Financial bootstrapping in small businesses: Examining small ...

FINANCIAL BOOTSTRAPPING IN SMALL BUSINESSES: EXAMINING SMALL BUSINESS MANAGERS’ RESOURCE ACQUISITION BEHAVIORS JOAKIM WINBORG Halmstad University, Halmstad, Sweden

¨M HANS LANDSTRO Halmstad University, Halmstad, Sweden Bodø Graduate School of Business, Bodø, Norway

In recent years, small businesses have received much attention from policy makers and researchers, in that these businesses are considered important for economic growth and job creation. At the same time small businesses are assumed to face major problems in securing long-term external finance, which is regarded as restraining their development and growth. Small business managers are assumed to use institutional finance as a means of meeting the need for resources, and as a consequence the major part of the research on small business finance has focused on constraints in the supply of institutional (market) finance. As we see it, most small business managers handle the need for resources using means other than external finance by applying different kinds of financial bootstrapping methods. Financial bootstrapping refers to the use of methods for meeting the need for resources without relying on long-term external

EXECUTIVE SUMMARY

Address correspondence to Joakim Winborg, Halmstad University, Scandinavian Institute for Research in Entrepreneurship (SIRE), PO Box 823, S301 18 Halmstad, Sweden; Tel.: ⫹46-35-167100; fax: ⫹46-35148533. The authors acknowledge the invaluable statistical advice of assistant professor Helge Helmersson, Lund University, Sweden, the research assistance of MBA student Karin Lundgren, and the feedback from two anonymous reviewers. The project has received financial support from Halmstad University and from the Ruben Rausing Foundation. Journal of Business Venturing 16, 235–254  2000 Elsevier Science Inc. All rights reserved. 655 Avenue of the Americas, New York, NY 10010

0883-9026/01/$–see front matter PII S0883-9026(99)00055-5

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¨M J. WINBORG AND H. LANDSTRO

finance from debt holders and/or new owners. However, these other means of resource acquisition have, with few exceptions, not been focused on within earlier research on small business finance. Against this background, the purpose of this study is to describe small business managers’ use of different financial bootstrapping methods, and, more importantly, to develop concepts that can help us better understand small business managers’ financial bootstrapping behaviors. The research process was initiated with a number of unstructured interviews conducted with small business managers, accountants, consultants, bank officials, and researchers, in order to identify different financial bootstrapping possibilities. On the basis of the interviews and an earlier study on financial bootstrapping, resulting in the identification of 32 bootstrapping methods, a questionnaire was constructed and sent to 900 small business managers in Sweden. Given the limited knowledge within the area of financial bootstrapping, the study is based on explorative factor analysis and cluster analysis. From the cluster analysis six clusters of bootstrappers were identified, differing from each other with respect to the bootstrapping methods used and the characteristics of the business. On the basis of this information the different clusters were labeled: (1) delaying bootstrappers; (2) relationship-oriented bootstrappers; (3) subsidy-oriented bootstrappers; (4) minimizing bootstrappers; (5) non-bootstrappers; and (6) private owner-financed bootstrappers. The groups of financial bootstrappers show differences in their orientation toward resource acquisition, representing different aspects of an internal mode of resource acquisition, a social mode of resource acquisition, and a quasi-market mode of resource acquisition. We find that the delaying bootstrappers, private owner-financed bootstrappers, and minimizing bootstrappers all represent an internal mode of resource acquisition. The relationship-oriented bootstrappers follow a socially oriented mode of resource acquisition, whereas the subsidy-oriented bootstrappers apply quasi-market oriented resource acquisition. This study contributes to our empirical understanding by providing knowledge about the financial bootstrapping methods used in small businesses. Furthermore, by developing concepts this study contributes to the conceptual development of our knowledge about financial bootstrapping. The implication of this study is that financial bootstrapping is a phenomenon which deserves more attention in future research on small business finance. At the same time, financial bootstrapping behavior is probably a more general phenomenon, appearing in different contexts, such as R&D activities in large businesses, financing startups, etc. Finally, the study points out implications for small business managers, consultants, teachers, etc. Practitioners often tend to focus on market solutions to resource needs. This study shows, however, that this strong focus can be questioned. Resources needed in small businesses can in many situations be secured using financial bootstrapping methods, referring to internally oriented and socially oriented resource acquisition strategies.  2000 Elsevier Science Inc.

INTRODUCTION In recent years both policy makers and researchers have become interested in the importance of small businesses. It has been widely recognized that start-ups and more established small businesses play an important role for economic growth and job creation in society (see for example Davidsson et al., 1994, 1996; Storey, 1994). In this context the lack of capital facing small businesses seems to be an ever-recurring theme. Several studies (see for example Bolton, 1971; Stanworth and Gray, 1991; Storey, 1994) have referred to the financial gap facing small businesses, in terms of problems in attracting long-term finance from market actors such as banks and venture capital companies. The underlying assumption in the research and in the public debate is that the financial problems in turn restrain small businesses’ development and growth (Hughes, 1996). This reasoning sees small business managers as using financial capital to meet the need for resources. In more specific terms, it is assumed that small business managers try to raise large amounts of capital from, for example, banks and venture capital companies (Bhide, 1992). Therefore, much research on small business finance has focused on con-

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straints in the supply of institutional finance, whereas the handling of financial needs at the demand side (i.e., the small business manager’s perspective) has been given much less attention (Cressy et al., 1996). The financial gap for small businesses can be explained by the information asymmetry between external financiers and small business managers (Storey, 1994). Small business managers most often possess superior information about the potential of their own business. Furthermore, in some situations, such as in young innovative businesses, it can be difficult for the business managers to articulate and to give as detailed information about the business as the financiers want. Additionally, some small business managers may be restrictive when it comes to providing external financiers with detailed information about the core of the business, since trade secrets, in one way or another, may leak through to competitors. This implies that financiers face problems in finding the information they need, and as a consequence they experience great uncertainty (Nooteboom, 1993). On the other hand, financiers may possess superior information on the aggregate level about the potential of the whole industry as such. The problems of information asymmetry are, in other words, not one-sided. The information asymmetry between the external financier and the small business manager in turn increases the costs of handling the financial transaction. High transaction costs arise because of the need to organize, carry out and monitor the exchange in such a way that the information asymmetry can be reduced (Williamson, 1981). Initial as well as current assessment costs are more or less invariant with the size of the capital provided by the financier, implying that the relative costs facing the financier will be larger for smaller amounts (often provided to smaller businesses) than for larger amounts. The relatively high transaction costs will be compensated for by an increased financial cost facing small businesses (Storey, 1994), and empirical studies show that small businesses in general face higher financial costs than larger businesses (McMahon et al., 1993). The fact that the financial cost increases also implies that financiers will be exposed to problems of adverse selection (i.e., as the cost of finance increases there is a risk that the low-risk businesses will drop out of, and the high-risk businesses enter, the market) (Stiglitz and Weiss, 1981). The consequences of the high risk and the high costs can of course also be that the financiers refrain from financing some groups of small businesses altogether. In addition to the high financial costs, small businesses face costs for identifying potential financiers and for undertaking bonding activities. Bonding costs arise because the need to provide financiers with information and guarantees about non-opportunistic behavior (Jensen and Meckling, 1976). Taken together, using the external financial market as a means of meeting a small business’ need for resources is often a relatively expensive solution, if available at all. Problems in securing external institutional finance for meeting the need for resources may imply that small business managers handle the need for resources using other than financial means. This in turn implies that the need for resources is secured without there being a financial transaction. At the same time, these other means of resource acquisition have, with few exceptions (e.g., Starr and MacMillan, 1990; Bhide, 1992; Freear et al., 1995; Harrison and Mason, 1997), not been observed in earlier research on small business finance. As a basis for further clarifying the purpose of this study, we present how Lars Andersson has developed his business, “Fuelinject Ltd,” and how he managed to meet

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the need for resources in ways other than relying on financial means provided by institutional financiers. The case is a modified version of real-world conditions. Fuelinject Ltd is a small business developing a new fuel injection technique for cars. Lars initiated the project in 1985, while he was still working with product development at a large Swedish business. In 1987 he left his employment and formally started (registered) the business. Prototype tests undertaken at the start of 1990 showed very promising results. The new technique was planned to be introduced on the market in 1995. The market introduction required a large amount of additional resources to be allocated to production, distribution, and marketing. Besides, Lars also needed to develop further the competence already built up. However, he experienced great difficulties in attracting long-term external finance to meet the need for resources. The fact that Lars himself had no further personal savings to invest made the situation look even more problematic. He faced a situation in which the market introduction was put into jeopardy, and the future of his business made uncertain. In 1998 we meet with Lars again. He tells us that the business has developed and expanded to employing 10 people. Even though the business developed a little slower than planned, the technique has been introduced on the market and the expansion of the business has begun. Lars informs us that the development has been taken care of without any major contributions from long-term external financiers. How was this realized? Initially, he shared location, at a very low rental charge, with a friend who did not make full use of the space, and he used the equipment and machines of his friend’s business in the evenings at no cost. He engaged students in university degree projects related to his business idea. This allowed him to obtain knowledge at no cost. During the first few years, from 1987 and onward, he refrained from withdrawing any salary, instead considering the business to be an investment. He worked as a consultant in other businesses, and relatives helped him now and then without monetary remuneration. Furthermore, he managed to achieve payments in advance from customers for the development of the product, and he gained knowledge by discussing his business with former colleagues and potential customers. The case shows that previous working relationships, family and friends, and other contacts were all important as resource providers and supporters when Lars translated the idea into a going business, in line with the reasoning made by Starr and MacMillan (1990), and Larson and Starr (1993). It can be concluded that Lars has used a much wider spectrum of means, besides external finance, of meeting the need for resources than usually discussed within research on small business finance. Trying to explain his way of thinking, we can consider him as a genuine “financial bootstrapper.” The concept “financial bootstrapping” refers to the use of methods to meet the need for resources, without relying on long-term external finance (Freear et al., 1995; Harrison and Mason, 1997; Winborg and Landstro¨m, 1997). Examining the use of bootstrapping methods in small software businesses in the United States, Freear et al. (1995) show that absorbing resources from customers and suppliers in different ways together with using resources provided by the owner/manager are the most used methods. Replicating the study by Freear et al. (1995) in the Northern Ireland context, Harrison and Mason (1997) show that 95% of the businesses examined use bootstrapping methods to a greater or lesser extent. These findings indicate that financial bootstrapping plays an important role in the development of a small business, however the phenomenon has been given very little attention in earlier re-


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search on small business finance. Furthermore, the few studies that have examined financial bootstrapping in small businesses are descriptive in kind, implying that we need to develop concepts to increase our understanding of this phenomenon. Against this background, the overall purpose of this study is to develop an understanding of small business managers’ use of financial bootstrapping methods as a means of acquiring resources needed. In more specific terms, the purpose is to describe small business managers’ use of financial bootstrapping methods, and more importantly to generate concepts that can help us better understand small business managers’ financial bootstrapping behaviors. The purpose can be specified by formulating the following research questions: •

What financial bootstrapping methods do small business managers use?

•

What different groups of financial bootstrapping users can be identified?

•

How can we understand small business managers’ use of different bootstrapping behaviors?

This study contributes to our empirical understanding by providing knowledge about the financial bootstrapping methods used in small businesses. Furthermore, by developing concepts this study contributes to the conceptual development of our knowledge about financial bootstrapping. The structure of the article is as follows. In the next section the method of this study is described. The empirical findings are presented in three subsections. First, we describe the relative use of different financial bootstrapping methods in Swedish small businesses. Second, we present the results from a factor analysis resulting in the identification of six groups of financial bootstrapping methods. Third, on the basis of the six factors found, we identify different groups of financial bootstrapping users. Thereafter, the empirical findings are discussed in more general terms in order to understand the different bootstrapping behaviors identified. Finally, we discuss the implications of this study both in theoretical and practical terms.

METHODS In this section the data-gathering process, the variables used in the study, and the analysis of data is described. The section also contains a discussion concerning the limitations of the study, as well as a description of the sample.

Data-Gathering Process This study is the first empirical study in Sweden focusing on small business managers’ use of financial bootstrapping methods and, as has been shown above, there are very few studies on the topic in other countries as well. Therefore, to identify different bootstrapping methods the research process started with a number of unstructured explorative interviews with accountants, small business managers, bank officials, researchers, officials at the Regional Development Fund, and consultants. The purpose of the interviews was to elaborate upon different bootstrapping possibilities. The findings presented in Freear et al. (1995) served as a point of departure for the interviews. Because of our limited knowledge about the phenomenon of financial bootstrapping in small

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businesses, the study is explorative in kind, using explorative factor analysis and cluster analysis. On the basis of the interviews and the study by Freear et al. (1995), 32 bootstrapping methods were identified. Thereafter, a questionnaire was constructed and sent to the manager (president), specified by name on the letter, of 900 Swedish small businesses (fewer than 100 employees). Of the sample of 900 businesses 500 had 0–9 employees, 200 10–19 employees, 100 20–49 employees and finally 100 50–99 employees. The latter groups are over-represented in the sample, in relation to the whole population of Swedish small businesses, in order to have a fair number of businesses of all sizes for the analysis. Apart from the number of employees, some further delimitations were made in the study. Businesses active in the financial and/or public sector were excluded from the sample, as were economic associations and foundations. Thirty-one businesses claimed that they were not independent businesses, but belonging to a group of companies. Three questionnaires were returned by the postal services due to unknown addressee, and it was assumed that these businesses had gone out of business. These 34 businesses were excluded from the sample, implying an effective sample of 866 businesses. Of these, 544 businesses were not heard from, 31 businesses were found to be inactive and 29 businesses returned incomplete questionnaires. Accordingly, 262 usable questionnaires were returned, implying a total response rate of 30%. A more detailed drop-out analysis is presented in Table 1. From Table 1, it can be seen that the response rate is rather equal between businesses of different size.

Variables Used The operationalization of the independent variables, referring to different characteristics of the business, is shown in Appendix 1. The operationalization of the bootstrapping methods, dependent variables, examined is shown in Appendix 2.

Data Analysis The analysis in the study is based on explorative factor analysis and cluster analysis. The reason for undertaking an explorative analysis and not a confirmative analysis is the limited level of knowledge within the area of interest. The different choices made in the analyses are discussed in more specific terms below.

Factor Analysis The 32 variables (bootstrapping methods) included in this study are metric (21) and non-metric variables (11). Although variables for factor analysis are generally assumed TABLE 1 Drop-out Analysis No. of employees 0–9 10–19 20–49 50–99 Totals

Sample

Excluded Objects

Effective Sample

Number of Answers

Response Rate (%)

500 200 100 100 900

5 4 8 17 34

495 196 92 83 866

151 63 26 22 262

31 32 28 27 30


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to be metric variables, dummy variables (coded 0 or 1) can be used along with metric variables. From a statistical standpoint the departures from the assumption of normality, involved in the use of non-metric variables, apply only to the extent that the observed correlations between variables can diminish (Gorsuch, 1983; Hair et al., 1995). To identify any potential disturbances caused by the inclusion of non-metric variables in the factor analysis, two separate factor analyses were undertaken as a point of departure. In a first round only metric variables were included, while all variables were later included in a second round. From these two separate analyses no disturbances caused by the non-metric variables could be identified. Fundamentally, the same factors are found in the two analyses, except for two new factors (the present factors 2 and 5) being identified in the analysis including metric as well as non-metric variables. Therefore, it was decided to start the factor analysis from all 32 variables. However, the variable “obtain subsidy from the foundation Innovationscentrum” was eliminated before the analysis actually was initiated, as it was not used by any of the businesses surveyed. The number of variables included in the factor analysis was gradually reduced, on the basis of each variable’s correlation with other variables seen on the correlation matrix, eliminating one variable at a time. Variables showing no correlation (less than 0.2) with any other variable were excluded. The final factor solution comprises 25 variables. Besides the variable mentioned above, the following variables were eliminated in the final factor solution: “obtain subsidy from County Labour Board,” “buy on consignment from suppliers,” “run the business completely in the home,” “buy used equipment instead of new,” “hire personnel instead of employing permanently,” and “obtain payment in advance from customers.” The Kaiser-Meyer-Olkin measure is 0.69 (and Bartlett’s test .00000), implying that a factor analysis is meaningful. Only factors with an eigenvalue over 1 was considered for further analysis, which after the first round resulted in the identification of eight factors. Finally, on the basis of eigenvalues and implications from the scree-test, the first six of the eight factors were chosen.

Cluster Analysis The cluster analysis undertaken follows a hierarchical procedure as the objective of this study is explorative in kind, trying to identify potential clusters. In a non-hierarchical procedure seed points have to be known beforehand, on the basis of theoretical underpinnings and, as has been indicated above, the knowledge base within the field is too limited to be used in selecting the seed points to start out from in the identification of clusters. Several hierarchical methods (single linkage, average linkage and Ward’s method) for identifying clusters were tested. Ward’s method was chosen because it allows a fair number of observations in each cluster to be identified. The other hierarchical methods tested produced unbalanced cluster solutions, implying that one or more clusters only included a few number of observations. This in turn can imply that it will be difficult to identify statistical differences concerning independent variables between the clusters, as the number in some clusters is simply too small. Different cluster solutions were sought, ranging in number from two to six. The cluster solution chosen includes six clusters, as a solution providing a balanced distribution between clusters was aimed for. In the other cluster solutions (two to five), the distribution between clusters was rather unbalanced. Differences between the six clus-

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ters identified were looked for on the basis of independent variables. ANOVA tests and chi-square tests, using a significance level of 10%, were used to identify differences between the six clusters with reference to the independent variables, such as size, line of business, stage of development, etc., presented in Appendix 1.

Limitations of the Study There are several factors which potentially restrict the conclusions to be drawn from the study. First, the response rate is only 30%, implying a large number of non-respondents. Second, the method of selection of businesses used in the study results in over-representation of “larger” businesses in relation to the underlying population. This fact must be considered when reflecting upon the generalization of the results. Third, only surviving businesses are examined. It is possible that managers in liquidated businesses have handled the need for resources differently from managers in surviving businesses. Fourth, the study suffers from all the weaknesses associated with a self-report study. For example, the respondents could be influenced by their perceptions of what seems to be a desirable response rather than indicating the actual use of different bootstrapping methods. Finally, using a five-point Likert scale can imply analytical limitations in that the respondents may overestimate the use of different methods.

Description of the Sample The number of employees per business examined in this study is in median 5, and the median turnover, sales, 5.3 million SEK (≈US$ 600,000). In terms of stage of development the businesses can be regarded as being rather mature, implying a stable turnover and market (valid for 60% of the businesses). The growth rate among the businesses, measured as the increase in turnover between 1994 and 1996, is in median 18%, and the profit margin per business in 1995 is in median 7%. The businesses in the study represent different lines of business. A large number of the businesses operate within consulting/other services (21%) or the manufacturing industry (19%). In this context it should be noted that, in comparison with the overall population of small businesses in Sweden, our sample encompasses relatively many businesses active in manufacturing and relatively few businesses active in trade and/or agriculture. With respect to geographical location the businesses are well spread. Fortythree percent of the businesses are active in rural areas with fewer than 25,000 inhabitants, 20% in small cities with between 25,000 and 75,000 inhabitants, and 37% in cities with more than 75,000 inhabitants. Furthermore, the managers were asked about how they view their business’ chances of obtaining finance from banks. A majority of the managers (66%) consider the chances of obtaining finance from banks as great or very great, whereas some 20% consider the chances as small. Some managers (14%) claim that their chances are to be regarded as almost non-existent. As many as 60% of the businesses do not have longterm finance from banks. Finally, 34% of the managers included in this study report a need for further finance.

EMPIRICAL FINDINGS In this section the empirical findings regarding financial bootstrapping in small businesses are presented. By way of introduction, we describe the use of financial bootstrap-


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ping methods. On the basis of this description, groups of bootstrapping methods are identified from the factor analysis. Finally, clusters of bootstrappers are identified and elaborated upon based on the cluster analysis undertaken.

The Use of Financial Bootstrapping Methods What financial bootstrapping methods do small business managers use? The relative use of different bootstrapping methods in small businesses is presented in Appendix 3. From this table it can be seen that the six bootstrapping methods most used are: (1) buy used equipment instead of new (used by 78% of the businesses); (2) seek out best conditions possible with suppliers (74%); (3) withhold manager’s salary (45%); (4) deliberately delay payments to suppliers (44%); (5) use routines for speeding up invoicing (44%); and (6) borrow equipment from other businesses (42%). Methods 1–5 all imply that the strain on the business is kept to a minimum, in turn implying that the potential for generating internal funds is increased. Moreover, the sixth method, “borrow equipment from other businesses,” implies that resources are secured without there being any financial transaction or financial obligation, which in turn means that resources are acquired without there being any strain put on the business at all. Furthermore, Appendix 3 shows that the six bootstrapping methods the least used are: (1) obtain subsidy from the Swedish foundation “Innovationscentrum” (not used at all); (2) raise capital from a factoring company (used by 3% of the businesses); (3) obtain subsidy from the Swedish National Board for Industrial and Technical Development (6%); (4) obtain subsidy from the Swedish County Labour Board (8%); (5) share employees with other businesses (8%); and (6) share equipment with other businesses (8%). These findings indicate that the use of subsidies as a way of meeting the need for resources is not as widespread as could have been expected. Besides, sharing employees and equipment with other businesses is not as frequently used as was assumed.

Groups of Financial Bootstrapping Methods What different groups of financial bootstrapping methods can be identified? In this section we elaborate on this question by presenting the results from the factor analysis undertaken. As can be seen in Table 2, the six factors identified represent 47% of the total variance, after varimax rotation. The first group of methods (factor 1) identified regards direct or indirect provision of resources from the (owner) manager and relatives, such as the manager working with assignments in other businesses, relatives working at non-market salary, use of the manager’s private credit card for business expenses, and withholding the manager’s salary. This group of financial bootstrapping methods is labeled “owner financing methods.” Furthermore, a second group (factor 2) includes methods dealing with the management of accounts receivable, for example by speeding up invoicing or using interest on overdue payment. Accordingly, this group of methods is given the name “minimization of accounts receivable.” The third group (factor 3) consists of methods concerning sharing and borrowing resources from other businesses, and is named “joint utilization.” In applying the different methods of joint utilization the manager’s personal relations to external actors is the means used to obtain the resources needed. Methods belonging to the fourth group (factor 4) all deal with delayed payments from the business, such as delaying payments to suppliers and leasing equipment (and by so doing delaying the major part of the investment in terms of payment). This group was labeled “delaying

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TABLE 2 Rotated Orthogonal Factor Analysis for Bootstrapping Methods Factor Method

1

2

3

4

5

6

Use of manager’s credit card Loan from relatives/friends Withholding manager’s salary Assignments in other businesses Relatives working for non-market salary

.70 .66 .64 .62 .56

.00 .18 ⫺.04 ⫺.13 ⫺.13

.18 .04 ⫺.12 .10 .22

⫺.05 .16 .28 .01 .03

.11 ⫺.10 .05 .00 ⫺.01

⫺.11 .15 ⫺.11 ⫺.02 .04

Cease business relations with late payers Use routines for speeding up invoicing Use interest on overdue payment Offer same conditions to all customers

.02 ⫺.12 ⫺.14 .09

.78 .76 .74 .57

.04 ⫺.03 .10 ⫺.04

⫺.05 .13 .09 ⫺.02

.14 .20 .24 ⫺.32

⫺.08 .08 .20 ⫺.09

Borrow equipment from others Own equipment in common with others Co-ordinate purchases with others Practice barter instead of buying/selling

.26 .00 ⫺.02 .37

.02 ⫺.12 .19 ⫺.04

.71 .67 .66 .52

.03 ⫺.14 .15 .21

⫺.01 ⫺.01 ⫺.07 .05

.11 .15 ⫺.20 ⫺.07

Lease equipment instead of buying Delay payment to suppliers Delay payment of value-added tax Use routines in order to minimize stock Best conditions possible with suppliers

⫺.11 .29 .24 ⫺.04 .11

.04 ⫺.01 .05 .14 .26

.18 .06 ⫺.06 ⫺.11 .05

.73 .70 .69 .03 .02

.00 .30 ⫺.10 .72 .71

.07 .18 ⫺.04 .05 ⫺.08

Subsidy from County Administrative Board Subsidy from Swedish National Board for Industrial & Technical Development

.03

.11

.02

.06

⫺.03

.80

⫺.06

⫺.02

⫺.02

.06

.02

.80

Offer customers discounts if paying cash Raise capital from a factoring company Choose customer who pay quickly

.06 ⫺.08 .15

.05 .11 .37

.05 .02 .02

.17 .04 ⫺.13

.25 ⫺.12 .20

⫺.08 .01 .10

.00 .13

.04 ⫺.04

⫺.05 .13

.17 ⫺.05

.08 ⫺.25

⫺.09 .01

2.50 10.0

2.44 19.8

1.86 27.2

1.81 34.4

1.56 40.7

1.54 46.8

Share premises with others Share employees with others Eigenvalue: Percent variance explained (in cumulative terms)

payments.” The fifth group (factor 5) includes methods regarding the minimization of own resources invested in stock. For example, by using formal routines, the amount of capital invested in stock can be minimized, and by seeking the best conditions possible with the supplier it can be argued that the supplier, to a greater or lesser extent, actually finances the resources invested in the stock. This group was named “minimization of capital invested in stock.” Finally, the sixth group (factor 6) includes methods concerned with obtaining subsidies from Swedish public organizations for meeting the need for resources and was labeled “subsidy finance.”

Groups of Financial Bootstrappers What different groups of financial bootstrappers can be identified? A cluster analysis was undertaken in order to tackle this question. The cluster analysis was based on the factor scores identified in the factor analysis, and the cluster solution finally chosen comprises six clusters of small business managers. The six clusters’ mean values on each factor are presented in Table 3.


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TABLE 3 Cluster Analysis (Six-cluster Solution) Factor Factor 1 Factor 2 Factor 3 Factor 4 Factor 5 Factor 6 Cluster size

Cluster 1

Cluster 2

Cluster 3

Cluster 4

Cluster 5

Cluster 6

⫺.14 ⫺.37 ⫺.11 .80 .52 ⫺.28 82

.32 ⫺.47 2.07 ⫺.68 ⫺.37 .08 25

⫺.35 .15 ⫺.25 .02 .20 2.70 21

⫺.29 1.22 ⫺.01 ⫺.36 .25 ⫺.30 52

⫺.24 ⫺.42 ⫺.42 ⫺.38 ⫺.96 ⫺.26 65

2.44 .19 ⫺.58 ⫺.33 .67 ⫺.18 17

Note: Presented measures represent each cluster’s mean value on each factor. The factor scores are standardized, implying a mean of 0 and a standard deviation of 1. p ⬍ 0.01 in all cases.

The table shows that managers active in the first group (cluster 1) of businesses use different delaying methods (factor 4) and methods for minimizing the amount of capital invested in stock (factor 5) to a relatively high extent. The majority of the businesses in this group are active in trade and the hotel/restaurant sector, and located in large cities. The businesses are relatively large, with median 9 employees, and show low growth during the last three years (1994–1996). This group includes businesses just introduced on the market as well as mature businesses, in other words, no pattern can be identified when it comes to stage of development. The businesses operate with a low profit margin, are facing financial problems, and the managers report a need for further finance. A majority of the businesses today lack long-term bank loans, and the managers foresee problems in obtaining finance from banks for the future. This group is labeled delaying bootstrappers. The second group of managers (cluster 2) use methods for joint utilization (factor 3) to a relatively high extent, implying that resources are shared with and/or borrowed from other businesses. At the same time it is interesting to note that managers active in businesses in this group use different methods for delaying payments (factor 4) to a very low extent. This makes sense in that, if the manager is trying to use his/her network for sharing and/or borrowing resources, delaying payments to the same actors constituting the network may jeopardize the trust built up in the relations. Most of the businesses in this group are located in villages (with fewer than 25,000 inhabitants). The major part of the businesses are mature in terms of stage of development, are small businesses in the agricultural and manufacturing sector and have not showed any major growth during the last three years. The businesses do not have any major need for additional finance. The major part of the businesses in this group today have long-term finance from banks. Furthermore, the managers experience no great problems in obtaining additional finance from banks, if needed. This group is named relationship-oriented bootstrappers. Managers active in businesses in the third group (cluster 3) use subsidies from public organizations (factor 6) to a relatively large extent. This relatively high use of subsidy finance can be explained by a lack of other possibilities of meeting the need for resources, since these businesses report a low use of owner financing (factor 1) and joint utilization (factor 3). Most of the businesses are rather large (median, 16 employees) manufacturing businesses located in villages. The majority of the businesses are in the expansion stage, characterized by high growth in turnover during 1994 to 1996. In other words, this group comprises businesses with a potential for increased employment, im-

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plying that the businesses are interesting in the eyes of public organizations providing subsidies. However, as was elaborated upon above, the expansion, and the hereby generated need for finance, cannot be fully met by using internally generated funds, as the profit margin is low. The businesses are today indebted to the use of overdraft facilities and long-term loans at the bank. All the same, the managers perceive the chances of getting additional bank finance in the future as great. The businesses in this group are called the subsidy-oriented bootstrappers. Managers in businesses belonging to the fourth group (cluster 4) use methods to minimize accounts receivable (factor 2) to a large extent, and to some extent methods to minimize capital invested in stock (factor 5). Most businesses in this group are expanding or mature businesses active within trading or construction. Businesses in these sectors often have a large number of customers and a high frequency of transactions, which explains the high use of minimizing methods. The businesses are relatively large (median, 10 employees) with a relatively low growth and low profit margin. This group includes businesses located in villages as well as in larger cities. The relatively high use of cash management routines, focused on accounts receivable, seems to be the normal practice in this sector. The businesses in this group do not, according to the managers, need any additional finance. Most of the businesses already have an overdraft facility as well as long-term loans at the bank, and the managers in these businesses do not perceive any major problems in obtaining additional finance from the banks, if needed. This group is named minimizing bootstrappers. Furthermore, the fifth group (cluster 5) comprises business managers making very little or no use of bootstrapping methods, captured in the six groups of methods (factors). This can be explained by the fact that these managers are active in businesses which can be characterized as the “sole consultant,” being businesses without any major need for larger investments in equipment and/or stock. In this group, businesses just introduced to the market and mature businesses are equally represented, which implies that no pattern in terms of stage of development can be identified. Most of these businesses are located in smaller cities (with 25,000 to 75,000 inhabitants). The managers in these businesses report no need for additional finance, which can be explained by a large profit margin and a low growth in turnover between 1994 and 1996. Most of the businesses are small (median, 2 employees) and do not rely on external finance (for example no long-term bank finance). The managers argue that their businesses’ chances of achieving long-term finance from banks are moderate. A conclusion is that finance is far from the most important activity in these businesses. This group is labeled the non-bootstrappers. Finally, the businesses belonging to the sixth group (cluster 6) are young businesses in the introduction stage. These businesses are highly dependent upon resources provided by the (owner) manager and his/her relatives (factor 1). On the other hand, businesses in this group report a low use of subsidy finance (factor 6) as well as joint utilization (factor 3), implying that owner financing may be the only alternative. This group is dominated by small (median, 2 employees) fast growing businesses, located in larger cities. Different lines of business are equally represented in this group, implying that no pattern can be identified. The need for resources caused by market introduction, together with problems in generating internal funds (low profit margin) and the lack of long-term bank finance, explains the need for finance reported by these managers. According to the managers in these businesses, the chances of obtaining bank finance in the near future are very modest. To handle this situation the managers put great ef-


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forts into the financial matters of their businesses. This group is called the private ownerfinanced bootstrappers.

SUMMARY AND CONCLUSIONS In this study we have examined small business managers’ use of so-called financial bootstrapping methods, referring to methods used to meet the need for resources without relying on long-term external finance. In the analysis, different groups of financial bootstrappers are identified and named. The different groups of bootstrappers are presented in Table 4 in terms of underlying variables and use of bootstrapping methods. The groups of financial bootstrappers show differences in their orientation toward resource acquisition, representing different aspects of: (1) an internal mode of resource acquisition; (2) a social mode of resource acquisition; and (3) a quasi-market mode of resource acquisition. The bootstrappers focusing on an internally oriented resource acquisition use different bootstrapping methods that are found inside the business. In this study, the internally oriented mode of resource acquisition is represented by the delaying bootstrappers, the minimizing bootstrappers, and the private owner-financed bootstrappers. The socially oriented mode of resource acquisition is represented by the relationship-oriented bootstrappers. The socially oriented mode is characterized by the use of personal relations as the means of absorbing and borrowing resources at no financial cost. Finally, the quasi-market mode of resource acquisition is represented by the subsidy-oriented bootstrappers who use governmental (quasi-market) institutions for securing the need for resources. Starting with the different aspects of the internally oriented mode of resource acquisition, we can see from Table 4 that the delaying bootstrappers show a low profit margin, are active in the hotel/restaurant sector, and experience a need for additional finance. Taken together, the situation facing these businesses—high uncertainty perTABLE 4 Characteristics of Bootstrappers Cluster

Bootstrapping Used

Characteristics

Delaying bootstrapper

Delaying payments (factor 4) Minimizing stock (factor 5)

Private owner-financed bootstrapper

Owner financing (factor 1)

Minimizing bootstrapper

Minimizing accounts receivable (factor 2) Minimizing stock (factor 5)

Relationship-oriented bootstrapper

Joint utilization (factor 3)

Subsidy-oriented bootstrapper

Subsidy finance (factor 6)

Low profit margin Mature/immature businesses Need for additional finance No long-term bank finance Low profit margin Immature businesses Need for additional finance No long-term bank finance Low profit margin Expanding/mature businesses No need for additional finance Long-term bank finance High profit margin Mature businesses No need for additional finance Long-term bank finance Low profit margin Expanding businesses Need for additional finance Long-term bank finance

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ceived by external financiers and risk of opportunistic behavior due to financial stress in the business—implies that they may face problems in achieving market solutions to the need for resources (Williamson, 1981; Nooteboom, 1993). This assumption is confirmed by the fact that a majority of the businesses in this cluster do not have long-term bank finance, and most of these business managers foresee problems in achieving longterm bank finance in the future. The situation facing the delaying bootstrappers seems to direct them toward an internally oriented mode of resource acquisition; delaying payments to external actors is used as a way of handling an acute financial situation. The use of delaying methods further seems to imply that the external actors’ trust in the business manager may be jeopardized, which in turn prevents the managers from using socially oriented resource acquisition methods (Starr and MacMillan, 1990). On the other hand, the private owner-financed bootstrappers rely on resources provided directly as well as indirectly by the manager and by his/her relatives. This cluster includes newly established, fast growing businesses showing a relatively low profit margin and experiencing a great need for additional finance. The businesses seem to face an uncertain situation, indicating that market solutions to the need for resources may not be available due to high transaction costs (Williamson, 1981; Nooteboom, 1993). This is also true for most of the businesses in this cluster; they lack long-term finance from banks and experience great problems in achieving long-term finance for the future. This situation seems to force the managers in these businesses to use different internally oriented bootstrapping methods. The fact that most of these businesses are newly established can explain the relatively low use of socially oriented methods characterizing this group, as it takes a long time to build network relations characterized by trust (Powell, 1990). The minimizing bootstrappers use different methods for minimizing the amount of resources tied up in the business. This cluster comprises rather established and stable businesses, not experiencing any need for additional finance. The situation facing the minimizing bootstrappers seems to be relatively predictable, in turn implying that the transaction costs for market solutions are relatively low (Williamson, 1981). This is manifested by the fact that these businesses already today have long-term bank finance and face good prospects in achieving additional bank finance in the future, if needed. However, most of the businesses are active in trading or construction industries, with many customers and a high frequency of transactions, which may explain the high use of internally oriented minimizing methods (Williamson, 1981). For the minimizing bootstrapper the internal solutions to meeting the need for resources seem not to be driven by problems in achieving market solutions, but can rather be seen as complements to market solutions. As was indicated above, the socially oriented mode of resource acquisition is in this study represented by the relationship-oriented bootstrappers, for whom the network of personal relations is the means of securing the use of different resources needed. For example, resources are shared with, and borrowed from, other organizations and persons. Accordingly, the socially oriented bootstrapper is more externally oriented and more active in using and developing personal relations as a means of resource acquisition, in comparison with the internally oriented bootstrappers. This cluster of bootstrappers includes mature businesses showing high profit margins and not experiencing any need for additional finance. A majority of the relationship-oriented bootstrappers already have long-term bank finance and face no problems in getting more bank finance, if needed. The use of socially oriented solutions seems to be complementary to financial


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market solutions and can be seen as a natural way of running a small-scale business located in a rural area. These findings are fully in line with the reasoning by Powell (1990), implying that the use of network arrangements is relatively common in craftbased businesses sharing some kind of historical background (geographical, ideological, or the like). The socially oriented bootstrappers at the same time use different aspects of internal resource acquisition (i.e., delaying and minimizing methods) to a very low extent. This makes sense in that, if the manager is trying to use his/her network for sharing and/or borrowing resources, delaying payments to the actors constituting the network may jeopardize the trust which is the very basis for the relation (Jarillo, 1988; Starr and MacMillan, 1990). The behavior of the subsidy-oriented bootstrappers (cluster 3), using funds from governmental institutions on the market, may be seen as a quasi-market mode of resource acquisition, because price is not used as the control mechanism as in a traditional market exchange. In this cluster we find fast growing manufacturing businesses, operating with a rather low profit margin and experiencing a need for additional external finance. The businesses are active in a sector characterized by high levels of real assets that can be used as collaterals so that external financiers perceive somewhat less uncertainty in the situation (Binks, 1996). Many of these businesses already have long-term bank finance and perceive their chances of getting additional bank finance in the future as good. However, as for small businesses in general, the financial cost may be relatively high (McMahon et al., 1993; Storey, 1994). At the same time these businesses are probably attractive in the eyes of governmental institutions providing subsidies, due to their potential for increasing the number of employees in their businesses. By applying for governmental subsidies the financial cost can be reduced. It can also be noted that the businesses using quasi-market solutions are relatively large businesses, which may indicate that the use of bootstrapping methods in small businesses changes fundamentally over the business’ life cycle, and that different orientations toward resource acquisition are activated as the business develops.

IMPLICATIONS OF THE STUDY One implication of this study is that the phenomenon of financial bootstrapping deserves more attention in future research on small business finance. At the same time financial bootstrapping behavior is most probably a more general phenomenon, appearing in many different contexts and situations, for example R&D activities in larger businesses, financing start-ups, financing mature small businesses, etc. (Starr and MacMillan, 1990; Taylor and Gierschick, 1998). Future research should try to develop our knowledge about different groups of financial bootstrappers. One interesting group is the relationship-oriented bootstrapper, using a socially oriented mode of resource acquisition, for whom the geographical location seems to be of importance in the use of bootstrapping methods. Focusing on this specific group, different regional aspects of financial bootstrapping as well as the use of personal network as a means of securing access to resources needed become central. Unlike financial contracting, social contracting for handling the need for resources generates feelings of unspecified, diffuse future obligations, and as a result the conditions in social contracting are relatively flexible and postponable (Starr and MacMillan, 1990). The conceptual implication is that concepts such as social capital, social contracting and trust are important for understanding this mode of resource acquisition.

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Another interesting group of bootstrapper is private owner-financed bootstrappers, which are newly established businesses highly dependent upon resources provided directly as well as indirectly by the owner/manager and relatives (i.e., an internally oriented mode of resource acquisition). No doubt, the relationship with family will be of importance when examining this group of bootstrappers, which indicates that personal (social) relations are important for owner-financed bootstrappers as well. However, in comparison with the relationship-oriented bootstrapper these personal relations refer to a more narrow circle or network of relations. The findings of this study also indicate that the resource acquisition behavior changes as the business develops (see also Harrison and Mason, 1997), implying that some groups of financial bootstrapping methods are used more at the start up phase of a business whereas other methods are activated increasingly during the establishment phase. In future research, it would be interesting to bring a life cycle perspective to the use of financial bootstrapping. Finally, the study gives implications for small business managers and for consultants or educators working with small businesses. In the education on small business management and in the minds of small business managers, there is a strong focus on financial market solutions, and a great deal of attention is being paid in education and in counselling on how to approach institutional financiers such as banks and venture capitalists. This study shows, however, that this strong focus may be questionable. Besides market solutions, resources needed in small businesses can in many situations be secured using so-called financial bootstrapping methods, with reference to both internally and socially oriented resource acquisition strategies.

REFERENCES Bhide, A., 1992. Bootstrap finance: The art of start-ups. Harvard Business Review November/ December:109–117. Binks, M., 1996. The relationship between UK banks and their small business customers. In: Cressy, R., Gandemo, and B., Olofsson, C. (Eds.), Financing SMEs—A comparative perspective. NUTEK Fo¨retag, Stockholm. Bolton, J.E., 1971. Report of the committee of inquiry on small firms. Her Majesty’s Stationery Office, London. Cressy, R., Gandemo, B., and Olofsson, C., 1996. Financing SMEs—A comparative perspective. In: Cressy, R., Gandemo, B., and Olofsson, C., (Eds.), Financing SMEs—A comparative perspective. NUTEK Fo¨retag, Stockholm. Davidsson, P., Lindmark, L., and Olofsson, C., 1994. Dynamiken i svenskt na¨ringsliv. Studentlitteratur, Lund. Davidsson, P., Lindmark, L., and Olofsson, C., 1996. Na¨ringslivsdynamik under 90-talet. NUTEK, Stockholm. Freear, J., Sohl, J.E., and Wetzel, W.E., Jr., 1995. Who bankrolls software entrepreneurs? Paper at the Babson College Entrepreneurship Research Conference, April 9–13, 1995, London, UK. Gorsuch, R.L., 1983. Factor analysis (2nd ed.). Lawrence Erlbaum Associates Inc., New Jersey. Hair, J.F., Anderson, R.E., Tatham, R.L., and Black, W.C., 1995. Multivariate data analysis. Prentice-Hall Inc., New Jersey. Harrison, R.T., and Mason, C.M. 1997. Entrepreneurial growth strategies and venture performance in the software industry. Paper at the Babson College Entrepreneurship Research Conference, April 17–19, 1997, Wellesley, MA. Hughes, A., 1996. Finance for SMEs. What needs to change? In: Cressy, R., Gandemo, B., and


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Olofsson, C. (Eds.), Financing SMEs—A comparative perspective. NUTEK Fo¨retag, Stockholm. Jarillo, J.C. 1988. On strategic networks. Strategic Management Journal 9:31–41. Jensen, M.C., and Meckling, W.H., 1976. Theory of the firm: managerial behavior, agency costs and ownership structure. Journal Financial Economics 3(4):305–360. Larson, A., and Starr, J.A., 1993. A network model of organization formation. Entrepreneurship Theory & Practice 17(2):5–15. McMahon, R., Holmes, S., Hutchinson, P., and Forsaith, D., 1993. Small enterprise financial management—theory and practice. Harcourt Brace & Company, Orlando. Nooteboom, B., 1993. Firm size effects on transaction costs. Small Business Economics 5:283–295. Powell, W.W., 1990. Neither market nor hierarchy: network forms of organization. Research in Organizational Behavior 12:295–336. Starr, J.A., and MacMillan, I., 1990. Resource cooptation via social contracting: resource acquisition strategies for new ventures. Strategic Management Journal 11:79–92. Stanworth, M.J., and Gray, C., 1991. Bolton 20 years on—the small firm in the 1990s. Paul Chapman Publishing, London. Stiglitz, J.E., and Weiss, A., 1981. Credit rationing in markets with imperfect information. American Economic Review 73:393–409. Storey, D., 1994. Understanding the small business sector. Routledge, New York. Taylor, N., and Gierschick, R., 1998. Bootlegging resources and beyond: a study of informal venture activity in corporations. Paper at the Babson College Entrepreneurship Research Conference, May 20–24, 1998, Gent, Belgium. Williamson, O.E., 1981. The economics of organization: the transaction cost approach. American Journal of Sociology 87(3):548–577. Winborg, J., and Landstro¨m, H., 1997. Financial bootstrapping in small businesses—a resourcebased view on small business finance. In: Reynolds, P.D., Bygrave, W.D., Carter, N.M., Davidsson, P., Gartner, W.B., Mason, C.M., and McDougall, P.P. (Eds.), Frontiers of entrepreneurship research. Babson College, Center for Entrepreneurial Studies, pp. 471–485. Wellesley, MA.

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APPENDIX 1 Independent Variables Used in the Study Variables Size 1995 Stage of development Growth Line of business

Geographical location Profit margin Financial situation Long-term bank loans Chance of long-term bank finance

Operationalization Number of employees and turnover 1 ⫽ Introduction, 2 ⫽ Expansion, 3 ⫽ Mature and 4 ⫽ Decline Percentage change in turnover 1994–96 1 ⫽ Manufacturing, 2 ⫽ Building & Construction, 3 ⫽ Agriculture, 4 ⫽ Trade, 5 ⫽ Hotel/Restaurant, 6 ⫽ Consultancy and other services, 7 ⫽ Transport and 8 ⫽ Other 1 ⫽ ⬍25,000 inhabitants, 2 ⫽ 25,000–75,000 and 3 ⫽ ⬎75,000 inhabitants Profit 1995/Turnover 1995 (High ⫽ ⭓15% and Low ⫽ ⬍15%) Need for finance (1 ⫽ Yes and 2 ⫽ No) 1 ⫽ Yes and 2 ⫽ No Five-point scale (0 ⫽ Non-existent to 4 ⫽ Very great)


APPENDIX 2 Bootstrapping Methods Examined Methods Five-point scaled variables (0 ⫽ No use to 4 ⫽ Very great use) Buy used equipment instead of new Borrow equipment from other businesses for shorter periods Hire personnel for shorter periods instead of permanently employing personnel Co-ordinate purchases with other businesses Lease equipment instead of buying Practice barter instead of buying/selling goods Offer customers discounts if paying cash Buy on consignment from supplier/s Seek out best conditions possible with supplier/s Deliberately delay payment to supplier/s Withhold manager’s salary for some period Use manager’s private credit card for business expenses Obtain capital via manager’s assignments in other businesses Obtain payment in advance from customers Raise capital from a factoring company Obtain loan from relatives/friends Deliberately delay payment of value-added tax Obtain subsidy from County Administrative Board Obtain subsidy from County Labour Board Obtain subsidy from Swedish National Board for Industrial & Technical Development Obtain subsidy from the foundation Innovationscentrum Dichotomous variables (0 ⫽ No use and 1 ⫽ Use) Use routines in order to speed up invoicing Use interest on overdue payment from customers Cease business relations with customers frequently paying late Offer the same conditions to all customers Deliberately choose customers who pay quickly Use routines in order to minimize capital invested in stock Employ relatives and/or friends at non-market salary Run the business completely in the home Share premises with others Share employees with other businesses Share equipment with other businesses

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APPENDIX 3 Use of Bootstrapping Methods Methods Buy used equipment instead of new Seek out best conditions possible with supplier/s Withhold manager’s salary for shorter/longer periods Deliberately delay payment to supplier/s Use routines in order to speed up invoicing Borrow equipment from other businesses for shorter periods Use interest on overdue payment from customers Hire personnel instead of employing permanently Use routines in order to minimize capital invested in stock Co-ordinate purchases with other businesses Lease equipment instead of buying Obtain payment in advance from customers Cease business relations with customers frequently paying late Use of manager’s private credit card for business expenses Offer the same conditions to all customers Obtain capital via manager’s assignments in other businesses Obtain loan from relatives/friends Practice barter instead of buying/selling goods Offer customers discounts if paying cash Buy on consignment from supplier/s Deliberately choose customers who pay quickly Share premises with others Employ relatives and/or friends at non-market salary Deliberately delay payment of value-added tax Run the business completely in the home Obtain subsidy from County Administrative Board Share equipment with other businesses Share employees with other businesses Obtain subsidy from County Labour Board Obtain subsidy from Swedish National Board for Industrial & Technical Development Raise capital from a factoring company Obtain subsidy from the foundation Innovationscentrum

Number

%

205 193 118 115 115 110 107 105 101 95 87 86 84 78 78 73 64 54 43 39 37 37 37 36 30 24 22 21 20 16 9 0

78 74 45 44 44 42 41 40 39 36 33 33 32 30 30 28 24 21 16 15 14 14 14 14 11 9 8 8 8 6 3 0