Ways to bootstrap

[phanio]

Given our current economy in regards to businesses – especially the lack of access to capital sources – most businesses – small or large – old or new are turning, once again, to bootstrapping.

I bootstrapped my business and many of the companies I work with have bootstrapped their business to the point that they become creditworthy in the eyes of lenders.

To that note, I have been trying to compile some information regarding different methods of bootstrapping and was wonder how business owners, such as on this forum, have either bootstrapped in the past or are currently bootstrapping.

For those that don’t know – bootstrapping is usually any method of financing other than traditional measures like bank business loans or equity capital. Bootstrapping typically requires business owner to look inside – either inside their own business, their personal lives or their own sphere of influence.

Example – some very common methods of bootstrapping are:

-Using personal assets to secure loans or be sold off for capital.
-Using personal credit – like credit cards or personal loans.
-Tapping family and friends for investments or loans.
-Continuing to work for someone else while starting or running their business on the side.

Some uncommon ways may include:

-Loans against retirement accounts – i.e. 401(k) or IRAs or even converting those accounts into trusts and ordering the trust to invest in the business.
-Chasing business and deals before having the funds to complete the project – then using the deals in hand to secure financing. I call this putting the cart before the horse.
-Using customer financing – where you require the customer to pay an amount up front – and amount to cover your variable costs prior to you starting a job, completing a project or manufacturing your product or service.

What others ways have business owners on this forum used to bootstrap their businesses? Never know you might either see a method that could work for you as you move forward or offer your unique way to someone else who needs a bit of help.

[vangogh]

I'm one of those who bootstrapped my business and I'll be happy to share.

When I first started this business I kind of had a part time job. I was doing some work for a web host I know. In some ways he was like a client, but the pay was more like I was working for him. I helped him set up a new site for his business and he also had me work on some of his client's sites. It certainly didn't keep me in business, but it did help provide for something coming in.

I'm also fortunate in the sense that I don't need a lot. I've often lived a Bohemian lifestyle and that's never required much money. I don't spend a lot of money even on the basics and so didn't need a lot of money coming in.

I also used credit cards wherever possible for awhile. They're like getting a high interest loan except you don't have to do all that much to get the loan. As long as you pay the minimum and stay below your limit, you have a supply of money when needed. Early on if I could pay for something with a credit card I did. Then once I'd managed to build up a client list and was taking in more than I needed I first stopped using the cards and then started paying them off.

I suppose I also took on some work that I wouldn't take on today. Projects I knew would be more trouble than they were worth, the occasional odd job that had nothing to do with my business. I also took on a few non-paying jobs to help build a portfolio. Of course it wasn't until I stopped taking these kinds of jobs that my business started doing well.

One last thing. While I didn't have much in the way of money when I was starting, I did have a lot of time. I routinely put in 60-70 hour weeks, mostly trying to market myself and learning how to do my job better. A big part of success is sticking with something even when the money isn't there.

[Spider]

I started my plumbing business with my own money. Not by choice, mind, because I took the traditional route of applying to a bank for financing, which was refused. Looking back on it now, I think it was silly to have expected a bank to finance a business start-up - that's not what banks are in business for! I'm pleased now that the bank did refuse - we were able to grow unfettered by loan repayment needs.

I decided to start big - because I would be operating in major construction projects and needed to be seen as substantial enough to do that work. Our first job was the construction of a new hotel to which I was introduced by a friend. That enabled me to hire our first two plumbers. The second job enabled my partner to leave his job and come on board.... and so we grew rapidly and efficiently, into a multi-million dollar business.


In complete contrast, my wife's pet grooming business was started with $2,000. An existing grooming shop had died and gone out of business. I cannot remember how we met the owner, but the business had been closed for two or three months and the landlord of the retail space was about to commandeer what little equipment there was for unpaid rent. My wife had not long before begun learning to groom dogs and, although we planned to open our own shop, she certainly wasn't ready yet. But it was too good an opportunity to pass up.

The asking price for the business had been $20,000, but now it was defunct, without a sellable lease, and comprised of some old dog runs and minimal, well-used equipment. And, of course, the old customer list.

I approached the landlord, arranged to open the shop at the old rent, offered the seller $2,000 for the mailing list and whatever equipment she didn't want to remove, and was soon in business as "Puppy Love Pet Grooming and Boarding." The business has provided our basic needs for the past 15 years.


There are many ways to start a business with minimal cash, but it is important to start with your own money and not borrowed money.

[vangogh]

it is important to start with your own money and not borrowed money.

I have to disagree. It really depends on the situation. There's nothing wrong with borrowing money to start a business. I think it's preferable not to be in debt, but if taking on debt helps you get where you want to go then it's perfectly acceptable.

If you can make more using the money than the interest you have to pay for borrowing the money doesn't it make sense to borrow the money.

I'm not suggesting everyone should run out and throw themselves into debt in order to start a business, but I don't think people should be afraid to take on debt either. If borrowing some money is what it takes to start a business that can support you for the next 10, 20, 50 years then it makes sense to borrow the money.

[Spider]

This is why I said what I said, VG. I have no fear of debt and have used debt. However, starting a business in debt and a going business taking on debt are two very different things.

Starting a business when there is no immediate income and the first thing one must do as a new business owner is to write a repayment check to the bank, is pure folly. At least go out and make a few sales. At least go out and win a few customers or clients. At least get established as a business before taking on the burden of repayments.

If one was already a business owner before and is now about to start another business, one must have some money built up from the previous business, or one was not a capable business owner. And if that is the case, that is a problem that needs to be addressed before getting into debt.

If one has never been a business owner before, one has no experience of business debt. Add that inexperience to the inexperience of being a business owner, and you are asking for trouble. Learn the business first, then take on debt if necessary. Taking on business debt before knowing what it is to be a business owner, is an indication of poor business decision-making.

[vangogh]

I have a hunch we're not really disagreeing all that much. I do agree if you can finance a new business without taking out debt, especially if you have no business experience, it's the preferred option. However it really comes down to the specifics of the individual and the business.

I'll use myself as an example. When I started my business I didn't have money. Fortunately my business doesn't require much in the way of start up costs and I basically had what I needed, which was mainly a computer. I had little to no business experience and while it was easy enough to say I was in business I knew it was going to take some time to figure out how to get clients and make money. I also knew that it was going to be hard to pay for some basic necessities of life until I built the business past a certain level. At the time I didn't know how to do that. My biggest asset as a business owner at the time might have been confidence in myself to learn what I needed to know and then apply it.

If I'm understanding right you would have advised me not to take on debt. Technically I had one failed business before, but I really had next to no business experience. At the time I had probably read a handful of books, but no real experience. The earlier failed business was short lived.

What I did was use my credit card as much as I possibly could. I charged everything from bills to groceries. I think the only thing I couldn't pay with a credit card was my rent, but otherwise everything went on the card. Fortunately I was able to make enough to pay rent each month, but even that was in question much of the time. I managed to scrape by as best I could and in time I did build my business to where it could support me without having to use the cards. A little while later I was able to make enough to start paying down the cards.

I won't suggest that everyone should follow what I did. I mentioned it above that I know how to live very inexpensively. I don't need much and I suspect that most people would have had a hard time living on the money I had that first year. I also didn't have a family to support.

My point though, is that despite the situation and it probably not being the smartest thing for me to take on debt, I did and it turned out to be the right thing to do for me. I would think there are other people in similar situations to mine and I would think there are people in different situations who could take on debt to build their business even if it may be a huge risk.

[Spider]

...What others ways have business owners on this forum used to bootstrap their businesses? Never know you might either see a method that could work for you as you move forward or offer your unique way to someone else who needs a bit of help.Considering retail space -- the expense of setting up shop can be high, especially if moving into newly-constructed premises. The initial build-out of walls, flooring, dropped ceilings, lighting, cupboards, display shelving and cabinets, counters, decorating, etc. can really mount up. Even moving into previously occupied space will require shelves, cabinets, counters, desk(s) and work surfaces. You will probably need to redecorate, too.

Here's what I have done on several occasions that helped get a retail business established without these enormous expenses — Recalculate the rental terms.

1. Our landlords asked for $X per month with X% annual increases plus $Y per month area maintenance to be increased as necessary. Min. 3-year lease.

2. I would work that out to determine the total amount the landlord would receive over a 5-year period.

3. Add an estimate of the buildout to the total rent and maintenance.

4. Offer a rental plan where the landlord does the buildout and tenant pays a fixed rent payment of 2 years at $x/month, 2 years at $y/month and 1 year at $z/month, where the total paid comes to more than the total calcuated in #3 above.

Advantages :
- Landlord receives more overall than he is asking for - incentive to do the buildout.
- Landlord has a longer lease - incentive to accept offer.
- Tenant has rents that suit his operations - usually this is low rent at the beginning rising to high rent at the end.
- Tenant has no upfront expenses.

Landlord may also be willing to buy furniture and other equipment and have the cost (and a little profit) added to the rent, thus reducing even further the start-up costs for the tenant.

I have never had such an offer refused.

[phanio]

All great information - really determined by the person, the business and the risk tolerance.

Frederick – love the example for retail space. I have found that people who are really good at selling can find ways to sell a deal to a landlord, supplier, creditor, etc – something that seems win/win to everyone but really benefits the businesses. I have always said – get creative, find a way to make it work for you – then sell the hell out of it.

Vangogh – you are right – many people start with credit cards and it does take money to make money. A very powerful concept in business is to use other peoples money (it really can lower you own risk) as long as you (as you stated) manage it properly – i.e. use the funds for purchases that will generate more revenue then the funds costs (having an assets pay for itself) as well as for the right purpose (don’t use short-term financing for long-term needs and vice versa), don’t abuse the credit (going over limits – not making more then minimum payments, etc – which will not only take forever to get out of debt but most creditors will kill you with fees for mismanagement) and having a plan to get out of debt as soon as possible (as soon as you no longer need the debt for the purpose you took it for in the first place).

Thanks for your responses.

I just think that with our current economy – (even while access to funding for start-ups and small business is hard no matter what economy) more business owners will be forced to find creative ways to bootstrap and I think we can help these entrepreneurs through personal experiences – experiences that may help them 1) reduce some anxiety as well as 2) allow them to make calculated risk decisions.

[greenoak]

i am scared of debt but have some...i see lots of stores try it without enough inventory to even have a chance..so i see where you probably have to have it to get started.....
the way we bootstrap is to add value in every way we can....we turn a $20 item into a 100$$ item very often.... using our workers and skills....
we were in a good position when we started and had a fast and furiously selling product that let us have a wonderful turnover and make money on a pretty small investment.....
..i guess the way we bootstrapped was ;....we sold cheap and built a great following who bought and bought and had super deep pockets and needs..........as we got bigger and not quite so cheap, we added new buyers and lost some of the faithful who were so important at the start...
our turnover must have been 10 or 15 times a year back then!!! that rate would be incredible and impossible now when our inventory is 6 figures not 4.......id sure try it if the buyers were there tho...
ann

[Spider]

Just a couple of points that need to be said---


...I have found that people who are really good at selling can find ways to sell a deal to a landlord, supplier, creditor, etc – something that seems win/win to everyone but really benefits the businesses. I have always said – get creative, find a way to make it work for you – then sell the hell out of it...The secret to negotiating is not to find a way to make it work for you – then sell the hell out of it. It is to find a way to make it work for the other person and which benefits you, too. By putting the other person first, you don't have to "sell the hell out of it." There's no selling to do if the deal is good for you both.



...A very powerful concept in business is to use other peoples money (it really can lower you own risk) ... No it does not! This is totally the wrong approach that will backfire on you in the long run. If you are using OPM - other peoples' money - the risk is magnified. If you win, you win big because of the leverage. If you lose, you now have to pay back a larger sum than you had in the first place. There is risk money available - at extremely high pay back rates - but ordinarily, loans are not risk and you will be required to give a personal guarantee to repay what you borow, whether you succeed in your business or not.



...don’t use short-term financing for long-term needs and vice versa... There is nothing wrong with using short-term financing for long-term needs. In fact, there can be an advantage in pushing oneself to pay back the loans prematurely. A series of reducing short-term borrowings to finance long-term needs is common practice, especially in a falling interest rate environment. What is risky is long-term financing for short-term needs. That should be avoided.



...having a plan to get out of debt as soon as possible ... I find this short-term thinking. Why use profits to pay down debt when those profits can be used to create more profit than the cost of the debt? viz. If you can make 20% net profit from putting cash to work, why use it to pay down a 8% interest debt? Doesn't make sense!

[greenoak]

fredricks last remark...was interesting to me.......
."I find this short-term thinking. Why use profits to pay down debt when those profits can be used to create more profit than the cost of the debt? viz. If you can make 20% net profit from putting cash to work, why use it to pay down a 8% interest debt? Doesn't make sense!"

because we have used that idea for quite a while...our loan on the last construction on the store was sooo low..... but a few years later we still havent paid it off....and that doesnt feel right either....i thought it was the goal to pay it off....but dh talks about how low the interest is and that we need the money elsewhere....
its starting to feel like rent...
ann

[vangogh]

On a certain level we all feel good paying down debt. It's nice not to have debt hanging over you. However if you look at the numbers it doesn't always make sense to pay down debt.

In your example if you pay off the debt you're getting an 8% return on your investment. If you invest the money you get a 20% return in one place and an 8% loss in another for a net 12% return on your investment. You end up making more by letting the debt site there.

That's not to say you should never pay down debt, but sometimes it's not what makes the most financial sense.

[phanio]

All great points about debt - paying it off - using it to your advantage. This is termed leverage and leverage is only successful if it is working as hard as it can for you and your business.

Cash (including debt) is an asset and should be employed in the best manner to generate the greatest return.

My one concern is that many people are scared of debt or just do not like it - but, debt is just an asset to be used. What you should be afraid of is not using debt in the proper or most effiecint way - don't blame the debt - blame the inproper use.

[Spider]

I don't think we should go overboard on this. Ann is clearly someone who does not like having debt - or having it for too long, or having too much. These are personal considerations and should not be totally dismissed because the numbers say otherwise.

What was the point of taking on the debt in the first place? In this case, to build or extend the store.

Why? Probably, to allow an expansion of business.

Why? I imagine to earn more money.

Why? To make for a better life.

What good is it if the "better life" is ruined by the discomfort of having debt?!

Certainly, personal considerations are important because the practical, logical results are always tempered by personal considerations. I say, draw a balance - perhaps, paying down the debt faster and forgoing further investement will give a better return in the "peace of mind" department.

Personally, I am a numbers guy - I tend to favor the practical results, but I am still paying off my mortgage faster (at a 5% interest) than I could make on the extra payment if I were to invest it elsewhere.

Isn't preace of mind the ultimate desire? When you boil everything down, isn't all we do to gain peace of mind?

[vangogh]

Frederick I completely agree. I tried to mention that in my post, but maybe didn't do such a good job. The numbers may point to keeping the debt, but there are other reasons for preferring to pay down the debt.

Peace of mind is worth quite a lot even if we can't put a specific number on it.

[greenoak]

i think this gal reported a launch of an ebook....or maybe an e course that brought in 175,000 IttyBiz (http://www.ittybiz.com) its reported on her blog somewherei read all about it last year....
there is somuch free info out there....even with video....it sounds hard...
ann

[rebelnetworks]

in 5 years i have no borrowed money from a bank direct or anyone but my own and profit generated - we have cage space in 2 data centers and now own all the equipment etc - the capex was high - but i needed to get that debit in order to grow my business.
so far it is working very well -- however, i am now thinking of the next level and the best way to get there - --- financial management is always the hardest part of the small business owner -- we never really have enough for all we want to do

[vangogh]

Congrats on not having had to borrow money. I think many small business owners assume they need a loan to get started, but most probably don't. Taking on debt can be scary, but it's also a way to get started if you do need money to grow your business.

[KristineS]

Taking on debt can be scary, but I guess it's a risk versus reward situation. If you think you can make a go of the business, then taking on some debt in the beginning can be risky, but is probably a justifiable option.

You have to remember to do your research and have a reasonable expectation of what you can expect to make and how soon the business will pay for itself. Reasonable risk can be a good thing. Jumping in with no plan is something else.

[ArcSine]

With a few all-too-rare minutes on my hands, :) I'll append my two cents onto an already interesting discussion.

Aside from the valid psychological, peace-of-mind issues, on a purely economics level the appropriate amount of leverage is very specific to the situation. Generally, debt represents a contractually-fixed periodic obligation. It logically follows then, that there should be a direct correlation between how much debt you lay on your balance sheet, and how stable and established your cash flows are.

Greater volatility and unpredictablility in your cash flow stream--typical of startups, and of certain industries regardless of the maturity stage--calls for a more conservative capital structure, with less debt and relatively greater financing from equity and retained profits. The bank and the lessor won't let you skip a payment in a slow month, and make it up later when you're swimming in the chips. The equity-investor or owner, OTOH, is happy to make its ROI in the 'big' months from surplus cash.

In turn, a biz's net cash flow volatility is affected somewhat by its 'operating' leverage: the relative amount of fixed vs. variable costs. Sales commissions, e.g., is a classic 'variable' cost -- the amount you pay out tends to track up and down with the amount of revenue rolling in. Hence, variable costs are 'safer' in the sense of having a damping effect--partially counterbalancing the variability in revenues, and leaving a little more stability on the bottom line.

Real world example: I worked recently with a company that had a textbook high-leverage structure--a boatload of debt on the balance sheet and thin equity, but a very lo-leverage P&L; i.e., other than interest expense, the majority of its costs are variable or semi-variable...in-house people on commissions; lots of stuff outsourced; etc. Over the last couple of years the lethargic economy has stolen 70% of its revenue (seven-oh; not a typo), but their ability to quickly shrink their costs in response has meant that the company will likely live to fight another day.

Fixed costs work the other way and tend to magnify revenue variations, as they filter through to the bottom line. If a biz's costs are predominantly of the fixed species, a 5% swing in revenues (say) might translate to a 50% change in net cash flow. For a company with a heavy obligation of mandatory debt service payments, that could be disastrous.

But since debt (generally, relative to equity) is a cheaper capital source, outright avoidance of debt ain't the way to go. Instead, it's a matter of using the right mix of debt and equity, with the proportions being driven (at least in part) by your stability of revenues, and your operating leverage.

Cheers, all...and thanks for lettin' me chime in!

[vangogh]

Good info. Naturally a lot depends on the amount of debt we're talking about. In my case I liberally used a couple of credit cards to help pay the bills while I was getting started. Not necessarily the ideal and not for the faint of heart.

However the debt itself was hardly anything that was so overwhelming. I think at most it was about ten grand. A lot of money sure, but an amount that could be reasonably paid off once I had built up a client list and was bringing in money regularly.

Looking at your post and comparing it to my situation my cash flow was certainly unpredictable and volatile at the time which would indicate I shouldn't have been taking on debt, especially at such high interest rates. That was probably the sensible thing. Why I did what I did was simply out of necessity. I didn't have any cash reserve to hold me over while starting the business, but I knew the time was right for me to go into business.

I guess I borrowed the money against a confidence in myself that I would make it. I also have a history of being able to live very inexpensively so I knew once I did have a more consistent and positive cash flow I'd be able to pay off the cards.

[KristineS]

I think we have to also remember that the comfort level will be different for every person. I went rock bottom starving broke in my early 20's and it was a rotten experience, so my tolerance for risk might be a little less than those who haven't had the experiences that I've had. You have to find a balance between the possible reward and the risk that will stress you out so that you can't enjoy the experience. Only you can know what the right solution for you will be.

[vangogh]

I also went rock bottom broke, though in my early 30's. It had the opposite effect on me. Having survived it once, I'm more confident I can survive it again and so am more willing to take risk. With the credit card debt I had previously owed and paid back considerable sums of money to credit card companies so again I was more confident I could do it again.

That which does not kills us makes us stronger.

Debt wasn't about enjoying the experience. It was a means to and end where I could later enjoy the experience.

[rebelnetworks]

I also went rock bottom broke, though in my early 30's. It had the opposite effect on me. Having survived it once, I'm more confident I can survive it again and so am more willing to take risk.

Well this is so so true - and not only stronger but a lot smarter.

In my late 20's i started a business with 15K, and zero revenue and in 3 years i grew the business to have 25 employees and 3 offices and 5 million in sales. I borrowed a ton of money - in year 4 i almost went bankrupt - i had to let everyone go and almost start over - by the end of year 5 i decided to close everything down and when it was over --- i had 15K back in my account!!

what i learned in those 5 years was Priceless -- the things i do today are because of what i learned in that 5 year roller coaster ride

[vangogh]

It's all how you deal with the situation isn't it? Things can get scary in life at times. Once we've been through those scary things we learn how to deal with them better should they happen again or ideally not let them happen again.

Failure is the cornerstone of success. You have to be willing to risk knowing that you may fail. The key is to learn from your failures. Try to understand what you did wrong and what you did right so the next time you fail a little less or better succeed.

You had a nice ride for awhile. I'm sure you weren't in a good place when you shut the business down, but I bet you won't make the same mistakes again. You also know you have the ability to take a small investment and turn it into something big. Next time around you'll understand better how to keep it big or maybe not grow so big in the first place.

Another thing I've learned in failing is what's really important to me. I think a lot of us think we want certain things until we actually have the opportunity to get them. There's plenty of things I might have chased after years ago only to discover I never really wanted. Now I don't have to waste my energy on them anymore.

[ouroldfarm]

I'm new to this, and I've made the decision to keep working at my day job while building the company. I really don't want to go into debt right now in order to build the business, and I don't really need to as long as I can keep my job. Later on I would be willing to finance some capital expenditures in order to exapnd the business, but not until we have a good list of customers.

My question revolves around capital for the business.

If I'm providing my personal income to the business is that considered income as far as the business is concerned? Also if I make a "donation" of my personal property as capital to the business, for instance like a tractor or other piece of equipment, is that considered income for the business that will need to be reported to the IRS?

For example

1) if I put $10,000.00 of my own money into the company account is that income the company will have to report on its return?

2) if I give a piece of equipment with a FMV of $10,000.00 to the company is that considered income that the company will have to report on its return?

Also, how does this apply to fixed assets like buildings, water wells, land, etc. that were mine, but are given to the company, or perhaps leased by me to the company?

This might be an accounting and tax question, and if it is I would ask the moderator to please move the post.

Thanks.

Steve

[vangogh]

Steve you may end up getting a better answer if you do post your question in the accounting and taxes section, but we can leave it here too to see what the response is.

I'm hardly the expert, but I would think neither scenario would count as income. You could always set them up as a loan from you to the company that's to be payed back. I assume there's a way the money or equipment needs to be reported, but I don't think it would be as income.

[ArcSine]

Steve, the transactions you've described would not generally trigger taxable income to the company.

The cash infusion would either be a capital investment on your part, or a loan to the company, depending on how you write up the paperwork, and any repayment intentions. But neither case is considered income to the company.

The answer is similar w.r.t. the fixed assets---it would be considered a capital contribution to the company (i.e., an increase in your equity investment) and hence not deemed a receipt by the company of taxable income.

But you did mention a wrinkle that you might want to explore: Leasing the fixed assets to the entity. That's an attractive alternative in certain scenarios, and might allow you to convert some portion of the company's income from "ordinary" into "rental" income, as the income comes out of the biz into your hands. The diff is that ordinary income usually is hit with both income tax and self-employment / FICA tax, whereas rental income only suffers the income tax bite.

The usual caveat applies (make sure you charge the company no more than a commercially reasonable, arm's-length rental rate), and it's a topic with a few fine points that'll require some pow-wow with your tax advisor.

Truthfully, consultation with your tax advisor would be a good investment for the whole picture here. When it comes to capitalizing a new biz, and moving assets (cash, fixed, or otherwise) onto its balance sheet from the owners, there are a number of different ways it could all be structured, with each arrangement having different tax consequences. The best structure is very much dependent on the specifics of your situation.

Best of luck,