Bootstrap or Raise? Why Not Both?
Had a great conversation with a founder who’s taking a hybrid approach to capitalizing his company. He raised a small amount of initial capital and used it to build the early version of his product. He’s been acquiring customers and fine-tuning the product based on feedback, in search of a product–market fit. Instead of raising more capital, he has his customers sign one-year agreements and pay for the entire year up front. The company is cash-flow positive and can stay afloat without raising again as long as it continues to acquire customers. The founder is thinking about raising a large round to accelerate growth once the business achieves product–market fit.
This founder’s capitalization strategy is interesting, and it’s working well for him. He raised capital to get off the ground but began bootstrapping the company after the investor capital was spent and the product launched. Customer revenue is the cheapest and best source of funding for a company. The challenge is getting enough of it to fund investments in future growth, which this founder is doing with annual up-front customer payments.
I like this founder’s approach, and I’m looking forward to watching his journey. I’m sure he and his team will find more creative ways to build a big business!
Company Equity: A Few Things to Know
Today I had independent conversations with two founders about founder equity versus investor equity. Founders usually set up only one company, so they often need to rely on other people’s advice. A few things I shared with these two founders:
- Common shares – Common shares are usually issued to founding team members who actively work in the business—ideally full-time if the business can pay salaries. It’s a good practice (and a requirement of many investors) that common shares issued to founders be on a vesting schedule.
- Preferred shares – Preferred shares are usually issued to an individual or organization that injects capital into the company but doesn’t actively work in the business. Preferred shares have a stronger claim to company assets than common shares do. Preferred shares issued to investors are usually not on a vesting schedule.
- Cap table – A cap table details who owns what amount and what type of shares, how much capital investors put into the company, and other details regarding capitalization of the company. Many founders do this in a spreadsheet because it seems easy enough, but small mistakes can be extremely costly down the road. Using—as early as possible—software like Carta or LTSE Equity (formerly known as Captable.io) is highly recommended.
Every company and investment has its own nuances and circumstances, so the info above isn’t set in stone. It’s just a high-level starting place for founders. Company equity and cap tables are important and something founders should pay close attention to. It’s worth spending the time to do research or ask others if you don’t understand something related to these topics.
Founders Who Need Liquidity Don’t Have to Exit
Today I read an article that detailed how individuals borrow against their assets. The piece goes into detail about how and why to use this strategy, but one section jumped out at me. It gave examples of founders and senior executives who’ve borrowed against their company stock to access cash while maintaining their ownership stakes. A few months ago, I shared my thoughts on founders derisking without selling the company. This article highlights another path for founders to consider.
Building a company often takes many years, during which founders take low salaries. It’s understandable that founders may need some liquidity as they transition through life stages while building their companies. Selling the entire company isn’t the only path available to them. The examples in the article include founders and CEOs at FedEx, Tesla, and Shift4Payments, all of which are publicly traded companies. Many founders won’t have the same options available to them as those folks do, but the examples are still food for thought.
Founders shouldn’t let concerns about liquidity limit their visions or how big they dream. If they want to swing for the fences, they should! They can rest assured that there will be opportunities to access capital along the way.
More Investors Will Be Buying Small E-Commerce Companies
Yesterday I predicted that we’ll see a record number of e-commerce businesses sold this year. I shared why I think the timing is opportune for many founders to sell. A friend pointed out that it takes two sides to complete a transaction and my post didn’t address the buy side. He’s right.
I believe significantly more buyers will be looking to acquire e-commerce businesses doing less than $10 million in annual revenue. Here are my reasons:
- The pandemic accelerated the shift to e-ecommerce, and this trend will continue. Buyers who want to participate in this trend but don’t want to spend time catching up and building something from scratch will be interested in buying a business.
- We’re in a low-interest-rate environment. Cash is earning nearly nothing, as are savings accounts and other risk-free investments, so people are looking for other investments to earn returns on their money.
- Many other asset classes have appreciated significantly in the last year and a half. We’re at peak prices historically for many asset classes, and some investors aren’t sure how much upside appreciation is left. Multiples on businesses have increased as well, but a small business in a large market that’s growing quickly has the potential to appreciate significantly.
- Finally, sophisticated investors are raising large sums of money to buy these businesses.
E-commerce businesses have historically been viewed as less sexy than other types of businesses and have received low multiples. I think that will change this year!
Payment Terms Matter
Many founders focus on sales, and rightfully so. If a company can’t get customers, it won’t be around long. So founders spend lots of time trying to get customers to agree to use their product or service. An equally important but less-discussed topic is payment terms. How customers pay can be just as important as what they pay. This is especially true for early-stage companies that don’t have an abundance of cash.
I’ve talked to a number of founders who readily share their sales metrics. As I learn more about the business, I like to get an understanding of how quickly they collect revenue and how payment terms are structured.
These is no one-size-fits-all approach to payment terms, but here are a few thoughts:
- Prepayment in full – If you can get customers to pay in full up front, you’ll have the best source of capital. You’ll be able to avoid paying interest on term loans or giving up equity to investors. If your product or service creates a ton of value for customers (they’re begging for your solution), see if any of them will bite. Make sure you (or your accountant) keep track of how much of your cash is from prepayments.
- Deposits – I think of deposits as partial prepayments. The customer’s putting some skin in the game. Deposits can be structured in various ways. It’s common for companies to require a deposit that’s a specified percentage of the total before doing any work. They’re not as good as full prepayments, but they can help companies avoid borrowing and identify problem customers early.
- As you deliver – This is a good approach to aligning costs with revenue. It can be done in a variety of ways. The founder of a consultancy told me that he includes a payment schedule in agreements. He knows exactly how much he’ll be paid and when. This ensures that he’ll get regular revenue to help pay the teams doing the work and avoid cash crunches. It also motivates clients to keep projects on schedule. If they drag their feet, they risk fully paying for a project that hasn’t been delivered.
- After delivery – It’s common for a company to fully deliver its product or service and then request payment after the fact by sending an invoice to the customer. Large corporations love these types of arrangements and often ask for terms of ninety days or more. This means they’ll pay you three months or longer after you deliver and invoice them. This can put a huge strain on cash. If you’re a product company, you likely have to pay for inventory and pay your people before you deliver. If you’re a service company, you still have to pay people and other costs before you deliver. If you allow customers to pay after delivery, you need to assign someone in the company to monitor how much each customer owes and collect payments on time. Customers are already enjoying what you’ve delivered, so it isn’t uncommon for them to “forget” to pay or pay late if they know no one’s paying attention.
Cash is king, and founders should always know how much of it they have. Raising capital from outside parties is one way to make sure the company has ample cash, but strategically structuring payment terms is another approach that can be very effective.
Apple Might Be Your Next Bank
I recently replaced an Apple product. Having not kept up with their products for the last few years, I did some research. As I read their website and spoke with their customer service, I observed several things. The main one: Apple is edging into financial services.
- Trade-ins – People can dispose of an old device and receive a credit toward the cost of a new one. Reminds me of the car dealership business. I suspect this is handled by a third-party company behind the scenes, but it’s still a smart way to make products more affordable without using discounts or sales. The brand integrity is maintained. I’m pretty sure this reduces the average time between device upgrades.
- Financing – New purchases are eligible for 0% interest for a year if the customer signs up for Apple Card (more on this). This stretches the cost of a sizeable purchase into digestible monthly payments, making the products more accessible to more people. If you can afford the monthly payment, you can get a device now instead of having to wait until you have the cash for the full purchase price, and you don’t have to pay interest for a year. More importantly, this is an ingenious way to introduce consumers to the new Apple Card product.
- Apple Card – This is a credit card product, but done the Apple way. It offers a lot of things consumers value, such as cash back and no fees. The software and user experience appear to be very different than those of traditional credit cards. It integrates tightly with Apple devices and services that consumers already use every day. iPhones conditioned people to think of Apple as a company that helps them communicate. Apple Card will likely kick-start people into thinking of Apple as a company that can help them manage their money. If Apple builds a significant financial services business, this product will have paved the way.
- Apple Pay – This product is focused on making it easier for consumers to pay. It’s a mobile payment and digital wallet service. It’s been around since 2014, so it’s not new. It has gained traction. It positions Apple between consumers who love their devices and merchants who want to sell to those consumers. I noticed that Apple Card offers a 2% cash back on charges made via Apple Pay. Another great way to entice consumers to use multiple products.
Apple is a strong company whose hardware and software have heavily influenced our society since the release of the iPhone fourteen years ago. I suspect financial services (in addition to other unannounced businesses) will further solidify its role in consumers’ everyday lives. If it’s successful, I can see a day in the future when people will think of Apple as a place to go for help with managing their money.
Bootstrapping: Full-Time, but Not Really
I lived the bootstrap life with my company and learned a lot. It has pros and cons that founders should consider when deciding whether it’s the route they want to go. One of the things I regularly encounter is the full-time team taking no salary.
Building a company is hard. It takes a lot of time and effort. Naturally, you want your team to be focused. This usually means you want them to be working full time on your startup. This sounds great in theory, but it often doesn’t work in the real world. If the team is working full time with no salary (i.e., for equity or deferred cash compensation), they still must fund their lifestyle. They need cash. Some people are fortunate enough to have cash reserves, but most don’t want to burn through their savings. What usually happens is that your team starts doing things on the side for cash as they go longer without pay. As people start doing side things, they lose some focus. As they lose focus, things slow down a bit. As things slow down, people get frustrated. You see where this is going.
Bootstrapping is a good path in certain situations. I did it (albeit painfully) and built my company to over $10 million in revenue. I also personally went without pay and couldn’t afford to hire the people I needed for long periods of time. Founders should avoid asking people to work full time without a salary if that’s going to last for a while. It’s usually not sustainable, and talented people with options (including cash) may be less inclined to accept these types of offers.
$100K Investment from Outlander
Outlander Labs held a virtual pitch competition today. It was an opportunity for innovative startups in the Southeast to compete for a $100K investment. Lots of great applicants were whittled down to these six finalists:
- All Access Advance – Nashville, TN – A platform for managing touring artists, venues, and events in real time from a single dashboard
- City Shoppe – Austin, TX – A two-sided marketplace and software platform that helps consumers “shop their values” and helps local brands and retailers get discovered and reach a larger audience
- Linguix – Miami, FL – An AI-based writing assistant and language learning engine
- OrderNerd – Atlanta, GA – A platform for restaurants that consolidates third-party online ordering platforms onto one pane of glass
- Prospectus.ai – Charlotte, NC – A sales intelligence tool designed to create an internal relationship graph that companies can leverage by making introduction requests that will generate warm leads
- SportAI – Birmingham, AL – A mobile app integrated with AI that optimizes your fantasy sports lineups and, more importantly, helps anyone understand fantasy sports
The founders did an outstanding job pitching, and I enjoyed hearing about their companies. Can’t wait to track these companies—I’m sure they’ll all do amazing things.
It was a tough decision, but I’m happy to announce that City Shoppe was the winner! Congrats to City Shoppe and to the other founders for building interesting companies.
Borderless Recruiting Is Tough for Some Founders
I connected with an early founder I’ve known for a few years. He recently completed raising a round of venture capital and is excited to get back to building his company. We talked about all the things that are top of mind. Naturally, recruiting headed his list. He finally has the capital to hire the people he needs to support growth. Unfortunately, he’s facing something he hadn’t planned on. “Recruiting in this work-from-home environment is hard. I can’t afford anyone.”
This founder is in a second-tier city where salaries are historically lower. His fundraising assumed that he’d pay market rate for new, local hires. But the work-from-home movement hasn’t eased, and it’s hindering his recruiting efforts. He finds himself in a situation where he’s competing not just with other local companies but also companies nationwide. Some larger companies are offering salaries and benefit packages he can’t come close to. This wouldn’t have mattered before, because these companies used to want their people to live near the mother ship. People who didn’t want to relocate often took jobs that paid less. Now, larger organizations are allowing employees to work from home, which has expanded the reach of their recruiting efforts.
We’re in a very early phase of determining what work will look like going forward. It was interesting to hear a firsthand account of how it’s affecting one founder’s efforts to build his team. I’m not sure how this will play out, and I’m very interested and will be watching it closely.
Where Are the Women’s Liquidity Events?
I shared my excitement about where Atlanta is headed in this post over the weekend. I’m excited to see numerous founders complete eight- and nine-figure liquidity events. I’m even more excited that they want to give back and help emerging founders. And I keep thinking about this founder group.
From a race perspective, Atlanta is unique, and I love that. A group of diverse (non-white) founders have sold their companies or raised funding rounds of eight or nine figures. That’s huge and a testament to what makes the city special. I personally know some of these founders, and it’s an amazing thing to see up close. They’re inspirations to so many other founders of color not only in Atlanta but around the country. In Atlanta, they help provide much-needed proximity to success for diverse founders. I have no doubt that their success will lead to many others being successful.
It struck me, though, that I know of only one female founder who’s exited or raised eight or nine figures. I can name a few men who’ve done it in the last eight months, but women? One in the last 5 years. I reached out to an investor and founder to find out if I’m missing something or just out of the loop. They both confirmed this is likely accurate (although a few women have raised seven figures—I commend them!). Atlanta is full of amazing female founders, so this realization is extremely disappointing.
People way smarter than me have put in years’ worth of groundwork in Atlanta to address this problem, and I salute them for those efforts. I’m looking forward to being part of the solution as well and can’t wait until Atlanta’s female founders are experiencing eight- and nine-figure acquisitions or capital raises!