Should you bootstrap your startup to greatness or take outside investment to accelerate your growth? Making the right decision can determine if your company will succeed and change your payout at exit by orders of magnitude.

The decision is not binary. You can bootstrap to a point, then take investment, or use outside capital to get your business to sustained profitability and growth.

However, once you take institutional VC investment, you are effectively committed to a “high growth at all costs” trajectory.

Venture capital is not an option for many companies. VCs only invest in businesses with the potential for multi-billion dollar exits in a relatively short time. That means you need to be able to deploy capital rapidly to dominate a vast market. If that does not describe you, then bootstrapping is your only option.

When is venture capital clearly the correct choice?

You should almost always try to get VC investment when your company is in a “winner take all” market. If one company will totally dominate while all others are reduced to being tiny niche players, you must grow explosively to get there first. Large venture capital investments provide the cash needed for marketing and hiring far beyond anything that you could afford using just your revenues.

Another clear case for VC is when you need to achieve substantial size before you can be profitable. You can’t bootstrap while losing money. Investors allow you to grow despite generating losses in the short term.

When is bootstrapping clearly the correct choice?

First, the obvious reason, if you don’t qualify for outside investment, bootstrapping is your only option.

Bootstrapping is also superior when you can’t effectively deploy cash for rapid growth. Companies with complex B2B sales processes often find it difficult or impossible to significantly increase sales through spending.

Most VC investible companies fall somewhere between these extreme cases, in which case you have a decision to make. Let’s take a look at some of the things to consider beforehand.

Implications for dilution

A successful venture capital backed company might well have six or more rounds of funding, each buying about 20% of the company. Assuming you also issue options to your employees, the founders will probably end up with something like 15% or less of the company.

When bootstrapping, you can hold onto a much larger fraction of the company. You might give 20-40% of the company to your employees in the form of stock options, leaving 60-80% for the founders.

However, although there are some bootstrapped unicorns, the vast majority grew using venture capital. To some extent, you are deciding between keeping a big slice of a smaller pie vs. a small slice of a potentially gigantic pie. The outcome depends on how much money you raised, at what price, and your final valuation at exit.

What if you have a modest exit?

While most founders and investors dream of a decacorn or bigger exit, most successful exits are far smaller.

VC investments are almost always for preferred equity, which means they have the option to get their investment back (or a multiple of their investment) rather than taking their share of the money.

If the final valuation is far higher than the last round, everyone will be thrilled to take their share. On the other hand, if it is close to or below the previous round, things can get ugly for the founders.

After all the investors take their preferred distributions, there may be little or nothing left for the founders. You could sell your company for $100 million and still end up with nothing to show for it.

In a bootstrapped company, you don’t need to worry about investors taking a big bite of the pie before you get any.

Managerial independence

Many founders worry about being bossed around by their investors.

Control of your company is not just about ownership percentages. In “The 51% delusion” episode, I talked about why you still have effective voting control even if you own significantly less than 51% of the voting shares.

However, investors will have significant influence over the direction of the company. In some cases, they will have seats on your Board of Directors. You also have a fiduciary duty to protect their interests.

That influence is not necessarily a bad thing.

My board was a fantastic resource. They could hold my feet to the fire and force me to thoroughly analyze and defend my proposed strategies. They are also your most active and engaged advisors.

Resources

Investors can bring a level of financial resources you won’t get when bootstrapping.

Self-funded companies are constantly cash-strapped. There is never enough money to do all the development and marketing you want.

Growth can be frustratingly slow, and features take forever to finish.

Once you get to institutional venture capital, the problem becomes how to spend money effectively.

Resiliency

Bootstrapped and investor-funded companies are vulnerable to different kinds of crises.

VCs expect companies to grow exponentially. They will often invest almost limitless amounts of money to make it happen.

However, if that growth slows, the investors might not step up for your next round.

Changing a company built for hyper-growth into a self-sustaining business can be almost impossible. You were in a supersonic jet pointed at the stars and suddenly find yourself pointed at the ground, trying to pull up before impact.

During the 2000 .com collapse, I had a VC-backed competitor with about the same revenues as my company, Anonymizer, but probably ten or one hundred times our burn rate. So when VC funding dried up, they had no chance of surviving while we were able to continue at break-even.

Bootstrapped companies are constantly on the edge of disaster. Without any cash cushion, any bump in the road could become an existential threat to the company.

Anonymizer was largely bootstrapped. We spent about eighteen months with less than three weeks of working capital in the bank during our leanest times. I can’t count the number of times we dodged the grim reaper by the narrowest of margins.

Many bootstrapped startups are not as lucky.

Relationships

Bootstrapping can be a lonely process.

Investors bring more than cash; they bring experience and connections. Partners at VC firms sit on the boards of companies you want to work with and can walk you through doors that would be locked if you were on your own.

A robust advisory board can compensate for that, but they are less motivated. Advisory have much less skin in the game than investors.

VC vs. Angel investors

I have been lumping all kinds of outside investors into a single bucket, but there are some crucial differences between Angels and VC.

Angels may consider deals with the potential for smaller exits if they will not require significant additional funding. Without the dilution, they can still make a respectable return.

Companies that receive only Angel investments are often considered “bootstrapped” because they have not received the massive levels of funding that can come with VC. Anonymizer would fall into that category. We took a total of $2.5 million in angel investments and delivered a strong return because we had minimal dilution.

Bootstrapping vs. VC is not a binary choice

Companies commonly follow a hybrid approach.

Startups may bootstrap while they hunt for product/market fit. Revenue from early adopters allows them to experiment and refine their solution until it has mass appeal.

By waiting, they are in a better negotiating position when they finally do look for outside investments. They have removed much of the startup risk and can command a higher valuation.

You can take a small amount of angel investment to grow your company to a self-sustaining size. From there, you could bootstrap the rest of the way.

Once Anonymizer found the right mix of product and customers, we never needed funding again.

Even VC funding does not last forever, but they typically push for continual investment funded exponential growth until the company has achieved complete market dominance. Often the funding continues right up until the company is acquired or goes public.

Other options

Even if you want to bring in VC funding, they might not choose to invest.

Crunchbase recently reported that out of 8000 angel, seed, or accelerator-funded startups, only 1200 closed an A round. The other 6600 never received institutional venture capital.

Fortunately, there are some other alternatives.

Strategic investors have very different decision-making criteria. Sometimes they simply want your solution to exist and are willing to pay to make that happen. That might take the form of an equity investment, pre-payment, or covering your development costs in exchange for prioritizing their needs.

You can also take on debt to fund your growth. There are government-backed loans in many areas that will provide $25-$50 thousand loans to very early-stage companies to help the local entrepreneurial economy.

Some investors and banks also lend against assets or receivables. But you need some track record and predictability to be a reasonable risk.