At first glance, getting funding for a startup seems like the obvious choice. Building an asset with someone else’s money is generally perceived as ideal because there’s more of it with lower risk.
Obtaining funding for your company certainly can help you scale faster, but there’s another side of the equation that is much less known. What if your goals don’t include moving to the valley with a potential IPO? What if your end game is stability, or to spend time with your family?
That’s called bootstrapping and it’s about retaining ownership (control) of your company and generating profits. It’s the model we’ve chosen for Hubstaff.
In this growth post, I’m going to delve into the reasons we choose to remain bootstrapped instead of securing funding from outside investors.Learn why @Hubstaff's founders choose to keep their startup bootstrapped and refuse funding from investors Click To Tweet
Investors came knocking first
After building Hubstaff for approximately three years we’ve gotten more than two dozen messages related to funding. When we first started getting them we were excited and would respond immediately. We took it as a sign we were on to something useful that others would want to take part in. We began receiving these calls when we were making less than $15k in monthly recurring revenue (MRR) (this was before we went revenue transparent).
Some of these calls were awesome because we were able to talk with senior-level executives who offered us valuable advice. We spoke about the tools other companies were using, reducing churn, and the industry overall. However, most of the time the person we got on the other end of the phone was a junior associate trying to reach out to a lot of different companies that may be a fit. Most of them asked us to get back in touch once we hit $100K in MRR.
This led to internal discussions between my co-founder, Jared, and I. We aren’t at the benchmark mentioned above yet, but as we approach it we’re starting to wonder why we would need more investments at that point.
All of these calls taught us some important things about funding. These investment firms are looking for proven businesses and operators with limited risk. We get that, but when we reach $100K in MRR what are the real benefits for getting added funding? The majority of the risk would be gone by then. On the flip side, we’d have to give less equity to get the cash. But would it be worth it?
Begin with figuring out what your mindset is
As with most things in life, it’s not black and white. There are advantages and disadvantages to taking funding and there is no right or wrong answer. When making a decision in business, one of the things I’ve learned is to begin with the end in mind and then work backwards.
What do you really want?
What do you want 5 years from now? What do you want 10 years from now?
I have two little boys who are 3 and 5 years old. I want to coach t-ball games, spend time with them playing Legos, and truly get to know them. I don’t want to spend my time commuting to an office and working until 11 p.m. each night. It’s not worth it to me.
When we started Hubstaff, our goal was to have a business that did a few million dollars in revenue annually. We wanted to create freedom in our own lives through the software product that we would build, and the sales that software would produce.
We thought there may be some spin-offs of Hubstaff that we would create together, which could also produce a few million annually, but we never had the intention of creating a massive VC-backed company that was going to be the next Uber. (By the way, kudos to all that Uber has accomplished. We just didn’t choose to go that way.)Startup success is often equated with money and VC investment, but there are other ways to measure it Click To Tweet
The startups that are commonly covered in the news are all raising money, so that may be what the public equates with success. However, there are successful startups (many of them remote) that are profitable and retained 100% by the owners. That’s what we’re aiming for. These businesses are very common, but they don’t often make the news.
Jason Fried of 37 Signals (now Basecamp) put it best when he said; “Look at what the top stories are, and they’re all about raising money, how many employees they have, and these are metrics that don’t matter. What matters is: Are you profitable? Are you building something great? Are you taking care of your people? Are you treating your customers well?”
At Hubstaff, we’re bootstrapped and we’ve got a great feeling of pride from building something with our own funds and those generated from the sales of our product. And we aren’t the only ones. Here’s a list of other companies at 37 Signals that are bootstrapped and proud.
Note: Want to know HOW we managed to stay bootstrapped so long? Read this post on how we pay our contractors.
You don’t need hundreds of thousands to get started
As I’ll get into below, most founders start looking for funding because they think they need it. The investment that Jared and I put into Hubstaff from our own personal funds was $26,000 each. We started with $52,000 to get the initial product built.
$26,000 is not a lot of money to put into a startup, but I realize that not everyone has that kind of money laying around, so what do you do?
Partner with your opposite skill set. This allows you and your partner to do what each of you are good at, and neither of you gets paid until the business is profitable. This is very common. Dharmesh Shah said it well when he said that the optimal number of co-founders for a startup is 2.09. Typically you want someone to cover marketing / operations and someone to cover development. This is the way we work at Hubstaff and it works well to this day (more than 3 years later).
Most of the capital that we used to start Hubstaff was to build the initial desktop apps because neither of us had expertise in that area. I was running the marketing and operations of the company, Jared was building the server side code (ruby on rails), and we had 2 developers building the desktop applications for Windows, Mac, and Linux.
My point is that we built a very complex product that required three native desktop programs to be built for a total out-of-pocket investment of $26k each.
If you don’t have $26k or don’t want to risk it, then you most likely have the ability to raise it from private investors, family or friends. The main point is that you don’t need to raise several hundred thousand in a seed round. Raising a large seed round will take a lot of time and attention that could be put towards your product and marketing instead.We chose to invest our time and attention into the business instead of into getting funding Click To Tweet
Time and attention are one of the big reasons that we have not sought funding to this point, but there are a few others as well.
Reasons that we’ve not pursued funding
- We’re not big enough yet
- We wouldn’t get a fair valuation because we are not profitable enough or growing at a fast enough rate.
- Since we have headcount flat now, as we grow in MRR the multiple builds (if based on profit).
- We wouldn’t get a fair valuation because we are not profitable enough or growing at a fast enough rate.
- We don’t need the money
- We funded this business with past business successes and current consulting income.
- We’re bootstrapped and only spend what the business has made in profits since the initial investment.
- We feel that investing personal funds would have a high ROI on those funds
- If we did need the money, we both believe that putting personal money into the business would be one of the best investments we could make (better than the stock market, real estate, etc.).
- We don’t have an exact plan for the money
- This is a big one. Currently, we do not have a sales channel that allows us to invest X for positive Y return. If we had that model and we could accept funding of X to create Y, we could run the numbers to see if it would make sense to accept the funding.
- We would be looking for a partner, not just silent money
- If we took an investor, we’d be looking for someone that can truly help us grow by leveraging experience or relationships.
- Examples of this type of funding
- We get to control how we run the company and the direction we want to take it without the input of others who may or may not have the same vision / goals.
- Equity protection
- Future ROI
- Looking for investment takes a lot of time and focus away from growing the business
Looking back on it
Let’s try to figure out what life would be like if we had taken on some investment when we were at $20k MRR.
The way the terms work is that there is a pre-money valuation and a post-money valuation. Pre-money is what the company is worth before any third party dollars go into the company. Post-money is what the company is worth after the third party money goes into it.
If you and the investor agree that the business is worth $1M (here’s a great article on how investors will attach a value to your business), and the investor puts $1m into the company, then the post-money valuation is $2M and that results in a 50 / 50 partnership between the two parties. So much of this decision does come down to the pre-money valuation. For example, Uber’s first pre-money valuation was $4M and they were seeking $1M in seed capital (story here).
Here are more examples of what is typical in a seed round from Angel List.
Let’s take a minute to examine what it would look like if we were to have raised the same $1M at the same pre-money valuation of $4M.
Here’s a good article on valuation explanations and formulas.
$1M Investment/.20 Percent of Company = $5M Post Money Valuation
Hubstaff would have had $1M in cash to operate with and would have given up 20% of the company to make that happen.
Here are some of the feelings and thoughts I would have at this point:
- There’s a pressure to get this investor their money back
- We’re tied to them, for better or for worse
- How can they help us grow, let’s figure that out and take advantage of it ASAP if there’s any potential
- How can we spend this money to get the investor a return
The immediate thought in our case is to invest in the product, which Jared and I have discussed before so it wouldn’t be completely new. We would have most likely hired more developers earlier to beef up the product and design. We would have had an iOS app earlier, potentially an invoicing system, shift enforcement, more integrations and a better product overall.
We also would have taken probably 10% of the money and invested in various forms of advertising and sponsorships (making sure to track the conversions and profitability of course). All said and done, we would have probably spent about 10% on advertising to try to find a profitable channel so we could scale up growth.
Would we have been better off with funding?
Many smart people have given me the advice to grow without funding if at all possible. I imagine that people have this thought process for three main reasons:
- Pressure being placed on them by the investors and unnecessary meetings
- The feeling that they got the money, didn’t put it to good use, and now they are not a lot better off in total but have less equity
- The investor pressuring them to take the company in a direction they are not fully comfortable with. For example, the investor may add tasks, distract the team, or won’t let the company fulfill the vision they had set out for in the first place.
I’ve been advised that the best way to do this analysis is to look at where we would be 3 years from the date of the funding with and without the funding.
Here’s a Google Sheet that does just that. This simple plan assumes:
- $1M in funding
- $1k more per month in MRR (linear, 22% increase in new net MRR per month) from an improved product. Increase starts to come in after 6 months of development (July 2015)
- The increase in the development team runs an extra $40k per month starting Jan 1, 2015 and is spent over the course of ~2 years (the rest of the cash raised to be spent on advertising)
- The numbers without funding are our real MRR through 2015 and estimated in 2016 and 2017
- Valuing the company at a multiple of 5x MRR
By the end of 2017, the company with funding would be worth $10.4MM, but we would only own 80% of the company. So owner equity is actually $8.3MM (80% of $10.4MM). Without funding, the company would be worth $8.9MM, but owner equity is worth more since it’s at 100%.
Again, all of these numbers are variable and estimated. I felt that an extra $1,000 in MRR (22% more than without the upgraded product) was fair and what we could expect to receive given the product enhancements. This is also based on linear growth, which has been how we’ve grown so far, so we feel it’s the most accurate model. You can see it here:
What are your thoughts on running a bootstrapped company versus accepting venture capital? We understand that bootstrapping isn’t for everyone, just like getting investments wasn’t for us. Share your stories and advice below.