Should you raise capital for your business or bootstrap?
Learn a strategy framework to answer this question for your business!
(12 min video)
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Did you know that out of a hundred companies that applied to angel groups in 2024, only two reached an investor's portfolio? This is based on data from the Angel Capital Association. This video is for entrepreneurs, founders, and CEOs who are trying to answer questions like the following. Should I try to raise outside capital to accelerate growth? Is it smarter to grow my business out of cash flow? In this video, I'll show you a strategy framework to help you answer these questions.
These strategy questions appear again and again for early stage and later stage founders creating new companies pivoting business lines and also fundraising can consume a lot of time for the founder and the team. On average startup teams spend up to 40% of their time on fundraising decisions. Unbelievable.
By the end of this video, you'll have a framework that'll help you as you discuss these strategy questions with your team, your adviserss, and your mentors. You'll be able to think about your business holistically, and determine if you should raise outside capital, grow your business from cash flow, or consider pivoting your business model or strategy. The need to pivot your business model and strategy is not a fun topic to think about, but it is an important one, and it's obviously better to identify that earlier than later.
The strategy framework I'll cover in this video will help you. I've taught this strategy framework multiple times at universities, accelerators, incubators, workforce development organizations, and it's one of my favorites to teach because it can unlock aha moments for people. Also, founders of all types can use this framework. At the end of this video, I'll include summary slides that you can take a screenshot of.
Now, let's get into the main topic of this video, which comes down to how you finance your company depending on multiple factors. However, there's two most important factors to consider when looking at your fundraising strategy. And they are number one, how big is the business opportunity? and number two, how much investments required to get to cash flow positive, which is when your business starts to become self-funding.
Now, let's talk about those two factors in more detail. Factor one, how big is the business opportunity? Well, this is really asking you how big is your TAM or your total addressable market. TAM and related topics can be a very long and detailed discussion. However, TAM is simply how much of your product or service can you sell based on your revenue model. And there's no precise answer to TAM because it's something that you estimate.
To estimate the total addressable market or TAM for your business, you would first estimate the total number of people who would potentially buy your product or service. And then you'd multiply that by how much you sell your product or service for your revenue model. That would equal the total addressable market or TAM in dollars for your business.
Next factor two, how much investments required to get to a cash flow positive? Again, this is something you would estimate and it really depends on the type of business you have and it's something you can get input on from your mentors and adviserss. But let's think about two examples at complete opposite ends of the spectrum.
An example of a business that requires very little to get to cash flow positive is a consulting business. The founder sells a consulting assignment, an agreement with a customer. Then the founder delivers the consulting services. The cost of delivery is mainly the founder's time. Therefore, the business should be cash flow positive very quickly. Then that cash flow could be reinvested for growth.
As the consulting business grows, the founder could hire additional help to you know sell future consulting engagements or deliver on future consulting engagements.
In contrast, an example of a business that requires a lot of investment to get to cash flow positive are many technology companies because they need to invest a lot of money in the product or the software they're building before they can start selling it. Therefore, it can take years for these types of companies to become cash flow positive.
If they're addressing a large market opportunity, a large TAM, then they're candidates for raising outside capital and will probably need to do so until they become cash flow break even and positive. And there's obviously many businesses that fall in between these two examples, but this gives you an idea and a way to start discussing it with your team members and your mentors and adviserss to figure out where your business is.
Next, let's use a visual framework to look at these two factors we just talked about and put them in a 2x two matrix with four quadrants. On the x-axis of this picture, a small business opportunity, a small TAM is on the left and a large business opportunity, a large TAM, is on the right. On the Y ais, a small investment required to get the business to cash flow break even is on the bottom. A large investment required to get to the business to cash flow break even is on the top.
We can use this matrix as a visual framework to think about fundraising strategy for your business. Let's go through it one quadrant at a time starting in the lower left quadrant. In this quadrant, it's a small market opportunity, but only a small investments required to get to cash or break even.
The strategy in this situation is most of the time to bootstrap. If you're not familiar with this term, it means to self-fund without raising outside capital. Like the expression pull yourself up by your bootstraps, which generally means being self-sufficient.
Example of the business in this bootstrap quadrant would be the consulting business I just mentioned earlier. Again, there's a small investment required to get to a cash flow positive and a relatively smaller TAM or market opportunity. However, that doesn't mean this can't be a very successful business.
In 2024, bootstrap businesses grew by an average of 18% annually with 91% founder ownership retained. In summary, if your business falls into this quadrant, discuss it with your mentors advisors. But raising significant outside capital is probably not going to make sense. Instead, the best strategy will most likely be to bootstrap the business from cash flow.
Now, let's go to the upper left quadrant. This business requires a high investment to get to cash flow positive, but it's a small market opportunity, a small TAM, right? Think about that a little bit. Would you want to own this business? I would not because it doesn't make a lot of sense. Why invest a lot of money to get to cash flow positive and then only have a small market opportunity?
This business is probably not really viable. If your business falls into this quadrant, you will figure out a way to pivot your business so it moves into one of the other quadrants and it becomes more viable. You know, you'll review the business model with your team members, your mentors, adviserss. You look for opportunities to take what you've learned to date and to pivot.
And when you think about it, that's something that entrepreneurs are constantly doing. They're trying, failing, learning from their failure and pivoting to do something different. They're constantly testing.
Next, let's look at the upper right quadrant. Now, this is a large market opportunity, but a high investment required to get to cash or break even. Now, this is a situation when raising equity capital from Angel Group or Seed Fund or VC fund could make sense. It's a large opportunity, but the business is going to need capital to attack this market.
If your business falls into this quadrant, you discuss with your mentors, advisors, again, most likely need to raise equity capital as opposed to debt because the risk involved here is higher. So, raising equity is probably going to be the best strategy.
And raising equities usually starts with a small friends and family rounds, then an angel investment round, possibly a seed investment, and possibly eventually a venture capital fund investment. The whole time you're investing that capital efficiently so you can get to cash break even with the least amount of outside investment possible. Why? Well, the reason is you want to minimize dilution. And dilution is the amount of your business that you have to give up when you take an investment from equity investors.
Now, finally, let's look at the lower right quadrant, which is my favorite. This is the quadrant and situation I find most interesting because it's a large market opportunity, a large TAM, but only a small investments required to get to cash flow positive.
When I teach this lesson live, I ask for a show of hands. Who thinks this is great and who thinks it's not so great? Well, the answer is everyone's correct because it depends. On one hand, it could be really bad because if you get into this type of business and you do well and competitors will see that, then they can easily get into the business and compete with you because there's only a small investment required to get to cash flow positive.
More competitors will keep entering the market until the profitability and the margins are driven down to a low level. Well, on the other hand, it could be really good to be in this quadrant. It could still be a small business that you bootstrap like the consulting business I mentioned earlier.
However, what determines if it's a great business in this quadrant is do you have a moat? A moat for a castle makes it easier to defend and harder for potential intruders to attack and enter. A moat for the business basically the same thing. It means there's barriers to entry that make it harder for competitors to enter and compete with your business.
Next, let's take a look at some examples of a mode or barriers to entry. A mode or barriers to entry include things like intellectual property, patents, trade secrets, business know-how, economies of scale, partnerships of different types, sales channel partnerships, manufacturing partnerships, and customer partnerships.
All of these things give you an advantage in that they are barriers to entry relative to new competition coming in. In combination, they are your competitive advantage. the more difficult they are to replicate, especially in combination, the deeper and wider your competitive mode is.
If you find yourself in the lower right quadrant where there's a large market opportunity and a small investment required to enter the market, but you have a combination of factors that provide a deep and competitive moat, then you could consider raising capital to accelerate the business growth and try to capture as much market share and business profit as possible before your moat becomes less protective. you know, your combination of barriers to entry changes.
For example, if you have a patent, you could consider taking an outside investment to try to capture as much of the market as possible before the patent runs out.
Next, I'll review the key points from today's video and a couple of slides so you can screenshot them. If you got value out of this video, please subscribe to our channel and like this video. Both of those things help us create more videos like this one.
To quickly review and summarize what we covered in this video, when considering the question of should you raise capital for your business or grow it from cash flow, the basic strategy starts with the two factors. One, how big is the potential market opportunity? And two, how much investments required to get the business to cash flow break even.
Spend the time to consider those two factors with your team, mentors, adviserss. When you have a handle on those two factors, you'll be able to use the framework we covered today.
Quickly, factor one, how big is the business opportunity? It's really asking how big is your TAM or total addressable market. Very simply, it's how much of your product or service you can sell using your revenue model. And again, to estimate TAM, you just estimate the number of people potentially buy your product or service. I know I'm making that sound easy when it really is. And then you multiply that by how much you sell, you know, your product or service for. That gives you a rough idea of your total addressable market for your business.
Factor two, how much investments required to get to cash flow break even? Again, this is something you'd estimate. You depend on the type of business that you have. An example of a business that requires to get to very little to get to cash flow positive is that consulting business we talked about earlier. And an example of a business that requires a lot of investment to get to cash flow positive is many technology companies because they have to invest a lot to develop their software product or service. Therefore, they need to hire investment uh before they become cash flow positive.
However, again, if they're addressing a large market opportunity, these types of companies could be candidates for raising outside capital, usually equity capital. Again, you can help us create more videos by hitting the subscribe button and like buttons. Also, really, it'd help us out if you send this video to someone else who might appreciate it and get value from it. Thanks for watching this entire video and thanks for your support.
