Why Start-ups Prefer Short-term, Non-External Financing

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Paula Kokare
Project Manager, Switzerland

Why Start-ups Prefer Short-term, Non-External Financing

Bootstrapping, defined as a set of methods to enable companies to meet their financing needs without reaching out for long term external financing, is applied by 90% of start-ups at some point in time (Windborg and Landström, 2001). The application of these bootstrapping methods, as proven by Windborg (2009), by start-ups is pursued due to particular reasons and not necessarily only as a result of lack of options for external financing. Based on various reasons why bootstrapping is pursued by small businesses, the authors categorized following 3 groups of start-ups:
  1. RISK REDUCERS: Includes serial entrepreneurs with several years of experience in the sector. These entrepreneurs apply bootstrapping methods mainly in order to minimize dependence on external financing providers. However, they simultaneously recognize many different other benefits of bootstrapping.
  2. COST REDUCERS: Represents entrepreneurs with low sector and start-up experience emphasizing the cost benefits of bootstrapping. In fact, cost pressures to obtain external financing is the most often claimed reason to apply alternative financing strategies.
  3. CAPITAL CONSTRAINED: Engage in bootstrapping as a result of having limited access to conventional long-term external financing opportunities.
Overall, as entrepreneurs gain more experience in the start-up environment they appear to recognize an increasing number of benefits resulting from bootstrapping application, such as avoiding external financiers; a learning effect; building trust with related parties; satisfaction of helping others and receiving help in exchange.
Sources:
Winborg, J. (2009) "Use of Financial Bootstrapping in New Businesses: A Question of Last Resort?" Venture Capital Vol 11 (1) pp.71-83.
Winborg, J. and Landström, H. (2001) Financial Bootstrapping in Small Businesses" Journal of Business Venturing, 16(3), pp.235-254.

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