Part VI · Chapter 14 · Founding · lesson 6
Bootstrapping, debt, equity — and what each costs you
13 min
Builds on Margin, mortgages and the forced sale
Part VI · Chapter 14 · Founding · lesson 6
13 min
Builds on Margin, mortgages and the forced sale
Three businesses need 200,000.
The first takes four years to earn it, growing slowly out of its own revenue. The second borrows it and pays back 240,000 over five years. The third sells a fifth of itself and pays back nothing at all.
The third looks cheapest. If the business is eventually worth ten million, the third paid two million for the same 200,000, and the first paid nothing but four years.
Every source of money charges twice: once in currency, once in something else.
Bootstrapping charges in time and in the size of what you can attempt. Borrowing charges in fixed obligation — payments that arrive whether the month went well or not. Selling ownership charges in control and upside, and the bill scales with how well things go.
There is no cheap source. There are sources whose second charge you can afford to pay and sources whose second charge would end you, and which is which depends on the shape of the business rather than on the rate.
Funding growth out of what the business already earns, plus whatever the founder can put in.
What it costs: speed, and the ceiling. Some businesses cannot be built slowly — if the market is being decided this year, arriving in four years with a better product is arriving at nothing. Some cannot be built small — a factory does not have a half-sized version.
What it buys: every decision stays yours, there is no obligation to sell or exit, and the business is under no pressure to look a particular way to anyone. It also keeps the discipline honest, because there is no external money to paper over an economics problem with.
The quiet cost, which nobody puts on the list: founder income. Four years of below-market pay is a real number, it compounds against you, and it is the funding source people forget they used.
Borrowing at a rate, repaid on a schedule, ownership untouched.
What it costs: certainty in the wrong direction. The payment is the same in the month a large customer leaves as in the month one arrives. Debt converts volatility in the business into risk of failure, because a business that could have survived a bad quarter on reduced spending cannot survive one with a fixed payment attached.
Two features matter more than the rate. Security — what the lender can take if you do not pay, which is frequently an asset the business needs to operate. And personal recourse — whether the lender can pursue the founder rather than only the business, which converts a business failure into a household event.
What it buys: ownership. If the business becomes valuable, the lender's claim is capped at what was agreed, and every unit of value above that is yours.
Someone pays for a share of what the business becomes, with no repayment schedule.
What it costs: the upside, without limit, and usually some control. It also attaches an expectation: a buyer of ownership needs a way to eventually turn the share back into money, which means a sale, a public listing or the business buying it back. That requirement shapes every subsequent decision, including several you would otherwise make differently.
What it buys: the absence of a fixed payment. Money that does not have to be repaid in a bad quarter is qualitatively different from money that does, and for a business with unpredictable revenue that difference is the whole point.
Predict
Not the same thing
Money lent at a rate, repaid on a fixed schedule, with a claim capped at the amount agreed.
A share of the business sold for money, with no repayment obligation and an uncapped claim on the future.
Which is which? Put each one on a side.
Funding a piece of equipment with a predictable ten-year life and a known payback
Funding three years of research with no revenue and a binary outcome
Bridging a two-month gap between delivering work and being paid for it
The useful rule is not a preference between the three. It is that the funding should have the same shape as the cash it is funding.
Predictable cash, known payback, asset you could sell: fixed obligation is appropriate. Unpredictable cash, uncertain payback, nothing to repossess: fixed obligation is a way of turning a survivable disappointment into an unsurvivable one.
Most funding disasters are shape mismatches rather than pricing errors. The rate was fine. The schedule met a business that could not promise the months.
Check
Customer money. Deposits, pre-payments, annual billing paid up front. It is funding with no interest and no ownership given up, and the charge is an obligation to deliver. For a business that can sell before it builds, this is usually the cheapest capital available anywhere.
Supplier terms. Paying in sixty days rather than on delivery is a loan from your supplier, priced into whatever you were quoted. It is invisible on any balance sheet as a funding decision and it is one.
Grants and prizes. Money with no repayment and no ownership sold, charged in application time, reporting obligations and a tendency to pull the business towards whatever the funder wanted rather than what customers wanted.