What is the best way to fund startups?
Venture capital investment in India quadrupled in 2021 from the previous year as India’s startup ecosystem reached an inflection point. According to a Your story analysis, venture capital investment in the country hit a record high of $38.3 billion in FY22, driven by a combination of COVID-19 tailwinds and strong macroeconomic fundamentals, among major global economies. This year, India passed the milestone of 100 startups entering the coveted billion-plus valuation club and becoming unicorns.
In a world of mega-fundraising sprints, many startups prefer to go the regular route and choose the bootstrap route. Most startups that prefer prime are those who aim for controlled growth and wish to stay in the game for the long term instead of relying on external financing to rapidly accelerate growth.
The current economic situation (funding winter) means entrepreneurs at all levels are more frugal, highly innovative, and more focused on acquiring customers without consuming cash.
Two sides of the same coin
There are many shining examples of how successful fundraising has accelerated the growth of many startups. At the same time, there are equally compelling stories of seeded startups reaching unicorn status. For every one of these success stories, whether seeded or venture-backed, there are many more that ended up closing the shutters.
There are stories of success and failure on both paths, whether company-backed or seeded; the path itself is not a good indicator of whether one path or the other is better. The decision to choose the ideal path for your startup idea depends on various factors such as market demand for the product/service, opportunities for growth and scalability, founders’ tendency towards independence, etc.
The right approach to a seed funding strategy isn’t straightforward, but some key considerations can help in the decision-making process.
What works when
In most cases, the startup works best when the product has a niche market. To follow the seed path, founders must have strong passion and belief in their business idea. You want to improve and personalize your product by listening carefully to your customers and making early market adaptation of the product to operate the business with a lean model. Since founders have high stakes in the business, they must be extremely disciplined to lead their business to success. The foundation must also be laid to ensure that founders can support themselves until a sustained cash flow is established and profits are seen.
Capital risk works best when initial product development requires a heavy investment that founders alone cannot afford. Instances include when a product has a large user base that requires significant funds and targeted marketing and advertising expenditures to acquire customers at scale and to quickly capitalize on a market gap faster than any what a competitor. To capture and sustain such a large market, venture capital has more to offer than funds – much-needed mentorship and extensive resources to help the company expand its network.
While companies like Mu Sigma and freshworks did it big with VC money, Zerodha and zoho prefer the bootstrap method and do just as well. Let’s dive in-depth to understand various startup and venture capital considerations, explaining which path makes the most sense for your business.
One of the main benefits of startups is that founders have complete ownership of their business. Ownership freedom allows owners to make their own decisions and direct business operations as they see fit for the business. Contrary to this, in a VC-backed startup, founders have the added responsibility of trusting investors in the company’s business goals.
Full ownership of a seeded startup allows the founders to exercise full control over the operations of the business and grow the business steadily with a focus on profitability.
In contrast, startups backed by venture capital must meet the goals and interests of investors. Investors are often in a strong position to make business decisions. Their interests may differ from those of the founders, which can lead to a clash of ideas leading to inconsistencies.
Focus on product and customers
Seeded startup founders have the freedom to focus on building a big (organic) business that customers love and slowly grow the business itself. VC-backed startup founders, on the other hand, have to divide their time between working on their big picture vision and investors’ business goals.
Seeded businesses can focus more on growing revenue profitably and providing the best services to acquire and retain customers, while VC-funded businesses focus on creating buzz and goodwill in the market by spending in advertising and developing rapidly.
VC-funded startups focus on growing fast and accelerating things to meet investors’ goals while keeping company profits in the background, while seeded companies are very efficient with their money and always consider profits of the company as essential to their survival. When starting out, you meticulously monitor every dollar spent and get the most out of it.
A clear difference in the profit vs growth approach has been seen recently in the Indian startup ecosystem. VC-backed startups aim for faster growth prospects and therefore tend to hire in droves to achieve their goals as quickly as possible. As a result, we are seeing a hire and fire culture, evident in the multiple rounds of layoffs by many companies in the recent past in an effort to survive the days of the funding winter.
However, seeded startups have remained immune to such a scenario as hiring decisions are taken very carefully and are directly linked to the demand for talent given the steady and stable growth of the company.
Venture Capital Funding Considerations
After investing in a business, VCs expect it to grow as quickly as possible. Founders can use venture capital funds to launch new goods or services, hire experienced and qualified employees, acquire cutting-edge technology to outsmart the competition, etc., without having to worry about revenue and profit. The mantra is to get big fast no matter what.
Money is not the only resource provided by VCs; mentorship and expert advice are also extremely valuable. VCs typically have a large network of contacts, which can lead to new hires, profitable alliances, and more clients, among other benefits. When getting started, you have to rely on your personal contacts and network, which can sometimes be limited. There are various instances where a single email, phone call, or meeting with a VC contact triggers a new idea, advice, or even a sale, making the startup a success.
Less personal risk
Whether it is venture capital funding or seed funding, both carry a significant risk of losing all the capital invested. In the case of bootstrap, failure means losing all your savings or funds raised through crowdfunding. This risk decreases if you go the venture capital route, as venture capitalist holdings carry the major risk.
Are bootstrappers challenging the status quo?
Whether it is seed funding or venture capital funding, these are just two different methods of funding a startup. Understand that venture capitalists are financial catalysts for business ideas that require rapid scalability to grab market share as soon as possible, while startup is a stable and more controlled way to shake things up to build a business.
We’re seeing that there’s definitely a shift in focus from unbridled growth to stable start-up growth fundamentals, indicating that the bootstrappers are working on their next big idea.
(Disclaimer: The views and opinions expressed in this article are those of the author and do not necessarily reflect the views of YourStory.)