AS I MOVED THROUGH THE planning stage of my new business startup, I had a long and growing list of needs to consider. First, I needed an above-entry-level phone system; the system would be one of my closest links to customers, so it had to be high quality. Next, I wanted to enter the marketplace with the perception that my business was bigger and more established than it really was, so I was going to need to pull together a big four-color catalog. What I really needed was an extra pair of hands—actually several extra pairs of hands. At minimum, I’d need a graphic designer, a sales director, a marketing manager, and someone to work full-time during the week while I was still working at Educational Resources. I also needed a home base of operations where someone who knew the business could take calls during the day. My house wasn’t suitable for housing the business, and while Lisa was on board, she wasn’t going to answer customer calls regarding technology she knew nothing about. As I considered the list, I realized that every item on it was actually just part of the one large, looming need shared by all new entrepreneurs: money.
As you wade into the first stages of your own Startup phase, money will play a central role in your plans, too. You have several options open to you for funding your new venture, and we’ll talk about many of them in this chapter. But remember that, as an entrepreneur, you are the ultimate source of all of your organization’s funding, wherever the money comes from. That’s because funding your startup will be your job, and it all begins with selling—your idea, your plan, and your ability to make it all happen. Whether you’re pitching your idea to a potential investor or to a potential employee, your ability to translate your passion into an articulate, compelling, and clearly outlined plan for success will determine your ability to gather the resources you need.
When you’ve chosen a funding source, all of your subsequent planning (and much of your selling) will be targeted toward gaining the source’s buy-in. In this chapter, I’ll talk about determining which type of funding source is most likely to respond to your business idea so you can customize your funding search to appeal to that source. And because landing your startup funds isn’t an end goal, this chapter also offers ideas for creating a strong, workable plan for managing the funds you acquire. Money management, during the Startup phase and beyond, will draw heavily on your skills in both frugality and innovation. I’ve capped this chapter with a short history of my early experiences as a “frugal-preneur.” As you’ll see, I’m a big believer in frugality, but not just because it saves you money. Yes, money matters; as an entrepreneur, however, frugality—not money—can provide the most fertile ground for growing your creative skills and energy. The lessons you learn in money management and frugality during the Startup phase can continue to spur success as you move through the Running phase of your business and on to a profitable Exit phase.
Of course, money is just one of the resources you’ll need to gather during Startup. In the next chapter, we talk about bringing in partners and human resources, and there, we’ll talk more about the first partners who joined me in the early days of planning and launching my company. But I want to begin this chapter by telling you about a few who didn’t join me, because that story is all about money—and the choices we make in using it to launch a new business.
When I first began approaching people about joining my new company, I had nothing to show or offer other than a dream. What I shared was an idea for a business along with a rather extravagant exit plan with no specific time frame. I felt strongly that our early entry into the college market would result in rapid growth and, eventually, attract the attention of Fortune 500 suitors to purchase our company. I provided realistic scenarios as to how my vision would unfold, and I did so with a level of compelling and captivating exuberance that came straight from my heart. I was painting a scenario that had less than a 1 percent chance of becoming a reality. My passionate message was fueled, however, by the power of the entrepreneur. I believed in my idea, and I wanted to share it with others who could join me in bringing it to life. I was being genuine and nonmanipulative, but my entrepreneurial pitch was powerful.
That power and passion had helped gain the buy-in of the first two people I had approached about joining my business. But I still needed to fill two vital roles: I needed a marketing manager and a sales manager. There were two people at Educational Resources that I knew would be excellent candidates to fill these positions. I decided to take a risk, confide my plans to them, and ask them to come on board.
My biggest concern was the sales manager position. During my time at Educational Resources, I hadn’t had much real exposure to selling, even though my efforts helped drive sales. I had never worked in sales, and I was a bit intimidated by that whole area of business. Setting sales quotas, creating commission plans and sales strategies, managing the reps—every aspect of sales seemed to be part of a closed universe in which I had no expertise or talent.
To fill that critical role, I turned to one of my former product managers, Dan Figurski, who had moved into an inside sales manager position at Educational Resources (and would eventually become its president). Dan is a character: an extremely personable guy with a great sense of humor, the kind of guy everyone enjoys being around and who can talk forever about nothing. While we often jokingly called Dan a “classic bullshit artist,” he was a good communicator and formed strong connections with ER’s customers. If Dan went out on a golf outing, he’d come back with a sale.
For the marketing position, I was hoping to recruit another ER product manager, Nancy Ragont. Nancy is a very talented and confident professional with an incredible drive for success. I knew that Nancy wanted to advance. She was looking for more responsibility and greater challenges than she had in her current position. Nancy was a master at the marketing game; she knew products, she had the contacts, and she could put it all together.
As I said, I was taking a chance by disclosing my idea for forming a new company to Nancy and Dan, but I approached them with confidence. All of us had talked together in the past about our dreams of becoming entrepreneurs, and we had developed a close and trusting relationship in our work together at ER. I explained to them that I intended to bootstrap my business, using my own funds to launch the business, rather than taking on debt. We discussed the roles I wanted them to fill and, as a result of my limited funds, the offer of equity in the business rather than a guaranteed salary during startup. I was excited at the prospect of working with these two friends and colleagues, and felt almost certain that they’d be equally excited to join me in my new venture. But I was wrong; both turned me down.
The problem wasn’t that they doubted the strength of my idea. In fact, they were very engaged and receptive to the proposal. Their main concern was that I had no startup funding for the business. They weren’t comfortable with foregoing a salary for an undetermined period of time while the business ramped up. In other words, they doubted my potential for success based on the bootstrap financing approach I had presented. I understood their reluctance to join me in my new venture, but the loss of my potential sales and marketing partners brought home a painful reality to me: I was going to have to wear both of those demanding hats during the critical Startup phase of my business.
I suppose I was pushing my luck in thinking I could convince these two very talented individuals with very secure, well-paying jobs to come work for nothing but a dream and a promise. Their decisions to pass on my offer made me question whether I wasn’t as daring an entrepreneur as I had thought. Was I conservative to a fault? I could never afford paying salaries for these individuals right out of the gate with no immediate revenue stream, but having them on board would certainly propel the business forward. I could have investigated a bank loan to secure funding, or I could have dug deeper into my personal savings to offer them a salary. Did the fact that I hadn’t done that indicate that I was less than fully committed to my dream? Was I jeopardizing my future success simply because I had an ingrained (and maybe unwarranted) resistance to taking on debt?
You’ll have to answer some of those same questions during your Startup phase as you weigh the options for funding your new business. Maybe, like my father, your parents hammered into you the idea that debt is a bad thing, to be avoided at all costs. I hate to argue with my elders, but that idea isn’t always accurate when it comes to business. Well-managed debt can sometimes be the best investment you can make in launching an entrepreneurial venture or even during some stages of running a business. Think about it: no garden will grow without some kind of investment. Sure, planting the seeds may not cost much, but getting those seeds to grow requires a sizeable outlay of time, labor, water, fertilizer, weeding, adequate sunlight, and protection from outside forces (you know, those nibbling bunnies). Launching your business will require an incredible investment of time and money—and, as the saying goes, time is money, especially when you’re in the early stages of growing a new venture. It would be a shame to allow your new business to die on the vine because you’re philosophically opposed to debt.
By not taking on debt, you might be doing your seedling operation more harm than good. Inadequate funds can restrict your organization’s development, just as a failure to fertilize your garden can stunt its growth. I made the very personal choice that sweat equity was the wisest funding choice for my new business, as opposed to taking on debt. I have always been a hard and independent worker, and I felt relatively certain that, no matter how grueling or difficult the work might be, I could “do it all” in the beginning; my choice to self-fund meant that I had to.
In the end, I stuck with my original self-funding plan, I made it through the period of wearing too many hats, and my business went on to be a success. But that doesn’t necessarily mean that I made the right choice. That’s why I want to emphasize to you that you need to carefully weigh the costs and benefits—both short term and long term—of whatever type of funding you are considering (we talk more about that later in this chapter). Money has power, it’s true; but to be a successful entrepreneur, you have to learn to take charge of your money and control it, rather than letting it rule your every decision.
Many people think money, or rather the lack of it, is the greatest obstacle to launching a business—and it is a big one. As I said earlier, though, the most important element in funding your business will be you and your ability to sell your idea.
The vast majority of startup businesses, like mine, will be self-funded by the founder or from a small pool of relatives or close friends who dip into their personal savings. If you aren’t going to foot the bill for your startup yourself, you are going to have to solicit funding. That means you are going to be selling (in some cases, to strangers), and the primary “product” you’ll be selling is you. Your idea has to be solid, but the idea exists only in your head at this point. Only your passion and confidence in that idea can convince someone to entrust their money or time or other resources with you. Successful deal making is nothing more than the transfer of enthusiasm and emotion. And remember: everything we humans do is driven in some part by emotion.
People want to be a part of passionate undertakings. If you can convey your passion effectively to others, they’ll find themselves naturally drawn to your ideas. Many entrepreneurs don’t realize the kinetic power they command until later in their entrepreneurial career, but it’s there from the beginning. For investors, passion conveys confidence and dedication, essential qualities for launching a new venture. Many entrepreneurs exude strength, determination, and commitment to making their ideas a reality. This is the almost pheromone-like lure that attracts investors to the entrepreneur.
Don’t misunderstand me: charisma alone won’t be enough to obtain funding. This is when all of your careful planning and preparation comes into play. Any logical investor is going to want to see your idea on paper, and this is where your business plan, SWOT, mission statement, and other planning documents we discussed in chapter 6 will be scrutinized. As you learned in that chapter, however, the strength of those planning and funding tools will lie in how well you adapt them to the specific source you’ve chosen to tap into.
Acquiring startup funding can be a complex process, but you can streamline it considerably by targeting your efforts toward the type of funding source most likely to invest in your type of business. Although many entrepreneurial ventures are self-funded, the remainder receive funding from a few of the most common investor types: venture capitalists (VCs); private equity firms; banks or other lending institutions; and angel investors. Let’s take a brief look at what types of businesses and ventures these sources traditionally fund.
Popular wisdom seems to be that the first door an entrepreneur should knock on in the search for funding is that of a venture capitalist or VC. After all, an estimated $26.2 billion went into startup firms in 2010 from this source alone, according to VentureSource (a Dow Jones company). Unfortunately (or fortunately, depending on your experience), a very small number of startups (2,799 in 2010), most coming from just a few industries, will be funded by venture capitalists.1 Typically, VCs invest in early-stage, high-potential growth companies in the information or scientific technology sectors that retain innovative intellectual property. For all practical purposes, the minimum venture capitalist funding level is $1 million–$2 million. Venture capitalists plan to realize returns on their investment through an IPO (independent public offering), or sale of the company, and so they are particularly interested in entrepreneurs who come to the table with a definitive exit strategy in mind.
Most entrepreneurs can save themselves the trouble of seeking funding from a private equity firm. Increasingly, these firms are putting their investments into existing businesses rather than new ventures. Private equity firm investment methods may involve leveraged buyouts, mezzanine funding (debt or preferred equity), or straight capital funding. Private equity firms are far more selective than other sources in their investments, and typically fund businesses that are more mature (that is, generating revenue) than most startups.
FUNDING SOURCES: A QUICK GUIDE
Your research into funding sources will give you a good overall education in the various forms those sources take. But here’s an at-a-glance guide to the most common external funding sources:
A much more likely source of funding for your new business may be a loan from a community bank or possibly the Small Business Administration. Securing a loan may not be as sexy as landing private equity funding, but it does allow you to retain ownership and control of your venture. Many entrepreneurs require more startup capital than they can obtain from a single bank loan, however, and so they turn to an angel investor. The typical angel investor is a wealthy individual or small investment fund looking to invest amounts smaller than the $1 million–$2 million minimum VC threshold. It is estimated that in 2007, angels invested $26 billion in 57,000 companies, as compared to the nearly $31 billion that VCs invested in just over 3,900 companies. Out of the more than five million businesses that start up each year, just over 1 percent will obtain VC or angel funding.
Understanding the investment choices of these funding sources can help you determine which is most likely to be interested in your entrepreneurial venture. Don’t waste time trying to chase dollars that only have a 1 percent chance of coming in, unless you truly have an innovative product or service that meets the stringent investment criteria of these funding sources. At the same time, you need to be resourceful about tracking down and appealing to sources that may be willing to stake you. A simple Internet search for angel and venture capital firms in your area can disclose a number of potential funding and support resources that may align with your business model. If you believe in your idea enough to have reached the Startup phase, you can’t allow your progress to be halted because you don’t have the money to fund a new business. Over 440,000 people every month figure out how to do it, and so can you.
Acquiring the money to fund your startup is an important step, but it’s even more critical to your success as an entrepreneur that you understand how you are going to manage those funds. Managing your money is the only way you can maintain control of your business.
Notice that I’m talking here not about spending money, but about managing it. You have to have a strong money management plan if you want to limit the amount of money you have to seek from outside sources. The more you have to borrow or take from investors, the more equity and control you give up. When venture capitalists or private investors invest in your company, they gain ownership. When a bank loans you money, it has access to your financial performance data, and it gains the right to question your decisions. Money comes at a price, and if your ongoing need for external cash infusions erodes your ownership to less than 51 percent, you no longer control your company. In fact, at that point you’re no longer an entrepreneur; you are a manager with an investment in the company you work for.
It is your job to act as a proper steward of the funds you receive, and believe it or not, bare-bones finances can help make you better at that job. In some ways, having more money than you need can be almost as damaging to your potential success as having no funding at all. Excess money can lead to wasteful and unnecessary spending. As difficult as your struggle to make ends meet may be in the early stages of the Startup phase, you may find it much more difficult to raise additional money after burning through your startup funds. And remember: venture capitalists who eagerly offer to front you additional rounds of capital as the Startup phase progresses aren’t doing it just to help you; they know you have a good business cooking, and they want to own more of it. Your job is to keep all of those other chefs out of your kitchen.
If you are the source of your funding, determine—up-front, during your planning stage—how much you want to invest in the Startup phase of your business. As difficult as it may be, you will have to separate your dual roles of founder and financier. Your emotional passion for the business as founder can inappropriately influence your personal fiscal responsibilities. Far too many entrepreneurs have excavated their own personal money pit by shoveling too many dollars into the pursuit of their dream. If you do that, you’re jeopardizing your personal financial stability. As founder and financier of your business, you can’t afford to weaken your position in that way.
If you find that, in spite of careful management and planning, you’re going to burn through the original startup investment, take time to adequately calculate and reflect on what additional funds you need to get the business into a sustainable condition. Then, you can determine if it makes sense for you to reinvest. Navigating this situation successfully takes considerable discipline; you may need to consider selling your equity as the next best option at this point.
THE DOWNFALLS OF FALSE PRIDE
Here’s a piece of advice I hope you’ll take to heart: one of the strongest tools you can bring to the table when it comes to successful funding and money management planning is a sense of humility. Resisting the urge to step out of the starting gate looking like a well-established company will go a long way toward cash preservation. Yes, I know that a certain image requirement may be necessary; I’ve already confessed that I was determined to present my company as a stable and established business when it first left the gate. But I knew, and you must remember, that no startup can afford to sink too much of its precious funds in creating a façade. My company’s “image” investment was limited to its catalog and phone system, two critical core components that directly touched our customers. Behind the phones we scrimped and got by on bare necessities.
Pride has no place in a startup, and you can’t drop your vigilant money management after you move into the Running phase of your business, either. Success has a way of eating into your ability to remain humble and thrifty; the more successful your business becomes, the more you will be tempted to invest your valuable dollars in expenses that expand your ego without really helping to advance your business. Don’t give into that temptation.
Of course, the best way to hit the sweet spot of funding is to do adequate planning and forecasting to determine what your absolute funding requirements include. Your business plan should be detailed enough to forecast expenses for 12 months and to outline predictable cash flow requirements. Make sure that you explore every money-saving tool available to your new venture. Advances in communication and information technology have made it easier to establish virtual offices, for example, which can save startups thousands of dollars in facility, personnel, and travel expenses. You’ll need to determine what kind of presence your business requires, but be sure to investigate every way that up-front technology investments might help you cut expenses. Employees represent the largest expense for just about any company. Even critical roles in your startup may be able to be filled through outsourcing, temporary positions, job shares, or other methods for reducing head count, hours, and expense.
You may have figured out, from everything we’ve talked about up to this point in the chapter, that most startups are self-funded and underfunded. Well, that’s true. And my own startup was no different. Although I had the cash to buy the equipment and supplies necessary to start my company, my investment wasn’t adequate for building a business that was truly presentable on day one. My first office was in a basement next to a laundry room, so when I say the business wasn’t “presentable,” I mean I couldn’t bring in a client for a meeting that didn’t involve tripping over a clothes basket and pausing our conversation while the washer went into a noisy spin cycle. I’m not giving you a hard luck story, though; far from it. Starting a business is rarely a glamorous adventure. In fact, it’s very humbling—and it should be. That humbleness drives the entrepreneur to continue to get better, to grow, and to succeed. The overriding need to “make do” is a motivator that no amount of money can buy, and one typically denied to the well-funded entrepreneur.
Mind you, being frugal and being cheap aren’t the same thing. In fact, frugal-preneurs are pros at spending money—they just spend it wisely and conservatively. Frugal-preneurs don’t hesitate to plop down a decent sum of money on a solution that they view as a solid investment in their business. Cheapskate-preneurs, on the other hand, waste money. They buy the cheapest up-front solution that ends up costing much more money when it breaks down, won’t run efficiently, causes more problems than it solves, and has to be replaced sooner. I’m a committed frugal-preneur. In my startup, I was notorious for finding ways to limit expenditures in ways that amazed even our (outside) accountant. Let me tell you a bit about my frugal-preneur exploits.
As I’ve said, most of my new business’s customer contact came through phone and catalog orders; we did, however, participate in trade shows and conferences. Cutting the fat out of our expenses in these events was a particular focus for me during my company’s early years. Service fees rack up fast when you attend a conference, unless you find ways to do things yourself. So schlepping became one of my favorite methods of cutting corners: it meant that we had to haul all of the stuff we needed to get to and from our display table or booth, to avoid the drayage fees convention center dock workers charge to receive, hold, and move vendor materials. Finding ways to avoid drayage fees became something of a mission for me. One of my methods, for example, was to ship my booth and convention materials to the hotel where I was staying—much to the hotel staff’s delight, I’m sure. I would then load the material into my economy rental car and drive the goods to the conference center.
The dock workers at the convention center never made my fee-avoidance activities easy; after all, they had to make a buck, too. And some conference centers were in halls that had union rules against vendors moving in their own stuff, assembling their booths, and so on—I guess I wasn’t the first frugal-preneur they’d dealt with. But whenever I could work with (or around) the rules, I schlepped; I’m sure some others who attended those conferences still talk about the sweaty, bald exhibitor who used to struggle like a mad mule to drag his booth into its designated position.
Another way I discovered for maximizing my new company’s conference attendance investment was by visiting customers in the surrounding area or, when I drove, along the way. Since my company was catalog driven for most of our years, I would map out which colleges and universities were on my route. Pulling off the highway to reach a college was part of my frugal-preneur routine on these trips. I didn’t have an outside sales force, and we rarely were physically on the campus of the schools we sold to, so I could easily deliver a few hundred well-targeted catalogs—which saved on postage and the cost of obtaining mailing lists.
When I descended on a campus, I flooded every nook and cranny with catalogs. To reach every potential buyer, I scoured every hallway and building on campus for an opportunity to deliver catalogs. In the beginning, I hand-carried my catalogs, but eventually I lugged them around in a wheeled travel suitcase. Central staff and faculty mailboxes within the individual departments were rarely in public locations, so I would have to sneak in, quickly stuff the mail cubbies, and zip back out before I was noticed. On occasion I would get busted by a staffer asking what I was doing. Sometimes the staffer would help me stuff mailboxes; other times, I’d get tossed out on my rump—a small price to pay, as far as I was concerned.
Even after we moved out of our first basement office and began to grow, I continued to find ways to save money. I had developed an appreciation for the cost of office furniture while managing the remodeling of the Allstate Insurance home office and installing new Steelcase panel systems. There was no way in hell I was going to spend that type of money. I bought used furniture, as long as it was in decent shape and had plenty of usable life left in it. As a frugal-preneur, I viewed furniture as nonessential equipment to the business and, therefore, only worth minimal investment. Our furniture worked, looked good, and was comfortable for the user—even if it didn’t all match. Entrepreneurs starting out with venture capital often have the nicest offices money can buy. They seem to fail to realize that their employees are sitting and working on their equity.
I understand that some businesses rely on their image as part of their marketing, positioning, and brand. I don’t think I would feel very comfortable walking into a lawyer’s office to find the type of office furniture I was setting up in my new company. But every business has nonessential expenses that can be rationed. Just because you have the money doesn’t mean you need to spend it. I am sure newcomers within my company joked about how cheap I was, but it didn’t matter—not to me, and not to my long-term employees. They got it, and they accepted—no, relished—that this was our company culture. We simply didn’t retain employees who valued the style of their workspace more than the prospect of exceeding our sales goals.
As our employee count grew, so did the value I placed on establishing an attractive work environment. As fate would have it, right about this same time, Arthur Andersen LLP took a major legal hit for its auditing practices at Enron. When the huge accounting firm ceased doing business as CPAs, about 85,000 jobs evaporated—and a lot of really nice used office furniture became available. I tracked down the liquidator responsible for clearing leased office space in Chicago and bought a tractor trailer full of Steelcase workstations and chairs in great condition for $6,000. That price included breakdown and delivery to our location!
Shortly before that time, my landlord had nudged me into a larger working space, and it was a good thing. I filled the new space from floor to ceiling with furniture. To navigate, we left narrow aisles between the canyons of binder bins, work surfaces, and file cabinets. Some of our working files were in cabinets inadvertently surrounded by these stacks. Lisa was pregnant with our third child Nicholas at the time, and, comically, she was unable to turn sideways in these narrow corridors of furniture towers. It was an exciting time because it showed where we were going. I didn’t get furniture for just the employees on hand; I had room for many more.
Believe me, the benefits of learning how to use your money wisely can help you grow and manage your new business well beyond the financial restrictions of the Startup phase. Every money-saving measure and wise spending decision you make extends and expands your critical entrepreneurial skills in creativity, innovation, and management. Money is all about control in so many situations, and that’s particularly true in funding and running a business. The better your skills in planning for, acquiring, and managing your startup funds, the better able you’ll be to focus on the idea that drove you to start your business in the first place. By maintaining a keen eye on the resources that matter most to your organization, you’ll be better positioned to move your business on into a healthy Running phase. And, as I mentioned earlier, money is only one of the resources you’ll acquire and manage as you launch your business. In the next chapter, we’ll talk about another critical need for this phase of the entrepreneurial journey—human resources.