Logo - Business Development Bank of Canada - BDC

Financing your bootstrapped tech company

7-minute read

There’s a stereotypical tech company. It’s started by a visionary entrepreneur who dropped out of university and raised millions of dollars to build the next unicorn with venture capital (VC).

Working with tech entrepreneurs day in day out, we know that’s not the reality for most tech businesses.

Entrepreneurs come from all types of backgrounds. And while venture capital is a popular funding strategy, many companies get started with hard work (sweat equity) and what money they can put together personally or through friends and family.

Unlike VC-backed companies, bootstrapped tech businesses tend to be profitable much earlier and can grow by generating their own funds.

In spite of this, bootstrapped tech companies often find it challenging to obtain debt financing. Like most tech companies, they have very little tangible assets to offer as collateral for a loan and conventional lenders often see them as too risky to finance.

Even in an evolving environment where lenders are increasingly willing to lend to tech companies that have raised venture capital, bootstrapped businesses can often find it hard to access additional funds for growth.

Bootstrapped tech companies are often more efficient

A significant advantage to bootstrapping your business is that you control your company and its strategic direction. You also are set up to benefit from return on profits or if you decide to sell the company.

However, this greater independence and ownership also comes with it’s share of challenges. Entrepreneurs who bootstrap their business often try to do everything by themselves. This can lead to exhaustion as they stretch themselves too thin and complete work that doesn’t interest them.

Our experience has shown us that well-run bootstrapped businesses with a solid management team are able to compete with VC-backed companies in any sector.

We see bootstrapped companies that lack a formal advisory structure that provides feedback on business strategy and technical direction.

Regardless, our experience has shown us that well-run bootstrapped businesses with a solid management team are able to compete with VC-backed companies in any sector.

A big part of this success is that bootstrapped entrepreneurs are accustomed to prioritizing client needs, Company productivity and running a lean operation. They tend to conserve more cash and be more focused on delivering products or services. Bootstrapped companies often have a very high level of capital allocation efficiency; they return more cash to investors for every dollar invested in the business.

How we evaluate tech companies

Unfortunately, many lenders decide whether or not they’ll loan to a tech company based on the quality of its VC backers.

Having worked with tech companies for years, we prefer evaluating the quality of the management team, product and market trends as well as current and future cash flows. In this way, we’ve been able to support fast-growing bootstrapped tech companies at a much earlier stage.

Having worked with tech companies for years, we prefer evaluating the quality of the management team, product and market trends as well as current and future cash flows.

This allows entrepreneurs to maintain control of the company and reinvest profits in business growth until they are ready to raise equity, prepare for an exit or simply to continue to manage the company as they see fit.

Our goal is to help the management team build up their company and gain credibility—by helping setup an advisory board or introducing a part-time Chief Financial Officer (CFO), for instance. We also try to help create a stronger governance and reporting structure which can often raise valuations and generally makes the business more attractive for investors and potential acquirers.

Financing a bootstrapped SaaS company

Many of the companies we finance are Software as a Service (SaaS) businesses. These businesses are often looking to hire more employees, put funds into research and development (R&D) or sales and marketing.

Early-stage companies are often looking for smaller amounts of financing. A typical business may be looking for around 2 million dollars. At that scale the legal fees of raising equity make it much less interesting. In contrast, a tailor-made financing with a customized repayment schedule can be disbursed quickly and to invest in growth.

Even though most early-stageSaaS companies are unprofitable, many of them as still able to access financing—often through a loan for companies with monthly recuring revenue (MRR loan) or quasi-equity loans.

An MRR loan is a flexible form of financing that takes account of recuring revenues, cash flows, customer acquisition costs and your churn to provide financing for growth.

Quasi-equity loans are given based on a company’s future cash flow projections. The cost is often a combination of a fixed interest rate and a variable component tied to the performance of the business. PIK interest (payment-in-kind) can also be used at times—PIK interest allows a company to defer interest payments and roll it up into the principal until the loan comes to term. These loans can be back-ended with a balloon payment that allows businesses to reinvest in R&D or marketing.

The risks of raising equity too early

Raising equity too early can cost entrepreneurs dearly. This is especially true for tech companies, where there is a culture of raising funds early from VCs. We’ve seen entrepreneurs put years into a company and end up owning less than 10% of the business.

There is a major difference between raising equity at $100,000 in monthly recurring revenue (MRR), $500,000 or $1 million in MRR. Founders have much more choice and control if they scale up before they pursue a big raise.

There's also a real risk with raising equity if you are unable to execute on your plan. This could result in a down round or leave you unable to raise additional capital. Raising too much capital can also create frictions with the board and stress for founders who have to execute to meet their target.

As our colleagues wrote in a previous post, delaying an equity raise for as little as 12 months can often be a very profitable decision for many fast-growing tech business.

A long-term partner for your growth

Choosing to work with a bank can be intimidating; we know it’s not easy to take on debt. Equity may feel like a safer choice because there is no obligation to repay a loan.

Raising equity too early can often result in significant pressure to grow at an unsustainable rate. Starting a business is stressful enough, which is why we prioritize long-term value creation for entrepreneurs and the company.

Don’t hesitate to contact us if you have any questions or if you think we could help.

Your privacy

BDC uses cookies to improve your experience on its website and for advertising purposes, to offer you products or services that are relevant to you. By clicking ῝I understand῎ or by continuing to browse this site, you consent to their use.

To find out more, consult our Policy on confidentiality.