GrubHubMike

Bootstrapping Effect #3: Attachment

In addition to changing the economics and speed of early business growth, bootstrapping can have a very serious negative side effect: attachment.

I'm all for being passionate about a business and giving it 100%.  In fact, it really should be an obsession.  But attachment; safety blanket, clinging, totally irrational attachment, can really kill a business.  It happens when you grow your baby from a fragile idea to a real business with robust revenues.  Risks become subtly and imperceptibly more difficult to accept. 

Attachment causes stagnation.  Its hard to give proper credence to good ideas once you've put too much stock in the way things have always been done.  The problem is further compounded by the tendency towards less oversight in a bootstrapped business.  Somebody needs to be able to call bullshit on the founders. 

Attachment blinds founders to exit opportunities.  Mergers, investment, and acquisitions all involve a decrease in control.  Its not so hard to convince yourself to go from 40% ownership to 20% ownership for the right deal.  But it can be incredibly difficult to go from 100% to 80%.  There are only 2 options:  One, get used to running a lifestyle business for the rest of your life.  Or two, get used to the idea of giving up a chunk of your business. 

Bootstrapping Effect #2: Competition

Last week I mentioned Valuation as a difference between a bootstrapped business and a seed stage funded business.  Another is competition.  Bootstrapped businesses are more vulnerable to it.

A bootstrappable business model has low barriers to entry.  If you can start selling something within weeks of dreaming up an idea, somebody else can too.  Traditional barriers to entry such as intellectual property, manufacturing capacity or exclusive enterprise contracts aren't feasible without up-front funding.  Of course, competitive barriers are hogwash anyway: hard work is the best competitive barrier. 

The ramp up runway for a bootstrapped business is longer.  It is nearly impossible to capitalize on first mover advantage. It takes a lot of resources to spread out and build an ecosystem around a product.  There is a constant sense of near panic that somebody else is going to come along and overtake your progress by getting funding for your idea.  In the end there will probably be several competitors to battle it out with. 

Competition isn't necessarily a bad thing, though.  A venture capitalist friend of mine said to me last week. "Its great that you are seeing copycats. They are the market's validation of your business."  Sales can actually be easier as well: competitors help adjust the markets expectations.  Further, more energy and interest in a space creates more opportunities for mergers and acquisitions.  Selling out to a competitor is a perfectly good way to get an exit.  Of course, purchasing a competitor that you've mercilessly driven into the ground would satisfy a deeply rooted gladiatorial urge, so that's better. 

Bootstrapping Effect #1: Investment and Valuation

Bootstrapping a business has some effects on getting institutional investment.  A disclaimer here: I'm working from a pretty small sample size: my own experience, and my conversations with other entrepreneurs.  Having said that, I think it boils down to a pretty simple concept.  If you bootstrap your business, you will increase the probability of getting investment while simultaneously decreasing your valuation.

Bootstrapping increases the probability you'll get investment.  If you are a first time entrepreneur with no previous businesses or investment, it is incredibly hard to get funding. From the investors perspective, its very likely a more experienced, better funded executive could duplicate your idea and out-execute you. But, if you've bootstrapped, you've shown that you know a thing or two about business: resource management, initiative, strategic decision making, sales, marketing.  All the things you need to get right just to make the payroll. 

Early revenue does weird things to valuation.  If you don't have any revenue at all, your valuation is based on the addressable market of your product and the executive team's experience and salesmanship.  If you do have revenue, its easier to apply a formula.  Since you are at the initial stages of an exponentially growing business, whatever historical formula you use is going to yield a pretty low valuation. Guess which ones the investors will use in valuing your company?

Overall, I highly recommend institutional investment.  It has required me to learn new skills and improve myself. It has also given me the resources to implement the right strategy. It accelerates the growth of the business.  I also highly recommend bootstrapping first. The goal of the first time entrepreneur is to maximize the probability of an exit.  Bootstrapping -> Investment is a great track to take to get that first big exit.  Even if that means it will be bigger for the investors than it will be for the entrepreneur.

Bootstrapping Series: Hire Slow

I've been going on about getting the right people: partners, advisers, and first employees. But how do you actually figure out who the right people are? This is the most important thing a founder does in a company.  The key principle is to be very demanding and deliberate in the hiring process.

Cast a wide net:  Basic supply and demand dictates that the larger the number of applicants in the pool, the higher the quality of the final candidate. 

Cast a quality net: Be intelligent about posting locations.  If you post on craigslist, you are guaranteed to have applicants that can use a web browser.  Posting on your own website's careers page gets candidates that are interested specifically in your company.

Present your company honestly: The best candidates are evaluating your business at the same time you are evaluating them.  Make sure to have a clear description of the job and the nature of the engagement the candidate will have at work. Be prepared to show revenue projections and talk about the health of the business. 

Setup Brutal Filters:  Be objective about what qualities you want and don't want.  Send an email interview that requires some work to respond to.  Give preference to candidates that care about presentation of their answers.  Consistent typography in email responses is a good sign of attention to detail and pride in work product. Be slow to respond to emails.  Give preference to candidates with enough initiative to follow up.

3 or 4 interviews: Email, Phone, 1 or 2 office interviews.  Make sure the candidates are really committed to getting the job.

Ask for 10 references: If the candidate can't find 10 people to vouch for them, its a bad sign.  If they don't feel like putting in the work to dig up the contact info, its a death knell. Don't hire people who won't work for what they want. 

Admit mistakes quickly: In the unfortunate situation where you've picked an inappropriate candidate, its best to go your separate ways quickly. Don't drag it out.  This represents a failure of your job as an employer, not a failure on the employee's part.  Any time you need to let somebody go, you should be outrageously mad at yourself for letting the situation happen.

Bootstrapping Series: Hiring First Employees

We just explored surrounding yourself with good people.  But how do you start? Hiring the right first employees is critical.  The first few folks at a startup are entrepreneurs in their own right.  As such, they are motivated by different things than employees at a big company.

First off, since you are bootstrapping your business    , you aren't going to have a lot of cash. The implications are clear. You won't be able to pay market salary or benefits for the people you hire.  First, get comfortable with that.  Get comfortable that your idea is good enough that you are willing to ask another individual to incur an opportunity cost.  Then figure out what you can offer them in exchange.

The most obvious value you can give an employee other than cash is equity.  Its ethically important to give a substantial percentage here because if you take investment later, that percentage will be diluted.  On the other hand, if you don't take investment, the path to exit is much longer, so a big percentage is still appropriate.  Another thing to be aware of is vesting schedules. The options should vest over the period of time that you expect an employee to work.    Finally, make sure that the employee values equity.  There is no point in compensating somebody with something that they don't value!

In addition to options, work environment is very important.  Flexible hours, beer at lunch, no dress code, a big say in the direction of the company, lots of responsibility.  These are the things that really matter to a startup employee.  Don't undervalue them.  They don't last forever, and they are extremely valuable in the early stages of a bootstrapped company.

Finally, at all costs, avoid ongoing residuals as compensation.  Paying salespeople on commissioned residuals seems like a good idea, but only for the first few months.  These payments represent a huge liability.  Any sort of ongoing commission should have an expiration.  Anyone who has projected profits over a long time frame has seen how much this kind of compensation structure can limit a businesses growth.