Bootstrap in Bangalore

Back after a long break. Thanks to all those who insisted that content here is worth reading.

Early stage VCs in India invest in early stage ventures BUT those started by late stage entrepreneurs. If you are a young, first time entrepreneur with no track record, fire in the belly and a great idea – tough luck. This seems not limited to India since recently I met someone who emigrated to Silicon Valley from Singapore due to this problem.

So,

early stage company + experienced entrepreneur = FUNDING

late stage company + experienced entrepreneur = FUNDING

late stage company + rookie entrepreneur = FUNDING

early stage company + rookie entrepreneur = ?

Alternatively,

Missing funding quadrant in India

I think this is just the lifecycle of startup funding in India and nothing much can be done about it right now. At current risk appetite in India, people bet money on trust which derives from track record. Now either the track record is in the company or the person or in the reference. The ideal reference comes from another funded entrepreneur who would typical reserve it for employees whom he has seen first hand. If funded entrepreneurs in India are less, ex-employees looking to start up even lessor. And angels who are (ex)entrepreneurs even rarer. It just takes time for this ecosystem to setup!

I think the current generation of entrepreneurs will turn angels in 10-15 years and provide the critical mass to fill the early stage funding gap in India. Finally figured out the early stage VCs in India. It also reminded me again that the only credible alternative for young entrepreneurs without access to capital is to bootstrap (which as I have said earlier is not the best way to start but surely the next best).

Pricing is a difficult art to say the least and is dependent on so many factors that this subject itself may be topic of books. We have the benefit of sticking to the small bootstrapping phase of businesses and will apply our learnings of cashflow and paucity of debt, investment in India - few reasons you are bootstrapping in the first place - to discuss some pricing guidelines.

Bootstrappers take pride in running a tight ship, delaying gratification by not paying themselves enough and being creative about doing things no one thought could be done that cheap. Once your costs are so low its very tempting to look at your price as a competitive tool. Its so much easier to go to a prospect and say ‘hey, for what others charge Rs 100, I can offer the same for Rs 60 – sale done. We need to introspect before doing that – what is the reason you are able able to deliver the goods at 60 unlike your competition. If you have created a new business model with a fundamental innovation which reduces price, thats perfect. However, if the only reason you are lower cost is since your costs are low due to small/stingier operations then playing on price might be dangerous.

A friend once gave me a simple formula – find (if you can) how much is the customer willing to pay and calculate how much you can sell for at a profit, then quote higher of the two numbers. The formula is nice and usually works. Just beware that in the low cost Indian economy many people are simply not able to pay much but want your service also. At times what they are asking maybe 25% more than what it costs you. But in small bootstrapped operations percentages have little meaning. Calculate your costs again if you remove all the subsidies like lower salaries, rentals etc and grow your business to 10x. Does it still look 25% profitable? Now projecting costs for 10x your size with zero subsidies is also not the gospel for pricing since otherwise the customer may as well go to the established 10x players. The reality will need to be somewhere in the middle but closer to the later figure. As long as the following works

1. You are profitable on the small base and can scale the operations while maintaining profits, you are pricing it right. If you are ’subsidising’ the company, thinking that subsidies will scale is going to lead you to a wall.
2. Since you are going to depend on retained profits for growing the company, always try to get a little more profit that you think is enough. It may come from charging higher (by delivering more value) but mostly will come from spending lessor.

Another problem with playing on price is that you get bracketed in that range. A customer which pays you X will refer you to more customer who want to pay X. So if you think it is a temporary affair to play cost, it is not. References are how sales work for bootstrappers and you want the right kind. If you want to play cost to create an initial base be very clear on what you want the projected price to be and then offer a reluctant discount valid for a short period. In fact better than a discount I prefer the try for free option since free is not a price which brackets you. What you really want is the customer to give you a chance even though you have no brand/credibility but buy in to the fact that you are worth the price if your claims are true. What better way to prove the claims than to show/give a free sample. But if the customer can’t even afford the rates you need as a bootstrapper to grow bark up another tree.

You will notice that the above thinking will typically lead to much higher margins than the 15-30% range. More in the 60-80% bracket. Smaller margins workout on high revenues (7.5% EBIDTA works for a Walmart) but to run a small business on a 15% margin is a road to frustration. As you grow the margins will close in to the natural range of your sector or your business. Bootstrapping phase is almost an artificial state which requires a huge stimulus of energy from the founders. With the wrong pricing instead of getting out of bootstrapping you will just end up quitting and going back to a job.

An important question not considered is if people are willing to pay what you want. Once you callibrate what you want with the above, you may want to relook at the business plan’s viability itself.

This blog advocates thinking of local opportunities and bootstrapping your way to success with local strategies. Someone may think business principles are universal so what is the difference in the way a bootstrapper will work in India. Here is an example which I think will not exist in a bootstrapping blog of a western writer.

As customer service standards are increasing in India there is significant demand for call centers serving the domestic market itself. Also with increased phone penetrations, teleselling is a strategy no company can ignore. Its a natural evolution if you consider that all the call centers in India were earlier operating from within US serving their own domestic market. Hence, if you have been associating call centers with only offshoring please don’t. Outsourcing yes. It is an ideal function to outsource to a specialist company since it can handle seasonal spikes, experience from across the customers, investment in call center equipment, recruitment/training of personnel etc.

As a bootstrapped Indian startup you want to minimize investments, think local and be creative. All of these come together if you were to create a call center in a really low cost town like say Allahbad. Hmm … lets list fundamental problems – no electricity so power backups will kill a bootstrapper and no english speaking talent. Apart from that there are pluses – low salaries, low attrition, low rentals, low deposits.

Now what if we were targetting only Hindi speaking customers. That seems nice: suddenly this looks like a niche which is not crowded and being in Allahbad seems like an advantage given that people speak better than average Hindi in that place. Suddenly one of the problems has disappeared and almost seems like an advantage.

The other one i.e. infrastructure seems less tractable. Even in bigger cities a full backup is needed to even start the operation and this doesn’t really suit a bootstrapper. Let’s consider the workings of a call center in a nutshell

1. For customer service an incoming number with multiple lines is needed. A switch is needed to operate the voice menu and route the calls.
2. For tele selling even if each person has an independent line its not a problem
3. The result of the call need to be logged in a computer program

To reduce costs, lets drop incoming at the outset. Becoming a telesales/outbound only call center reduces capital investment and hassles. Its an easier sale to businesses also especially if you create an incentive based pricing. If a phone company in Allahbad agrees to give multiple land line phones there is no need for local power to make calls. You can substitute with long battery cell phones at a short notice when needed. Now also break the process of logging results into paper and online. Create paper based processes which are later transcribed online. Since labor is cheaper in India, the western insistence of full automation need not be followed.

This for me is an good example of a bootstrapped Indian business. We have taken cognizance of a typical Indian problems and have created a ‘thought-business’ in the spirit of this blog. We could really make a detailed business plan out of this and not gloss over details but that is left as an exercise for the more dilligent/interested reader

Most of the recession advise goes like

1. Cut flab and cut it deep – where is the flab in the bootstrapped organization? Already the full organization is working on a delayed gratification mode i.e. putting off current rewards in anticipation of future rewards.
2. Keep 6 months cash – readers of this blog will already be doing since they are more mortally afraid of the uncertain future than the bigger companies.
3. Do things which make money now – duh? Bootstrappers can’t afford to do any other thing anyways!

So the key point is that recession has a relatively smaller impact on the bootstrapper’s behaviour. They don’t really change anything but just add more rigor to what they were already doing.

But make no mistake the environment does get tough for everyone but relatively less tough for the bootstrapper (it was already tough!). He was anyways not getting any credit! What changes are the customer’s needs. The customers were definitely taking credit or investing in systems which can be cut or spending more than they should have been in the first place. Reorient yourself to the pain the customer is facing and keep up the bootstrapping ethics.

Bootstrapped start up is a phase and not a permanence. It should lead to a small business which can grow to a bigger one. However, be prepared in this recession for a prolonged bootstrapped phase.

Following up from last time, lets look at the implications. In a way, all the gyan about bootstrapping is an outcome of realizing the stark truth of cashflow.

An obvious thing ‘after’ one has worked with bigger clients is that a bootstrapped company can simply not afford to have them. Now big and small are relative terms but in general any company with an accounting department bigger than 1 person can be given a miss.

A fledgling bootstrapper will latch on to any lead coming his way and it is difficult to let go of this ‘big name’ company which will add a feather in your client list. There are some conditions in which a big client works

1. You have working capital for 3+ months
2. The work you are doing for the client doesn’t involve the whole company. Keeping it to less that 20% is a good idea.

Unless the above two have happened, working with big clients is going to be dangerous for existence. The key enemies are large number of stakeholders and processes which can kill. Let me list out the pitfalls

1. Closing the deal with a big client can take anywhere from 1 month to 6 months.
2. Often the people you are talking to change during the long time of deal closure, making you start all over again.
3. Big clients don’t pay an advance
4. Even after you get the deal, the deployment/execution of work will take much longer than expected due to large number of stakeholders
5. Even after work is done, people will take their own sweet time to send a green chit to accounts
6. Your payment terms will be 45 days after invoicing date. Which in reality means that you can only start following up after 45 days and hope to get the money in maybe like 60-90 days.

Now the above shouldn’t scare you away from bigger clients forever. Big clients are sometimes necessary to scale up, growing while keeping client base constant (hence saving on marketing cost) and making large sales. However, stay away till you build critical mass.

What if your offering is only for big companies? Its probably a bad choice for bootstrapping. Mostly, no investor will back you till the first customer. In case that’s your only route, start lining up investors while you are making the sale and get funded as soon as success strikes. Mostly it only works when you were working in the big company in a job where you identified the need for X. You start your own company and sell to your old boss/subordinate. This makes first sale easier and then funding is a possibility.

If you have an idea which would be great for a big company but are ruing your luck since you don’t have ‘connections’ – you aren’t the right person. Become one or move on.

If your target market totally excludes big clients, this post wasn’t for you!

Cashflow is the king is almost a guru mantra for start ups and bootstrappers. I wanted to explore this in a more practical fashion. Something like the corollary that renting is a better option than buying.

Lets again play with some simple numbers. Say you make 100 as your revenue in January and your profit is a nice 25% i.e your total expenses are 75. After paying your bills in first week of Febuary you are left with 25. Sounds simple and unfortunately is utterly false. This is what really happens

Revenue

Client A: 25, Client B: 20, Client C: 50, Client D: 5 = 100

Expenses

Salaries: 50, Rent: 15, Travel/Electricity/Phone: 10 = 75

Now as you know you have to pay all salaries by 1st of Feb, even rent and utilities will be paid by 20th of Feb. You will raise your invoices on 1st Of Feb. Let’s look at the possibilities

Date           Cash In         Cash Out        In Hand
Jan 1st           0                       0                        0
Jan 31st         0                       0                        0
Feb 1             0                       50                    -50
Feb 5th          20 (Client B)     15(Rent)            -45
Feb 15th        50 (Client C)     10 (utilities)      -5
Feb 25th        5 (Client D)       0                         0
Mar 1st          0                      -50                   -50

The above is probably an optimistic scenario. Usually it is an account like client C (the biggest) which pays the last. Here we have been benign and assumed only Client A’s payments spill into March. Obviously you might be earning revenues in Feb also but it won’t effect the cash flow on Mar 1st till which date we are tracking the above table. Also, some expenses would be incurred in Jan itself but this a contrived scenario mimicking reality only close enough to point a lesson.

Another very practical implication of this is the waste of time. You are probably already geared to be working overtime in January and got enough work to do that in Feb also. Now apart from doing the ‘actual’ work, you also need to be following up on payments with 4 clients. And if you don’t do that effectively, even the 3 payments in Feb won’t come on time. Anyways, you will slowly realize getting the money on time is ‘real’ work. All activities which lead to money coming in are the most important for a bootstrapped company.

Since life doesn’t follow simple arithmetic. How do you survive with a negative cash balance? The common way is that you would not start with a cash in hand on Jan 1st of zero. Given your projected expenses of 75, a seed capital of 150 is more likely. The other way to run a negative cash balance is to have an overdraft account with the bank. This is a facility no bank in India will offer to you in the first month and is only an option after 1 year of operation. If you have already completed 1 year and not asked your bank for an OD account – do it now!

Now that we understand how cash flow is working in practice, we will look at some implications on your business in a subsequent post.

update: Fixed the calculations (thanks Rohit!) and minor edits.

While I was creating this post, it was sitting in drafts for too long and I found someone meanwhile expressed this better than I was going to. I decided to junk it, but then noticed that not many other people are picking it up. I think at the risk of redundancy, this is a thought worth repeating in many fora. Somehow parents don’t teach this to the kids, schools don’t, managers in the organization don’t and so on. I thought maybe an Indianised version of the same principle will make a better impression to many.

A fundamental social phenomena is the law of reciprocity. In short, people feel obliged to return a favor. It is not a law in the strict sense but simply a strongly observed social behavior. More often than not, people will respond to your being nice to them and if you go out of the usual way to help someone, they will remember it for a long time and when the time comes they will return the favor. I also call this the Godfather Law – Don Corleone’s biggest asset was giving away favors to many people and then calling up at the right time.

Now remember your hostel mates. You probably know the color of underwear they prefered (a loose english equivalent of the original langotiya or chaddi yaar). Imagine that after 10 years you are managing sales for a consumer goods company. Today if anyone of your former mates is trying to get an introduction to your marketing department, who is more likely to get a favor from you – the one who refused to lend you his bicycle or the one who gave you his new bike so you could impress your girlfriend. Hypothetical example but you get the point.

Everyone knows by now that starting out is not about the idea but about execution. Execution obviously can’t be summarized in one line but so much of it depends on your access to the right set of people and even more importantly your ability to call upon them for a small favor. This is what going to a good school gets you – people from good schools get to good places and since they have had help from their alumni, they help other alumni when possible. This is a variant of the law of reciprocity which moves the favor forward in a chain. However, the real big favors come from people you have had personal interaction with and had the fortune to do something good – maybe remove a road block, solve a small problem, just create a pleasant experience in this often not so pleasant world! Anything goes, as long as it helped create a favorable impression about you. If over the last 10 years, you had the fortune to win over 500 people it is an enormous social capital you have. A bootstrapper with little financial capital will bless his stars for this. This value is often accounted in businesses as goodwill. Think of yourself as starting with a positive balance sheet on day one of starting out.

If you are convinced (or trust me) that being nice pays, it is easy to think right now that what a unholy lesson – being nice for selfish reason seems so … ’selfish’. And wasn’t that the first thing about being nice – ‘don’t be selfish’. In reality being selfish is one of the cornerstone of free, capitalistic society. I kind of like the fact that a free, capitalistic society will actually be a nice place to live if everyone follows the be nice credo, even if for selfish reasons. This nicely extends the invisible hand, that Adam Smith talked about in the classic of economics – wealth of nations.

It is not from the benevolence of the butcher, the brewer or the baker, that we expect our dinner, but from their regard to their own self interest. We address ourselves, not to their humanity but to their self-love, and never talk to them of our own necessities but of their advantages.

Relying on people’s selfish interest does seem more sensible to me too than relying on their benevolence.

The irony of the situation is though that if you are not genuinely nice to other people they will see through you sooner than later. So don’t confuse being nice with just behaving nicely. Most importantly don’t be a fake. In which case you better be a mean entrepreneur which will also work as long as you are making something people want. At least people won’t think you are mean and fake! Its only that it would be so much easier being nice.

The only way to be nice is to make it a habit. If you are only behaving nicely and it mostly depends whom are you interacting with – either you will slip many-a-times or you will loose so many opportunities to increase your social capital. You can never really predict how the future will play out and what the people you are dealing with today will be doing after say 5 years. Mostly as a bootstrapper you never know what turn your business will take and whom will you need to call on one day. Wouldn’t the mess boy in your college you didn’t care about who has become a maharaj today be an ideal resource to tap into for supplying manpower for your catering business? Or maybe he would be a person who could give you access to that remote eastern UP village for the bottom of the pyramid business you just cooked up.

Being nice is the most important favor a bootstrapper can do to himself (I am yet to meet aspiring women bootstrappers, will they please come out!). Although everyone can benefit but the reason it appeals to bootstrappers most is because it is free. Really, doesn’t cost to be nice. You do have a choice though; bootstrapping is difficult in many ways, make it easy with whatever straw you can grab.

Very often we have great ideas but we are not the right vehicle for those ideas. Mostly when you figure you are not the right person, move to another idea. But say the idea is chasing you in your dreams! You want to move on but it won’t let you. This post is focused on this rarer case when you want to take the extreme risk of going after an idea even when you are not the right person.

Firstly, assess if you are the right person for the idea or how you are not the right person. For example, creating a solar powered car for Rs 1 Lakh is a great idea but I am not the right person for the same. My technical skills are not aligned (I only know how to make software products), the experience I have is not in this area (been working in software companies), the ecosystem I share of friends, acquaintances, vendors (all in software world) will not be able to support me in it. And then if I am thinking of venturing in this plan alone, I should definitely back down immediately. Startups without the right team rarely succeed.

The idea of the above exercise is not discouragement but realization. I firmly believe entrepreneurship is about the passion you have in the idea and in your dream. So stretching this hypothetical solar car example lets see what could a software pro with that burning desire to create a cheap solar car would do.

Given his passion, he has already been reading all the literature for the latest in cheap solar/automobile technologies and also on what other companies are doing in this area. He has a google alert set up on the right keywords just so that he doesn’t miss a development in israel on this. After identifying the lack of ecosystem, he starts attending all the solar and automobile conferences he possible could. Obviously, this means spending money on travel instead of buying that new car he wanted but thats a small sacrifice. Slowly the ecosystem starts emerging – vendors who supply the solar panels, engineers who have been working in this area for last 10 years, fabricators and manufactures who put things together, motors and battery suppliers etc. He visits the vendors, buys samples and kits and makes friends in general.

He also notices that Pune and not his current city Bangalore is the right place for such an enterprise and most of the companies he finds are based in Pune. Fortunately, Pune also has a robust software industry and he shifts cities getting closer to his network. All the while he has also been looking out for an ideal co-founder for this dream and he finds an engineer in Pune working in the manufacturing space who makes the fit. Given the pathetic seed funding opportunities in India and also the fact that no one will back a bunch of rookies, the duo get pragmatic instead of being depressed. Rather than make a solar car, they create a solar kit to convert an existing electric car into a solar powered car. Creating the prototypes was easier, cost could be borne by savings and utility is still great since the kit reduces the mean time to charge of the vehicles apart from saving the electric bill.

The duo now go looking for tie ups with existing electric vehicle manufactures for the solar kit which could be sold as an add-on. Both plan to leave jobs as soon as first tie-up materializes.

Although we can continue our story and make these people rich/famous, we will stop here. If the tie-up with a electric vehical company happens they would successfully bootstrap and have a better chance to convince investors to back them up on a solar car venture of their own. Or maybe this solar add-on business is more viable and scalable and they will never try making their own cars.

The lesson is to break the dream into smaller actionables and even scale down business objectives into more achievable targets with lesser resources. As long as those smaller business objectives are ‘making you the right person’ for the bigger objectives you are doing fine. So if you want to sell an educational ERP system, it might be a good idea to make colleges your customer by first doing a small alumni portal for them. Doing something smaller for the same customers or something because of which skills/experience develop in the area of interest is a great way to bootstrap.

This is a longish post, so thanks if you reached this line

Took a slightly longer break – meanwhile Neev completed 3 years and we are redoing our website to reflect our growth.

Back to business at hand. Picking the thread from where we left it: accounting. As I had said, we will use the depreciation funda we gained to some good use. Let’s say your last years accounts were

Earning
Revenue – 100

Expense
Computers bought – 50
Salaries – 20

Profits
100 – 20 – 30% (depreciation) of 50 = 80 – 15 = 65

Tax
35% of 65 = 22.75

Cash remaining (if we started with zero)
100 – 50 – 20 – 22.75 = 7.25

As we know that cashflow is the king, so for a bootstrapper the important figure is the princely figure of 7.25 which will allow investments, sales cost, working capital needs and say that customer cheque comes in a little too late. Unfortunately for young businesses in India credit facilities suck. After 2-3 years of doing business many avenues open up but as a bootstrapper you have to just get every paisa count. The simple lesson here is that rentals are 100% expense and have nothing to depreciate.

Now being the smart bootstrapper you are, here is what you do after reading this post – rent the same computers you were going to buy which give you:

Earning
Revenue – 100

Expense
Computers rented – 15
Salaries – 20

Profits
100 – 20 – 15 = 65

Tax
35% of 65 = 22.75

Cash remaining (if we started with zero)
100 – 15 – 20 – 22.75 = 42.25

This is assuming the close to real rate of 30% of value as rental in a year. Even if rental is 50% (leaving the calculations for you) the cash remaining will come to 35.75. So you are 5 to 6 times better than what you were!

Usually for cash focussed bootstrappers, the buy vs rent argument will always end in one place. This makes even better sense for expense such as furniture with 15% depreciation. Shivajinagar in Bangalore will have lots of folks ready to give you furniture on rent.

Also, things like UPS are good candidates since in your growth phase you never know how soon you will outgrow the need and be saddled with a piece of equipment you don’t need.

Enough numbers for now, in the next post we will come back to some good old personal advise.

With apologies to the MBAs out there. But if you have totally forgotten accounting, you definitely need to know this.

Once a bootstrapper starts operations, initial expenses are small. Typically you buy laptops, desktops, hubs or switches or white boards, chairs, tables. The model is: you need something and you go pick it up from a store. As soon as you start scaling up, you will notice a strange thing when you visit your accountant. You have little money in the bank and your tax liability is more than cash you have! I was surprised the first time it happened to us and I learned about depreciation the hard way. The simplistic accounting I knew only included knowledge of cash coming in and going out. As per my definition if I would have made profits, it would have resulted in excess cash (earning minus spending) in bank from which the government is welcome to take its 30-plus%. Wish it were that simple.

Depreciation works like this – any asset you buy has a life. Since you buy a chair and can use it for the next 5 years, the government will force you to expense it piece by piece over 5 years. Lets take an example – say the chair costs Rs 100 and has the life of 5 years (government has prescribed these for various categories, so this is just an example). For simplicity, assume you only made Rs 150 in that year and all you bought was a chair. No other expenses happened. Your bank would have Rs 50 left but your tax won’t be Rs 15 (30% of 50) but Rs 39 (30% of 130). Since only Rs 20 (20% of 100 in the first year) is allowable expense and the rest Rs 80 is an asset that you have created. Fortunately, taxes are paid in in September of the following year which gives you some time to earn the money you need to give to the government. If you are a young business, most likely your revenues are going so fast that last year huge tax looks like this years change (if not, you may not be growing fast enough and maybe on your way to becoming a small business).

I will use the above lesson to practical effect in a subsequent post. Meanwhile a small tip: the government charges a 1% per month interest if you delay the tax payment by a few months. It is perfectly legal to do so. Take the offer – a bootstrapper won’t find anyone else willing to finance without a collateral at 12% p.a.