Bootstrapping a Better Alternative than VC for Most Startups

Ann All spoke with Sramana Mitra, a technology entrepreneur and strategy consultant in Silicon Valley. She has founded three companies, is a Forbes columnist and blogs at Sramana Mitra on Strategy. You can read an excerpt from her latest book, "Bootstrapping: Weapon of Mass Reconstruction" in IT Business Edge's Knowledge Network.

All: How do you define bootstrapping, the key concept of your book?

Mitra: The bootstrapping term applies to people who are building new businesses with very little external capital. They are financing their businesses with their personal savings, a lot of blood, sweat and tears, maybe a little bit of angel investment from friends and family. It’s a frugal, resource-constrained method of getting ventures off the ground.

All: It seems like entrepreneurs have gotten away from this model. Do you think entrepreneurs are becoming too reliant on venture capital?

Mitra: (Bootstrapping) is starting to come back in vogue. But we had a horrible reversal in the late 1990s, all the way through the dot-com crash and even after, when there were huge amounts of venture capital flowing into the system and business schools were mostly teaching venture finance entrepreneurship. There was so much hoopla about venture capital that it created a completely wrong way of thinking about entrepreneurship.

All: What are the benefits of bootstrapping?

Mitra: If you bootstrap at the beginning of your venture as much as possible, you by definition have a more mature company with a better-validated business proposition with which to go out for financing. As a result, you get better valuation and you preserve a lot more equity. That’s bootstrapping 101. I think now we have a lot of experienced entrepreneurs who have figured all this stuff out. First-time entrepreneurs are more naïve. They don’t understand how to negotiate terms of ownership, all of these things. As you grow in experience, you realize the more you bootstrap early on, the more equity you preserve. So when you go out to raise money, you have much more control over your destiny. If you do not have external investors, you have more control over business decisions. It’s being your own boss in the true sense of the word.

All: What about challenges? Limited cash would seem to be a big one, although I suppose those kinds of limits also can lead entrepreneurs to be more creative out of necessity.

Mitra: There are some businesses that require capital. It could be that you need to design a chip, and to design a chip you need to buy expensive fabrication tools. You can’t do it in a bootstrapped way. You need up-front capital investment. There are ways of being creative, as you say. I like how you picked up on the creativity opportunity. If you read my first book, one of the first stories I discuss was of an optical component manufacturing company that started off doing contract services for other companies. That’s how they built the early part of their business. They used that cashflow to build products that otherwise would have required external capital. This company went to $5 billion in valuation with very little external capital.

All: You mention having more control over your own destiny. But isn't that also a challenge, if there are no outside investors to offer business advice that might help entrepreneurs?

Mitra: If you don’t have a lot of business experience yourself and are looking for mentors, one of the easiest ways to get that mentoring is through investors. If you have an experienced set of investors who are playing the role of what I call mentor capitalists as opposed to venture capitalists, that’s a great way to learn.  I’ve worked a lot with VCs in my career. Good VCs have a lot to offer. Contrary to others who see bootstrapping as a be-all, end-all, I am much more flexible. I believe if you bootstrap at the beginning and create options for yourself, you can go out and raise venture capital. Many of the entrepreneurs in my book started as bootstrappers, but then went on to raise lots of venture capital and had successful exits.

All: If you do decide to seek VC funding, what are important qualities to seek?

Mitra: I like to work with investors who have had experience being entrepreneurs. Pure financial investors lack a certain quality. Especially if you are working in the domain of technology; technology is inherently complex. So you want people who have been in business, not pure financial types. When you run into bumps, as you inevitably will, investors with operational experience understand those kinds of challenges and can add more perspective. They will be more likely to withstand the bumps with you instead of pulling the trigger. Financially-oriented investors often do pull the trigger.

All: You interview an eclectic group of entrepreneurs, including RightNow’s Greg Gianforte, Mobissimo’s Beatrice Tarka and SuccessFactors’ Lars Dalgaard. I assume they have very diverse personalities, but do your interviewees possess any common characteristics?

Mitra: Entrepreneurs tend to be very extreme people. You kind of have to be crazy to be an entrepreneur. If you are going to make reality out of a from-thin-air idea, it requires an extreme type of personality. You need confidence to even think it’s possible. So while entrepreneurs have their own quirks and their own talents, I think most of them are extreme and also inherently confident.

The other thing is risk-taking. Entrepreneurs are high risk takers. Some of my friends have also pointed out that entrepreneurs tend to have a chip on their shoulder, something to prove to the world. It could be a childhood experience that or something that caused it.

All: Your book stresses making small businesses an economic priority. Are you concerned that isn't being done today?

Mitra: I’m very concerned about how we can tackle this large unemployment. I’m not happy with the stimulus spending. I would like to see some amount of stimulus directed toward entrepreneurs and job creation at the small-business level. Sending chunks of money to General Motors is like putting money down the drain. I’m not at all averse to stimulus. But I think it needs to be directed better. I think President Obama needs to pay more attention to how entrepreneurship works, and especially early-stage and bootstrapped entrepreneurship.  I think if he spent some time trying to understand bootstrapped entrepreneurship, he’d realize that in many cases money comes from savings. If you tax away the savings, you don’t have money left to start companies.

My recommendation is to create something like a 401k account, where you could set aside tax-free money for entrepreneurship. If you don’t become an entrepreneur within a certain amount of time, the money would become taxable. I think it would be effective to make liquidity available at the last-mile level so people could start companies with money that would otherwise go to taxes.  If we could stimulate bootstrapped entrepreneurship on a big level, that would be much better because venture capital is appropriate for such a small set of companies. It requires that your venture scale up to a very large market opportunity.

But a bootstrapped venture can go after any opportunity. A $10 million opportunity is just fine for a bootstrapped venture. And you can employ 1,500 people with a $10 million company. I think that’s the kind of company America needs in hundreds of thousands right now. There are a lot of niche opportunities in technology where you can build $2 million, $5 million, $15 million businesses. Venture capitalists would never touch those!