
Investment increases your risk - swombat
http://swombat.com/2013/12/27/investment-increases-risk
======
pg
This is the crux of the argument:

"If you raise funding, however, it cuts out a number of the middle options.
VCs will definitely want an exit, and if the exit is too low, this can turn a
fairly decent success into a relative failure for the entrepreneur."

However, in my experience (which is now fairly extensive), this scenario is a
vanishingly rare one.

Raising a lot of money can certainly be dangerous, but not for the reason
Daniel thinks. The big danger in raising lots of money is that you'll spend
it-- that you'll let this pseudo-success (with investors rather than
customers) go to your head, ramp up your spending before the company is ready,
and then put yourself into an impossible position later where you've burned
through the money and need to raise more but haven't achieved the results
you'd need to do so.

In other words, venture funding is dangerous in the same way any power tool
is.

~~~
tptacek
My (recent) experience with friends at startups suggests that in accepting
venture capital and giving investors board seats, you're going to be pulled
hard towards ramping spending: your board will want to see things like a
formalized marketing team led by an experienced VP/marketing, and you'll
quickly find yourself having to argue against spending more money. It's not
just that funding goes to your head.

Also, while I defer to your experience, maybe the vanishingly rare "marginal
exit" scenario Daniel talks about was once more common; the two companies I
was at prior to this one both faced it. Or is it possible that it only appears
rare because nobody entertains the idea of a marginal cash exit for a VC-
funded startup anymore, knowing what a headache it'll be?

~~~
pg
Yes, it's true a lot of VCs will encourage you to spend faster than you
should. I warn about this in essays and in a lot of individual conversations
with founders. But fortunately they can never do more than encourage, because
founders almost never give up board control in funding rounds nowadays, at
least not in the US.

As for marginal exits, I think the biggest reason they're rare is that there
is not that much demand on the buyer side. There's lots of demand for HR
acquisitions of failed companies, and there's demand for high fliers, but
Facebook and Google et al are not looking for small, moneymaking businesses.

~~~
larrys
"but Facebook and Google et al are not looking for small, moneymaking
businesses."

There are for sure many companies (that are not google and facebook) out there
that would be interested in acquiring "small, moneymaking businesses".

A business that makes money can be sold. Period.

I've both owned and sold (both that I've owned and for others) "small,
moneymaking businesses".

Part of the issue really is most likely:

a) lack of effort in trying to sell the business (making the assumption that
nobody will really buy it or that it's not worth the trouble) or

b) the people who work at the business that we are referring to here (startup
lottery) perhaps won't stick around after the company is acquired. So the
asset has dubious value since the most important employees won't be there post
acquisition possibly.

I tend to think that it's more "a" than "b". People are lazy and are looking
for an easy route and if they don't find that easy route or have no evidence
that others have done it any other way (because of their lack of experience in
general business) they assume it's not even worth it to try.

Of course if you want to remove the word moneymaking from the statement....

As a recent example I was trying to help someone sell their "small moneymaking
business" so I sent a cold email to the head of Rackspace. I got a reply the
same day and they assigned people at Rackspace to consider the request (can't
say what obviously). It didn't take investment bankers it didn't take business
brokers it simply took identifying an obvious target and sending an email. If
the email didn't get answered (it did) I would have sent a postal letter or
fedex stating the opportunity. Did the same with a reality tv star presenting
an opportunity. Same thing got a reply and a deal was done. (I guess I write
good emails?) And that didn't even take effort. Of course there are emails
that have not resulted in anything obviously but that didn't make me stop
trying to do deals. Most people get rejected and don't understand the value of
plugging away.

~~~
usaar333
> A business that makes money can be sold. Period.

This should be further constrained to "a business that makes money in excess
of market-rate salaries for all personal and merger overhead can be sold".

Solid programmers in the Bay Area pull over $250k annually in total comp
(salary, bonus, and equity); however, only a few companies can or are willing
to pay that.

You can easily find yourself getting better acqi-hire offers (HR hires) from
Google,Facebook, et al. than offers to actually buy your company by other
players. And since you need to "stick around after the company is acquired",
it is not uncommon for the acqui-hire to be the best exit for for companies
pulling < $1M/year rev (esp. true with VC backed companies where liquidation
preferences are present).

------
soneca
_" Most first-time founders are broke."_ (...) _" new founders should be
looking to decrease their risk, not increase it"_ (...) _" And therefore,
first-time founders should almost never take funding."_

I am a first-time founder, I am broke and I am taking angel money. Because I
am broke! In his line of thought, the OP is not considering "broke" as
actually broke. He is imagining some kind of "broke" where you still can pay
your bills, your food, your rent.

No, I am broke. I have two options for January/2014: (i) get some angel money,
aka, be paid to work on my own company or (ii) get a day job and turn my
startup on a side-project, aka, killing its chances to be something
profitable.

This is not about risk, i am _broke_. No bootstrapping options for me anymore,
this ship has sailed. So, angel money is a much better option. If I make a
success out of this company, even if this does not make me rich, now I am a
experienced founder, with a track-record and, some money. I can bootstrap my
next company with far less risk and even fundraise on much better terms. But
now? I am broke, that's the point.

~~~
swombat
Option 3: Start a business with a business model that allows you to generate
revenue in month 1. It sounds like you're using the funding as a cushion to
protect you from having to build a profitable business _RIGHT NOW_. See this
article [http://swombat.com/2011/12/8/investment-cushion-
springboard](http://swombat.com/2011/12/8/investment-cushion-springboard)

With option 1, you're still going to be broke, but in a year's time, or
whenever your money runs out and you realise you still don't have a business
that makes money.

Nothing focuses the mind on finding revenues like being broke and needing to
make the rent.

(I've been there. I was broke when I started my second business. We raised
funding. Three years later when we ran out, I was still broke. I am fairly
convinced that if we had raised no money we would have been much more likely
to succeed, since it would have forced us into tangible, serious discussions
with our potential clients immediately, and forced us to learn to sell right
away)

~~~
soneca
I completely disagree about "Nothing focuses the mind on finding revenues like
being broke and needing to make the rent." I know that a lot of people out
there believe in this "desperation leads to solution" mantra. But I don't. I
work much better and I am much more focused when I don't have to worry about
bills.

I started to sell my product from month 1, but wasn't able to generate revenue
from month 1. I have a SaaS for restaurants, the sales cycle is longer than a
month, no restaurant (around here) close deals at the end of the year - this I
learned from experience, but also from successfull and experienced
entrepreneurs from the same market; also advised by these successful founders
I am offering a 3-month free trial for the first clients. The advice actually
was "you will only charge after the 10th client, you need social proof first
of all, so give your product for free and then charge after the 10th early-
adopter."

So, there is no way I can be profitable before March or April. Ok, maybe I am
no sales wizard, maybe I am not good enough on this founder thing. But the
point for me is, I am broke, and I already started my company, and I can't
make it profitable. As I can't choose option 3 "go back in time and found
another business" and I am not ready to quit this business, I will take
funding.

~~~
tptacek
Another way to look at this situation is that in the absence of revenue, you
may be kidding yourself about the viability of the business. If you can't
generate any cash from it, how do you know it's a product/market fit, or that
you're capable of executing on it?

You will eventually come to learn that your time is precious, and that wasting
it on an idea that can't be made to work is worse than failing to make one (of
many possible) viable ideas succeed.

~~~
soneca
This is something I worry, but I am still convinced it is not time yet to quit
or pivot. I have 5 clients: 3 are on a 3 months free-trial, 2 are paying about
$80/month, starting in January.

For some context, my product is a loyalty program for bars and restaurants
based on Facebook's check-in. I talked with 50+ restaurant owners, and social
proof is _very_ important. But i also learned that no restaurant is totally
satisfied with my competitors' products. I learned where I need to perform
(final customer's adoption, as it is a B2B2C product). And I am testing my
premises on these 5 clients. These next two months will be crucials to
validate my business. I actually put a hold on sales to take good care of
these clients. If in two months there are willing to pay for it and let me put
their logo and cases on my marketing material, then I have a business. If not,
then it is time to quit (or pivot). Either way, I still need a month or two,
at least, to know if it is a good idea (or if I am good enough executing it).
So I am taking this angel money to validate a promising idea. Sound exactly
what angel investment is designed for.

------
eoghan
I don't generally disagree that first-time founders should think carefully
before raising venture capital, but the example used to back up this statement
is misguided on two counts.

1\. It implies that your VC partner(s) can decide to sell your company without
your wish. For the size of business mentioned here, this is unlikely. E.g.
Even after we raise our next round (Series B), an acquisition can't happen
without the founders' concent.

2\. 2x liquidation preferences are not standard these days. I don't know
anyone who's raised on more than 1x.

I think the author has a relatively refreshingly fair view on raising capital
vs. bootstrapping, but the misunderstandings I've highlighted are typical. For
any aspiring entrepreneur, I can't more strongly recommend you do your
homework before deciding that raising venture capital is not for you.

~~~
antr
IMHO, even the 1x liquidation preference is a clause that screws up the
entrepreneur and the company. If I raise $5m in year 1 and end up creating a
company after 6 years worth $5m in equity value, the VC should take the -50%
hit, but they should not be allowed to screwup the entire cap table,
exit/liquidity options simply because the VC went in at a high price.

This 1x-2x liquidation preference clause is unheard of in any other asset
class, be it debt, mezzanine, etc.; and it's not even used by investment
funds, private equity, and other professional investors.

~~~
tptacek
Then don't take money with preferences attached. Good luck, though, because
preferences correct an incentive imbalance that is extremely concerning to
venture capitalists (that you'll _happily_ accept an outcome that will lose
money for the investor).

~~~
antr
What do you mean with "preferences correct an incentive imbalance that is
extremely concerning to venture capitalists"? and why don't other investors in
other asset classes experience this "incentive imbalance"?

~~~
tptacek
Because investors in other asset classes aren't investing in individual
entrepreneurs with barely-established businesses whose lives could be
substantially improved with low single digit millions of dollars, where the
returns implied by such a reward would also imply a total failure for the
investors themselves.

It's a principal/agent problem. In taking investor money, operators assume
some responsibility for generating returns for them. Nobody would invest
without the promise of those potential returns. But operators incentives are,
absent preferences, actually not aligned with their investors: they would be
better off not trying to generate the returns they promised to try to
generate, but rather to hew to a conservative strategy that is almost certain
not to generate returns but will ensure a golden parachute for the operators.

Preferences correct for this problem, sometimes elegantly: they say "you can
take this money to try to generate the returns you promised, but it would be
irrational for you to use it to build the small exit you promised us you
wouldn't be aiming for."

~~~
antr
"principal/agent" dynamics are no different for other asset classes, and a
liquidation preferences is by no means the best way to align interests.
liquidation preference clauses assume investors have invested at a price where
they see considerable upside in a business/market. Unfortunately, investors,
like all other humans make bad judgement calls, it can certainly be the case
where an (price-wise) aggressive investor prices out an entrepreneur/company,
whatever the funding round, be it seed or Z round. Having said that, it's the
entrepreneurs call to learn and know when to avoid these risks. In the startup
world, caveat emptor applies to both entrepreneur and investor.

~~~
tptacek
This comment isn't responsive. What is the other asset class in which
investors sink large amounts of money into 2-4 individual people with no
established business and nothing to lose? That's where the principal/agent
problem comes from. PE funds do not have the same problem.

~~~
antr
"2-4 individual people with no established business and nothing to lose" is
quite a broad-brush to define how startups and entrepreneurs are. I don't
think that $200k qualifies as "sink large amounts of money". My point
regarding liquidation preference is that this clause is prevalent across all
funding stages, even when the company has an established management team,
considerable cash flow, etc. "PE funds do not have the same problem." I have
disagree with that statement, private equity funds do have big principal-agent
problems (family owned businesses, first time CEOs, strategy, capital
structure, etc), and every time we come across these they are solved with veto
rights over capex, acquisitions and capital structure, but definitely not
pricing other shareholders/management out of the cap table.

~~~
tptacek
This is silly. A $200k deal doesn't come with preferences and if it did it
wouldn't matter anyways, because $200k is a small fraction of even a marginal
exit.

~~~
antr
If you take a number which is for argument sake and call it "silly", that is
fine by me. To argue that liquidity preference clauses are the ONLY method to
avoid the principal-agent problem (and that's not the only reason it's there
in the first place), both you and I know that there are other, more
entrepreneur friendly, methods to go around this issue.

------
viame
Taking funding is ok as long as you write your own rules and the other party
agrees, of course they need to be somewhat reasonable. I also agree that
having some revenue prior would be much better, that way you know what you can
expect in a month, two months, and so on. Of course, those are just business
predictions, but these predictions can be very useful when taking a loan of
some sort. Then you can actually do something like "I need 50k for 1 year @
20% interest, here's my revenue, I will grow this business to x", write a 12
month contact and off you go. Do not give shares right off the start. There
are people out there that will want shares, there are people that will give
you a private loan, there are no banks that will do that (haha), and of course
there is family, friends etc. Just don't f-it up if you're going this route.

I have been working for myself since 17-18, 10 years of self employment. I
have been in the food industry (disaster), construction and web. I have had
every single position at a company you can image. Just now, I think I can run
any business (of course with more failures). I am just not there yet, taking
my time, we'll see what 2014 has for me.

------
morgante
This is an article about return, not risk. Taking VC money in no way
_increases_ your risk—you're not personally liable for that money and a
failure still ends with $0.

I'm not sure whether the change in return value matters enough to avoid VC
money, but I do know that taking VC money absolutely 100% decreases personal
risk.

If you bootstrap, you're investing both your own time and your own money. If
the company fails, you've just lost a lot of time AND wiped yourself out
financially. That's a huge risk.

If you take VC money, you're only investing your time. Yes, you might make
less money off middle outcomes, but you've also eliminated all financial risk
to yourself. There's no way that you walk away from a venture-backed startup
with less money than you had going in.

I don't think anyone should consciously be advising the first option
(bootstrapping) to anyone who is risk-averse.

------
japhyr
This is an interesting conversation to read through, so I made a poll asking
whether people on HN are looking for an exit or building a lifestyle business.
If you'd like to respond to the poll, it's at:

[https://news.ycombinator.com/item?id=6970735](https://news.ycombinator.com/item?id=6970735)

------
ry0ohki
It seems to me:

VC funding = 1% chance of being millionaire

Bootstrapping = 15% chance of being hundred-thousandaire

~~~
sjtgraham
If you want to be a hundred-thousandaire, take the highest paying programming
job in SV or on Wall Street. 100% success rate.

Also, 37Signals. They're bootstrapped and definitely outliers but DHH does
well enough out of it to race Porsches and commission Pagani to make him a
custom Zonda. The sticker price for a production Zonda ran between $1-2MM
depending on model.

~~~
swombat
_If you want to be a hundred-thousandaire, take the highest paying programming
job in SV or on Wall Street. 100% success rate._

Except that doesn't work, because your living costs go up massively, and you
also spend a huge chunk of it on taxes... see the beginning of
[http://swombat.com/2013/7/24/embrace-desire-
money](http://swombat.com/2013/7/24/embrace-desire-money) for some thoughts on
this.

~~~
sjtgraham
I don't know how easy it is to minimise taxes by being a contractor in the US
but assuming you can do so, gross circa $300k/year on Wall Street, and live
frugally (including apartment not in Manhattan, or even NYC), you should
definitely be able to save at least $100k in a couple years. Granted you're
temporarily reducing your quality of life, but arguably you're doing that with
a startup anyway. The point is I think it's possible, not that I think it's
something I would want to do myself.

~~~
hristov
To have a starting salary of 300k/year is very difficult. But if you are a
star you can perhaps get to that after a couple of years. But it is pretty
much impossible to get to that point if you do not live close to your job.
There are people that make that much and more that live in the suburbs but
they are usually the ones that have a lot of experience and seniority. If you
are young and want to make that much money you have to be in the office all
the time you have to have a flexible schedule, which means you have to live in
the area.

~~~
nostrademons
You do _not_ need to be in the office 24/7 to make $300K/year. You do have to
deliver significant business value to your employer. Usually that is more
easily accomplished by working steadily but leisurely, keeping a careful eye
out for what problems really need to be solved that nobody else is working on,
and then solving them quickly and efficiently.

------
tcgv
The title of the article should be:

\- Investment decreases Expected Return [1]

More money won't increase the risk of your business failing, it will simply
decrease your share of the profits if your business succeeds.

[1]
[http://en.wikipedia.org/wiki/Expected_return](http://en.wikipedia.org/wiki/Expected_return)

~~~
tptacek
No, because accepting VC forecloses on a class of exits: the single-digit or
low-double-digit-millions ones, which are the most common kind of exit, and
which would be highly lucrative if you hadn't accepted an investment. You
could accept such an exit after taking VCs, but your share of the profits
won't be so much "decreased" as "destroyed".

Getting to a mid-double-digits or better exit requires a different kind of
execution and a different kind of luck than the lower kind, so, in fact, your
risk does go up, because the bar gets set higher.

~~~
tcgv
I believe we're addressing two different things here. On the one hand I'm
talking about the "risk of business failure", on the other hand you're talking
about the "risk of making less money".

Hence, I agree it makes sense to say that "investment increases the risk of
making less money", which is almost the same thing as saying "investment
decreases expected return".

~~~
tptacek
Again, no, because in practice you won't even entertain those marginal exits:
they will have no upside for you. They are foreclosed upon financially. Your
return on investment isn't merely reduced in those cases; it is practically
eliminated.

~~~
tcgv
Would you care to elaborate how this relates to the "risk of business
failure"? How would taking money from investors increase the risk of a startup
not being able to develop a successful business model and become profitable?

------
theboywho
The startup world is so complex and sometimes random that you can't just come
up with a general rule, add "almost" and think you nailed it.

There is no general rule when it comes to investing and no "almost" is gonna
change that.

Please stop thinking there are general rules to "correctly" doing a startup.

~~~
swombat
I agree with your specific point but not with the general feeling implied. I'm
the first one to agree that all advice is contextual.

However, my observation there is based on the people I speak to. _Many_ first-
time founders that I speak to (in London or parts of the world other than
Silicon Valley) think that funding will reduce their risk. For _most_ , that
is incorrect. Therefore, saying that in the contexts which I've observed, it's
_almost_ never good for first-time founders to raise funding seems like a fair
statement, and useful to most readers in the category of first-time founders
or people thinking of starting a business.

~~~
thirdtruck
I would posit that studies of lottery winners and human psychology could help
predict the behaviors and fates of founders that receive VC-funding.

Founders may have much better (self-selected) odds of success, but financial
management remains a separate skill-set from product/service development and
funding solicitation.

Other studies demonstrate that wealth tends to decrease empathy and influence
the mind in other ways. Whatever their past history, you are dealing with a
_different_ person after they take VC funding. This goes doubly so for
predicting your own behavior, given the intrinsic limits of self-awareness.

This is why I have taken a tiered approach to my own creative projects.

I started with a small Kickstarter, just enough to gauge whether people would
pay for a novel. That succeeded. Even though the funding failed to cover all
the production costs, the several hundred dollars in expenses after that made
for a very cheap education in crowdsourcing.

For my next project, I plan to do an anthology. It requires similar skills to
a novel, but involves working with many more people, more coordination, and
more money. Even if I lost all of my work and had to start it from scratch,
though, it would only put me out a few thousand dollars.

Only after a such few projects, each of increasing complexity, will I take on
even a small-scale video game Kickstarter. By that time, though, I will have
mastered all of the production skills and will only need to ramp up on each.

And the most important of those skills? I will know what to do with thousands
or tens of thousands of backer dollars. That way, even a wildly successful
Kickstarter (and video games are the most-funded category) will require
managing perhaps only 10x more money than before, rather than 100-1000x. I
will already know what I _don 't_ require to get a project out the door.

------
thejteam
"...but being first-time founders, they are already carrying enormous amounts
of risk, because they don't know how to run any kind of business, let alone a
mega-successful high-growth tech startup."

I think the author is right if for no other reason than this statement.
Running a business is hard enough, but taking investment increases the
complexity of the business side of things. And that alone increases risk.

~~~
graycat
> because they don't know how to run any kind of business, let alone a mega-
> successful high-growth tech startup.

(1)For "run", this is a common statement, but I believe that it is
contradicted by oceans of simple observations: The US, coast to coast, village
to the largest cities, is just awash in solo founder, entrepreneur, small and
medium family businesses. Examples include auto repair, auto body repair,
grass mowing and landscaping, plumbing, residential and small business
electrical, roofing, carpentry (e.g., for a deck), swimming pool installation,
dentistry, family practice medicine, restaurants of various kinds from
franchised fast food to pizza carryout, Italian red sauce, French bistro, and
Chinese carryout, a hardware store, a restaurant supply store, a huge range of
_big truck, little truck_ businesses where the owner buys in large quantities
and sells in small quantities, independent insurance agency, medical testing
lab, and many more with variety too large to characterize. E.g., in my
neighborhood the shrubbery around a house was too large. So, a team came in
with a simple chain saw and a few simple tools, and cut way back all the
green, loaded it on a large sheet of plastic, dragged it to some woods, and
piled it where it will slowly decompose into 'soil'. Apparently the team was
recently from Mexico, but they had a nice, new pickup truck.

There are millions of such businesses in the US where the owner, sole
proprietor makes money enough to be a good breadwinner, and the more
successful such owners make money enough for a vacation house, a restored
muscle car and other toys, and a 50' yacht. In my area it appears that the
electricians work four day weeks, i.e., Friday is golf day.

For example, a guy good at managing 10 fast food restaurants can pay himself
over $1 million a year.

Flatly, these business people definitely do know how to "run" their
businesses. Even a guy recently from Mexico, China, or India can quickly learn
how to "run" his business.

(2) For "mega-successful high-growth tech startup", if this is a serious
problem, then there is an easy solution: Convert the business to a mega-
successful low-growth tech startup. Generally conversion from low-growth to
high-growth is challenging but conversion from high-growth to low-growth is
easy.

A guy in business who is able to get plenty of paying customers can get a lot
of advice on how to run a business from bookkeepers, accountants, lawyers,
business insurance agents, bankers, friends, mentors retired from business,
etc. It works, everyday, all across the US, in many millions of cases. It's
putting kids through Ivy League universities, paying for family winter ski
vacations and summer boating/fishing vacations, paying for high end cars from
Mercedes, BMW, Cadillac, Lexus, etc., paying for single family homes at
$500,000+, etc., and rarely with any formal training in how to run a business.

The general idea that _how to run a business_ is really obscure knowledge is
wacko; tell that to a guy doing well mowing grass \-- three teams, each with
about $100,000 in equipment -- with much less than a high school education,
poor knowledge of English, and recently from Mexico without benefit of
_papers_.

If an _information technology_ business can get customers and revenue, then
how to "run" the business is something many millions of sole proprietors learn
on the job and not some secret, black art.

~~~
mcintyre1994
I agree with your general point, and I'm inexperienced in this stuff - but
isn't converting from high growth to low growth going to spook VC investors? I
mean, you're probably right that people can figure out how to run their
business - but is that conversion reasonable with investment?

~~~
graycat
You don't really have to "convert" but from the beginning just don't let the
rate of growth get out of hand. So, if you can't grow fast enough, say, can't
recruit and train new employees fast enough, get more office space, etc., that
is, don't want the headaches of 40 hour days from really fast growth, then
have essentially a 'shortage' of what you are supplying in which case you take
the usual approach of raising your 'prices'. So, at a Web site, ask users to
'register' and limit the number of new users per month. Or if you are selling
something, then just raise your prices. Or if what you are selling is ads on
Web pages, then try to go for better user 'demographics' and, thus, get higher
'click through rates' and, thus, higher 'cost per 1000 ads displayed' (CPM),
etc.

If you have some nice traffic, then hopefully you are cash flow positive or
have enough cash to make do while you hire slowly and carefully and train your
new staff, improve your product or service, handle all the routine stuff such
as business checking account, bookkeeper, accountant, tax record keeping,
trademarks, domain name registration, business insurance, legal issues in HR,
legal issues of using a residence as a business location, get a car for
business use, etc. Then with all that routine stuff behind you, a good staff
in place, and some cash in the bank so that you won't be late on your credit
card payments, etc., then let the growth rate increase, prudently.

I contacted a lot of VCs and slowly learned what they wanted if only from what
they were silent about that they didn't like. About the best feedback I got
was from Menlo Ventures that said that to write a check they wanted to see,
for a Web site business, 100,000 "uniques" per month. So, take that number,
some reasonable usage scenario of a Web site, and a reasonable CPM and do the
arithmetic on revenue per month. Will likely find that the revenue is plenty
for 1-2 people and computers, bandwidth, supporting a small family, etc. That
is, before they will write a check, you must already have a nice business,
likely already better for you and your family than 95% of employee slots. And
for such a business, you might need only one or a few servers at about $1500
each, where a guy mowing grass needs a riding mower at about 10 times that,
plus a trailer and a truck, many times the capital equipment you need. Indeed,
the grass mowing guy likely gets bank loans, and maybe you could do the same
if you maintain good relations with a local banker.

So, you are looking much better than a grass mowing guy; e.g., to grow, he
needs more bodies, but for you to grow you just need to handle the paper
pushing, which is a lot less than twice the work for you for twice the
revenue, etc. and otherwise grow your server farm that works and makes money
24 x 7. Do the arithmetic: A dozen servers kept busy sending Web pages with
ads puts you in the 1% in a big hurry.

If your Web site traffic is high enough and growing nicely, then maybe a VC
will write you a Series A check for $3 million to $30 million expecting you to
rush out, rent offices, furnish them, hire lots of people, use 'real' servers
in racks instead of servers in mid-tower cases you plug together from parts,
have a Diesel generator for backup power, etc.

But, still, if you keep down the growth rate, then you can keep down the
headaches per week and the number of weekends at the office.

A well managed business doesn't have to be a total rat race, at least not for
the CEO: A secret is to divide the work into well defined pieces (as founder,
you are supposed to know what such pieces are), for each piece, hire a head
guy, expect each such head guy to handle his piece, check up on him once a
week, that is, get his 5 minute report and ask him if he needs help from you
and where, and otherwise let him do the work of his piece. If he is getting
his work done and not causing any headaches for you, then enjoy counting the
money in the bank.

The main business challenge is just getting in the customers/users and their
revenue; the main technical challenge is getting the software written; one of
the keys is just having a good business idea that you have executed well
enough. Essentially all the rest is routine until time to sell out, if you
wish, and even there can get a lot of expert advice.

This stuff about 'information technology' is a super nice area of business,
i.e., 'clean, indoor work, no heavy lifting'. Think instead about a guy
killing 5000 hogs a day, chilling down the parts want to keep, getting rid of
the rest in a way that doesn't have the state EPA on your back, the next day
cutting the hogs, putting the pieces into boxes, loading the boxes onto
refrigerated 18 wheel trucks, and driving the trucks a few hundred miles for
sale. Then Excedrin Headache #948,224,395: It's winter and one of your 18
wheel trucks loaded with 40,000 pounds of fresh pork slides on ice on a
highway at a toll booth, takes out the toll booth, injures the toll taker,
wrecks the truck, and spreads all 40,000 pounds of fresh pork on the highway.
Don't expect an MBA program or a VC to help you clean up such a mess! But, not
likely to happen with just a Web site! Instead you get to worry about SQL
injection, easy enough to avoid just by checking out user input before letting
SQL see it or arranging, as is routine, that SQL sees the user input only as
data and not as a T-SQL command! Likely shouldn't ask the IT guys at Target
just how to do this!

------
gpcz
I think this depends on whether you're looking at funding from a business-
centric or founder-centric perspective. The business-centric contention is
that you should only seek funding once you have a business idea that all your
analyses show would be immensely profitable except for your company's lack of
money, since otherwise you're adding unnecessary risk.

Founder-centric organizations like Y Combinator (I've never been funded by Y
Combinator so please correct me if I'm wrong with this assessment) seem to
have different dynamics and motivations. Instead of investing in the business,
they invest in the people much like a college -- realize they are going to
screw up from their inexperience, but give them angel-level amounts of money,
latitude to pivot, and world-class networking opportunities and help.

------
mhp
One consideration is how much control you give away when you take funding. If
you retain control of your board, and generally take beneficial terms on the
funding, it doesn't _have_ to change the way you run a bootstrap business.
Case in point: 37signals.

There are money other examples too. I know a very popular business that is
successful, VC funded and will likely not have an exit because the founders
retain control and they don't want to do that. There are other options
(dividends, secondary markets) that can give liquidity.

------
tomasien
I don't think creating a "startup" style business, with a scalable-repeatable
business model, that is only mildly profitable is particularly common. Either
you can be pretty darn profitable, acquihired (usually brokered by investors),
or fail.

Daniel seems to be talking about lifestyle businesses maybe, and I agree -
lifestyle businesses will be ruined by investors and decreases the odds of a
big personal win far too much.

------
arikrak
It can make sense to take the funding instead of bootstrapping, so you don't
risk losing all of your own personal money. The article didn't really address
that issue.

------
cpks
Investment decreases your risk. Before investment, you have a 50% shot at zero
or negative ROI. You have a 35% chance at salary-level return. You have 14%
chance of a low multimillion dollar return. You have maybe 1% odds at a very
high return -- if you've got a business model this good, you'll be fighting
funded businesses too.

After investment, you have 95% odds of salary-level returns. Investment lets
you pay yourself a salary. Your odds of low multimillion dollar return go to
vanishingly small -- maybe 1% -- unless you're really at the edge, it is
either eaten by liquidity preferences, or bigger. Your odds of very high
return jump up to 4%.

------
JoseVigil
I agree with the authors perspective. You want to give your dream up start
pitching, if you want to make it real start working.

------
jusben1369
"For example, building a business worth £20m is a pretty amazing achievement,
but if you've raised £10m from a VC to get there" Building a business with
little or no funding to be worth 20 million is amazing. Taking 10 million to
build something worth 20 million is an abject failure and should be treated as
such.

------
bushido
The story focuses primarily on external factors that could remove choices and
control from the founders, but it feels a bit one sided, in that Daniel is
externalizing the factors concerning funding.

Hence, I'd like to digress a pit from the story and draw attention to some
internal (mostly psychological) reasons to take funding ... or not.

Drawing from experiences and observations from investment management and
investors behavior (mostly) outside the sphere of start-ups, I can confidently
say, there are polar opposite behavior that results from taking/using/managing
someone else's money.

a) For a fairly large number of people; accepting someone's money brings about
accountability and reduces personal recklessness. These individuals usually
thrive under situations where they are held accountable and appreciate the
benefits of experience, mentoring and someone believing enough to hand them
their money. Sure it may reduce some choices, but the perceived value is
easily offset by the growth and change is life perspectives.

Most people don't quite think this far, but they should. If first-time
founders have seen themselves be more accountability when the burden of risk
lay upon someone else, then by all means they should find investors who would
help them down this path.

To reiterate, the key for this group of first-timers is to find the right
investors/angels for their start-up, Daniel's situation would likely only play
out if they were to hasty to take any money rather than the right money.

b) Then there are the inbetweeners, these are the individuals that do not find
the value in giving up their choices (however limited the scope) in exchange
for the perceived benefits, or lack thereof. Accepting someone else's money
may also be viewed as a burden or source of stress and things not working out
as intended may be viewed as failure or reason to give up.

If they recognize these traits they should be extremely careful when accepting
any funding, and this is the group that would most benefit from Daniel's
observations.

c) On the flip side of the first group are the individuals that are extremely
callous when taking additional risks, over spending, living beyond the
constraints of their current situation when someone else's takes on the burden
of the risk.

I don't want to judge, but I would find it rare for these individuals to not
take funding. They would mostly be the personalities that seasoned angels and
investors recognize or watch out for. Perhaps VCs of the yester-years may have
liked them. I personally see them as more dangerous to investors that the
removal of choices are to their success.

I am sure the psychological profiles are also a good thing to know and
understand when choosing co-founders, and that would be a greater concern than
taking funding, but I'll leave that for another day or another topic.

------
michaelochurch
There is one really strong reason to take VC funding: to eliminate _all_
personal financial risk. See, personal financial difficulty is pure poison and
if you can eliminate the risk of it entirely, then go ahead and work with a VC
to do so.

If your deal with the VC is going to allow you to move seamlessly from your
day job to paying yourself enough to cover your living expenses (say, $10k per
month) running a not-yet-profitable business, then take it and feel no shame.
Yes, the VC is now your boss, but that's OK because you have the security of a
typical job.

Right now, though, the VCs only want to work with people who are already
showing traction and don't need them. That's their prerogative, but that means
that almost no one they want to work with should be working with them. If you
don't need VC, then don't take it. It really is the capital of last resort.

What you should never do is let VCs in to your bootstrapped business where you
already took personal financial risk for over a year. You've put a lot on the
line, while they're taking no break from their cushy $500k++ jobs. It's only
fair, given that comparison of conditions, that they should be in the outer
darkness.

~~~
morgante
Agreed 100% on the value of eliminating personal financial risk.

However, I do think that it's possible to get enough traction for investment
without taking on any personal financial risk. You can build an MVP over
nights and weekends and start selling it enough to demonstrate market need.
For good VCs, that + a compelling story should make them interested.

------
notastartup
This is strictly my opinion.

I keep hearing from people "oh you need funding", "you need to give a way
25~50% for X amount of money", "you need to capture the market".

I just find this extremely annoying. I want to build a business, a profitable
one, by not owing anyone anything. I want to be in control because I am
passionate about the technology and the problem it solves.

What I can see from a macroeconomic point of view, is the previous generations
grasp at innovative output by the younger generation. They are essentially
declaring a "piece of the action" for something they see only as a money bet.
For someone with a billion dollars, spraying six digits to several companies
is not a big risk. Consider how much work that now needs to go in to satisfy
their expectation-go big or go home. This is ultimately bad for the consumer
choice and the economy. Much human capital and time is wasted when good
services and useful product needs to get shelved because they didn't struck a
homerun with the investor etc within the time frame allocated.

I don't want to be part of this mickey mouse game. I want to know what it
takes to build a profitable business from nothing, because ultimately I'm not
in it soley for the money, I want to actually solve problems that I think is
worthy of solving, and I need to be able to do this at my pace.

Leverage from outside money is a double edge sword as all day traders know. It
magnifies profit but it also magnifies loss. I see companies that just keep on
getting money without ever thinking about positive net profit growth, and
instead what the next idiot will think the company will make in the "near
future", however long that is. I simply do not see this working and neither
did Warren Buffet during the dotcom bubble, the idea that share price today is
reflected on by not cash earned today but what it could make tomorrow is
insanity (la nouvelle économie ooh la la)

I too support bootstrapping vs. funding, I mainly feel that the intellectual
value is being exploited by profit at all cost kamikaze capitalism, and I just
wonder how the attitude will change when we see the likes of Facebook and
Twitter collapse in the oncoming market correction, when the next investor
comes along and starts to worry that they won't be making net profit this year
or the next or the next, and that it's a giant pump and dump scheme, where the
victims will once again be duped investors.

