What Is Bootstrapping?
The term bootstrapping refers to a situation in which an entrepreneur starts a company with little capital. When an individual bootstraps, they rely on money other than outside investments. An individual is said to bootstrap when they attempt to establish and build a company from personal finances or the operating revenues of the new company. Bootstrapping also describes a procedure used to calculate the zero-coupon yield curve from market figures.
Key Takeaways
- Bootstrapping is the process of founding and running a company using only personal finances or operating revenue.
- It is a form of financing that allows the entrepreneur to maintain more control even though it can increase financial strain.
- Owners can bootstrap by cutting costs, personally financing operations, cutting back operations, or looking for other creative short-term financing solutions.
- The term also refers to a method of building the yield curve for certain bonds.
- Amazon, GoPro, and Facebook are examples of companies with humble beginnings and bootstrapped starts.
Understanding Bootstrapping
Bootstrapping a company occurs when a business owner starts a company from the ground up. This means that the owner establishes their business with little to no assets. Founders typically rely on personal savings, sweat equity, lean operations, quick inventory turnover, and a cash runway to become successful. For example, a bootstrapped company may take preorders for its product, thereby using the funds generated from the orders actually to build and deliver the product itself.
Compared to using venture capital, bootstrapping can be beneficial because the entrepreneur can maintain control over all decisions. On the downside, this form of financing may place unnecessary financial risk on the entrepreneur. Furthermore, bootstrapping may not provide enough investment for the company to become successful at a reasonable rate.
Bootstrapping is contrasted with starting a company by raising capital through angel investors or venture capital firms. Individuals who use these means to start their businesses typically have a proven track record or an idea that others may find profitable and promising, with the potential for large returns.
Special Considerations
In investment finance, bootstrapping is a method that builds a spot rate curve for a zero-coupon bond. This methodology is essentially used to fill in the gaps between yields for Treasury securities or Treasury coupon strips.
For example, since the T-bills offered by the government are not available for every period, the bootstrapping method is used to fill in the missing figures to derive the yield curve. The bootstrap method uses interpolation to determine the yields for Treasury zero-coupon securities with various maturities.
How to Bootstrap a Business
There are a few steps that entrepreneurs can follow in order to bootstrap a business. We highlight them in this section below.
Assess Bootstrapping Strategies Early
Before bootstrapping their startup company, business owners should first assess whether bootstrapping makes sense for their operations. It may not be financially feasible to bootstrap a company that requires high upfront capital investments to form.
Some businesses may also have a slower turnaround of inventory, meaning bootstrapped cash may be tied up for a longer period.
Create a Business Plan
If bootstrapping makes sense, an early step for a business owner is to form a business plan. This business plan should include a financial budget that outlines the expected cash inflows and outflows for the next few years.
A business owner may decide that at different stages of company growth, a varying amount of capital needs to be bootstrapped.
Determine Revenue Retention Plan
A critical aspect of the bootstrapping plan is to determine how revenue will be cycled through a company. For example, during the start-up phase, 100% of operations may be funded by bootstrapped cash until the company earns revenue from customers.
An owner should decide upfront how that revenue will be used, such as to channel business growth or to reimburse the owner. The main risk is extracting cash too soon, not fully developing the company, and leaving both the company and owner at risk of loss.
Identify Where Resources Will Come From
To bootstrap, an owner needs to decide where resources will come from and what options of bootstrapping they want to pursue. For example, the owner may decide to use their:
- Own cash
- A personal line of credit,
- Time to save capital
They may also choose to adjust business practices to accommodate the growth period.
The business owner must be mindful that each of these options has detriments. For instance, capital may be lost, time cannot be recovered, and limited business may stunt company growth.
Bootstrapping is often the stage of a company where the big business idea has been created but the underlying resources to foster the idea aren't available yet.
Bootstrapping Strategies
Not all bootstrapped operations employ the same strategies. There are different opportunities that startups can use to temporarily get the resources they need until operations are more robust. Here are some of the more common bootstrapping strategies.
Contribute Personal Equity
A company often needs upfront capital in the initial stages. One of the most common forms of bootstrapping is for the business founder to contribute personal capital as an initial financial investment into the company.
Depending on the industry and business operating strategy, a founder must sometimes supply capital at various stages during the early days of a company.
Incur Personal Debt
If an owner or founder doesn't have enough capital on hand, they may decide to take out personal loans to finance the company. The company likely can't receive a loan (or receive nearly as favorable loan terms) because it does not have the same established financial history as the founder.
Because this bootstrapping method results in personal debt, the owner is personally liable and may have personal assets seized should they go bankrupt and default on the loan.
Cut/Avoid Costs
The owner may bootstrap during the early days of the company by limiting spending. For example, the owner may personally deliver goods to customers in their local area instead of paying extra for delivery services.
In this bootstrapping strategy, the owner is not limited to what is done. Rather, it is limiting how things are done. Most often, this strategy results in a trade between capital and time. This means the owner is willing to sacrifice their time as capital may be low.
Form Business Relationships
A company may also decide to pull in third parties or other investors to help with the financing of the operations. Though this is often a more permanent, long-term investment, sometimes owners rely on short-term agreements to temporarily finance the business.
For example, a third party may buy stock or issue debt to earn a short-term return. Though this agreement puts the third party at risk, it is less of a risk than a long-term investment without defined payback or liquidation terms.
Limit Business Operations
Companies often bootstrap by temporarily limiting what the business can do. For instance, it may only:
- Manufacture items upon a paid order
- Sell to a specific geographical area due to shipping constraints
- Sell specific goods for a defined time until it has the capital to sell more profitable and expensive goods
A founder must be strategic in the benchmarks it hopes to achieve before unlocking other aspects of the business operations.
Bootstrapping is not required to start a business. A founder may accumulate resources before starting their company to have its needs meet from the company's first day.
Advantages and Disadvantages of Bootstrapping
Advantages
Bootstrapping often allows an owner to retain control over the company. Though one of the options is to pursue short-term financing from a third party, most forms of bootstrapping rely on just the owner's resources. This means the owner doesn't need to sacrifice long-term flexibility due to short-term constraints.
This strategy may lead to greater short-term profitability as the owner is hyper-conscious of costs. For example, the owner may intentionally avoid costs in the short term, though these expenses like software and infrastructure are necessary in the long term.
An owner usually also has a lower barrier of entry into an industry when they bootstrap as an owner may not have all of the capital needed upfront. Instead, the owner can slowly build resources through resourcefulness and deliberate actions relating to the business.
Disadvantages
Not all aspects of bootstrapping are great, especially in the long term. Because the financing of the company may not be 100% secured, there is an increased risk that the business may fail, especially if a large unforeseen expense arises. As there are many areas a company may fall short, such as a supplier not following through or equipment breaking, a company may find it needs capital sooner than it may originally expect.
By definition, bootstrapping means that a company operates with limited resources. This may prohibit how much a company can reinvest into the company as opposed to paying back the owner. The owner simultaneously tries to raise business for the company and return its capital, both of which compete for the same capital.
Another pitfall is that a company may face short-term branding and image issues. Consider a company that self-delivers its products by driving around town. Since this is untraditional, some prospective buyers may feel it demonstrates the small scope of the operations. Investors and suppliers may resist interacting with the company due to the heightened risk of interacting with an immature company.
Bootstrapping Pros and Cons
Pros
May give an owner greater control of the company
Cost avoidance measures help reduce business expenses
Lower barrier of entry
Places a heightened emphasis on business operations
Cons
Increases financial risk as a company may not be able to cover emergency or unexpected costs
Requires a company to operate with limited resources
May diminish how customers, suppliers, or investors view the company
Examples of Bootstrapping
Many companies start with humble beginnings and limited resources. One example is Jeff Bezos' personal software development for Amazon (AMZN), which operated out of his garage with just a handful of employees when it sold its first book in 1995.
Other founders take even more nontraditional routes to finance their companies. GoPro founder Nick Woodman reportedly borrowed $35,000 from his mother and went as far as to use her sewing machine to craft early designs of GoPro devices.
A more popular and sensationalized means of bootstrapping was Meta's (META) humble beginnings. Mark Zuckerberg launched the social media site in 2004 from his college dorm room. This is in stark contrast to Meta's total expenses of $88.15 billion.
Why Is It Called Bootstrapping?
Bootstrapping earned its term in the 1800s based on the phrase pull oneself up by one's bootstraps (or other slight variations). The saying was a reference to doing difficult things by tugging on the ankle straps of high-top boots. The phrase has continued to be used to reference any undertaking that may require extra effort because it is difficult.
Is Bootstrapping Bad?
Bootstrapping is not necessarily bad. If a business owner doesn't have all the resources it needs on the first day of operations, they may need to take special considerations to make sure the business needs are met. Many successful businesses have bootstrapped during its infancy and though some may negatively view the process, others may find charm in bootstrapping and have greater respect for these types of companies.
Is Bootstrapping Sustainable?
The idea behind bootstrapping is to temporarily find solutions to meet business needs until more permanent solutions are possible. It is usually not in the best interest of the company to permanently bootstrap as this exposes a company to higher financial risk than necessary. Bootstrapping may also be taxing to the owner who often prefers to have a more stable, scalable strategy to develop their company.
The Bottom Line
The best-case scenario for many new companies is to have all of the resources it needs on their first. Unfortunately, that's usually not how things go. Businesses must often bootstrap or temporarily come up with creative, resourceful solutions to make sure their business needs are being met. Whether relying on personal capital, cutting costs, or limiting business operations, owners have an array of strategies to bootstrap but also face a number of potential downsides.
