sell any equity (i.e. diluting their ownership), but is effectively just debt. This way, new funds to grow the startup can be collected without losing independence.

Micro Private Equity

With the rise of Micro Private Equity, new small funds have surfaced, looking to support small independent technology startups. A prominent example of a Micro PE is the Calm Company Fund, a vehicle that invests based on a Shared Earnings Agreement (SEAL)

The SEAL refers to a contract which allows the investor to participate in a share of the future earnings of a startup in return for their investment.

As opposed to their Venture Capital counterparts, Calm Company fund states that the “Plan A after raising from us is to get to break-even and grow the business through cashflows”. Hence, founders find a minority investor who is supportive of sustainable growth as opposed to chasing a unicorn valuation.

Leveraging the crowd

Crowdfuning has been around for a while, with startups listing on Kickstarter as early as 2009. Getting the masses to fund (or sometimes better “donate”) to get businesses off the ground has helped many founders, especially in the D2C space.

More players like Seedrs have emerged in the years after, allowing founding teams to skip VC investors and raise straight to the consumer who might end up becoming their first customer as well.

This space is driven by two models: crowdfunding and crowdlending, enabling entrepreneurs to pick between giving up equity and raising debt.

What does the future hold?

Alternatives to traditional Venture Capital and bootstrapping are emerging and developing rapidly. New innovation and growth in this space are likely to see the light of day for the foreseeable future.

Of course, not all of them will succeed. Indie.vc is an example of one of the earliest drivers in this ecosystem. After funding nearly 40 startups, they stopped making new investments, citing lack of support from institutional investors. 

But the indie startup economy is growing with likely hundreds of thousands of small software and internet businesses operating around the globe, looking to leave a mark.

Ever-growing communities like Indie Hackers and Product Hunt are living proof that new startups and founders are working away at innovative ideas everyday - most of whom do not even consider Venture Capital funding anymore. 

And now the founders of the startups can choose whichever path suits them and their ambitions best, be it bootstrapping, VC funding and everything in between. 

Furthermore, entrepreneurship through acquisition is becoming a larger trend. Some entrepreneurs are looking to acquire a small business as opposed to founding one, as a means of securing product-market fit with an existing company. They can find a lifestyle business for sale on BitsForDigits.

Further resources: How To Invest In Startups, The End of Indie, The Rise of Alternative Venture Capital

About the author
Jan-Philipp Peters

Jan-Philipp is the co-founder of BitsForDigits. He has extensive experience in the world of startups, tech and finance. Before building a Micro Private Equity marketplace, he worked for Google and Facebook.

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