Is the VC Model Over-romanticized?

 

Venture capitalism is a growing, glorified model, especially here in Silicon Valley.  For those unfamiliar with Venture capital, it is a type of private equity, a form of financing, that is provided by firms or funds to small, early-stage, emerging startups [1].

When starting a company there are typically two routes to take:

  1. Seeking outside funding from VCs or likewise
  2. Bootstrapping a company by self-funding or raising money from family and friends

So how do you decide which one is right for you emerging company.  Let’s take a look.

vc

The VC Business Model

There’s a reason why the VC model is romanticized.  Many successful companies have received outside funding early on and it’s a great way to accelerate growth.  Such companies include Facebook, Snap Inc, Uber, and many others.  If you have a solid MVP, have gained early traction in your desired market, and have a clear reason for needing funding (need to hire additional developers/salesmen, technological expenses, marketing, …) it could be a good route for your startup.  Receiving funding also gets you great publicity and validates your idea/company making it easier to make those initial sales.

So what’s the downside?

In a typical deal, investors don’t get their money back until there is an exit (going public or selling the company).  Because of this, investors will often try to accelerate growth, sometimes to a point that is not healthy for the company.  Most [launched] companies fail because they burn through investment money in an attempt to grow and hit benchmarks, just to find out no investors want to contribute to their next round causing the business to fold.  During a recent interview featured on Indie Hackers,  Bryce Roberts of Indie.vc touches on this idea that your company’s fate lies in the hands of the investors.

“The best competitive advantage is not going out of business, and so if you don’t have to ask permission from an investor to stay in business, there’s a much higher likelihood that you’ll be around long after that press release is old news.” – Bryce Roberts, Indie.vc

If you peruse Crunchbase and look at companies that have taken funding you’ll notice a common trend.  Very rarely do you see companies that raised a Series A round then became profitable and never raised money again.  The VC model almost expects  companies to continually raise more and more rounds until some sort of exit.  Series A is enough funding to get you to Series B, Series B to C, and so on.

Going back to investors trying to steer the company in certain directions, John Mackey, founder of Whole Foods Markets, took funding early on and had a few opinions about the experience.  In an interview published today by NPR, John compared venture capitalists to hitchhikers.

“Venture capitalists are like hitchhikers – hitchhikers with credit cards – and as long as you take them where they want to go, they’ll pay for the gas.  But, if you don’t… they will try to hijack the car and they will hire a new driver and throw you out on the road.” – John Mackey, Whole Foods

 

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Bootstrapping

Let’s look at the alternative – bootstrapping a company.  This can be a good viable option if the market you’re entering isn’t winner take-all, your startup costs are manageable, and you can build a majority, if not all, of the product on your own without hiring a team.  Courtland Allen has been a strong proponent of the bootstrapping movement and has developed great resources to help founders in the early stages on his site, Indie Hackers.

As a bootstrapper, since you’re the only investor, you own 100% of the company, or probably close to 100%, and therefore revenue that may be nominal to a company with funding is actually a pretty good return for you.  You can grow the company at your own pace and ultimately you decide if/when the company folds if it comes down to that.

So what’s the downside?

Without funding you need to focus on sales early on.  To be sustainable, bootstrapped companies need to generate some sort of revenue, which can be both a curse and a blessing.  It may be hard to begin selling when you feel you don’t really have a tried and tested product, but starting to sell early can help shape the product to be something customers actually want and are willing to pay for.

Some investors can provide other useful resources, more than just funding, so starting your company without that external support may be difficult or feel isolating, especially if you’re a solo founder.

The process can be very slow.  You might not break 2k/month in your first year, which may be devastating for some founders coming from a cushy six figure job in the Bay Area.  There will be many trials and periods of doubt that could otherwise be subdued by a reassuring bank account.

Which is the Right Choice?

As with any decision, there is no right or wrong.  It really comes down to your goals, the market you’re trying to enter, and your current situation.  I personally have a bias towards the bootstrap model, but that’s mostly because Cloud Campaign isn’t in a winner take-all market, IMO.

No matter which route you decide to go, just know that you got this, and don’t be afraid to reach out to your community for support or advice.  Likely many people have been in your shoes before and are willing to help if you’re willing to put in the effort.

Til next time,

– Ryan

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