The Benefits of Bootstrap Financing

Bootstrap financing is a term used to describe creative ways businesses finance their purchases without actually taking loans. Instead of going to a lender to assure they have cash on hand for each purchase they make, these businesses will essentially create contracts with vendors and agree to pay in the future. Once the business has made a sale, the business then relays the cash immediately to the vendor. Bootstrap financing may require the use of letters of credit, which are like IOUs, or they may be arranged through a private contract. Either way, a business that elects this method may benefit in several ways.

Avoid Costly Loans

Businesses who do not want to pay high interest rates on large loans can avoid those loans through bootstrap financing. Commercial loans typically must meet minimum loan limits in order to receive approval. Further, new businesses will have very high interest rates as they are just getting started. These high interest rates and large loans mean your business will be spending a lot of money in the future just to get financing today. 

Forge Beneficial Relationships

Bootstrap financing requires a business to be well-connected and well-respected in an industry. A vendor will not likely finance your purchase without some degree of existing relationship. This may be hard for a business just starting out, but if you have contacts in the industry you still may be able to take advantage of that network. For example, a beginning restaurant owner may know a local wine owner looking to place his product. The wine maker can allow the restaurant to keep the wine in-house, and the restaurant can pay the wine maker whenever a bottle is sold. In the future, these relationships can pay off if your business needs assistance on a particular project or event.

Prevent Over-Borrowing

Taking out a large loan all at once leaves you more vulnerable to over-borrowing. Borrowing only when you need the item will keep a better check on how much you are financing. Bootstrap financing does require attention to detail, however, because the loans will come from so many different sources. If you are able to manage this aspect, you can cater your debt load each month to the amount of income you are expected and the number of orders you will need to fill. Instead of taking one large loan you pay off in the same amount each month, bootstrap financing is more pay-as-you-go.

Remain Flexible

Bootstrap financing can be beneficial to businesses who need a more flexible business model. For example, import/export businesses may not know exactly what commodity they will be working with in a given month. The market will change, and they will need to change along with it. Instead of purchasing huge quantities of a certain good up front with a large business loan, the trader can purchase what the market demands when the market demands it. Once the order is sold, the trader can repay the vendor in real-time. If you are able to anticipate market demand for your product, this flexibility will pay off.