Who are the New Alternative VCs?

The tides are turning. That is, to waves of non-dilution. No longer are startup founders limited to traditional venture capital that only allows a mere one percent chance of “success.” The other 99 percent of entrepreneurs are in revolt and paying attention to new models of financing that give them refreshed optionality when looking to fund their growth.

In a recent New York Times article titled More Start-Ups Have an Unfamiliar Message for Venture Capitalists: Get Lost, Josh Kopelman, founder and managing partner at First Round Capital and an early backer of Uber and Warby Parker, explained he was happy that companies were embracing alternatives to venture capital. “I sell jet fuel,” he said, “and some people don’t want to build a jet.”

If you were raising a seed round to build a jet-like product in the past decade you’d probably be looking at raising funds from either angel investors or seed-stage venture capitalists (VCs). If you didn’t go the traditional route of VC you might have tried to bootstrapped your company to profitability or taken money from family and friends. In the last few years, you also might have even looked at raising via an equity crowdfunding campaign or, dare I say it, an ICO or initial coin offering.

Now, if you are building a startup that’s making money, there’s a new normal. Revenue-Based Financing (RBF) and Shared Earnings Agreements (known as SEA, or SEAL, because seals are cute) have become more popular and allow for a larger variety of outcomes for a founding team. No longer do you solely need to reach a 100X growth multiple over 5-7 years and IPO or sell for over $1 billion after a ruthless run of rocketship hypergrowth. Without a traditional VC, a founder could sell for (only) $50-$100 million and, imagine this, still own most of the equity.

These new funding options favor smart, bootstrapped companies and equity-conscience entrepreneurs. Entrepreneurs today have seen how traditional venture capital can often speedily kill businesses by forcing them to scale too quickly. These founders want to better manage their natural growth and optimize their dilution as well as when and how they want to sell in the future (if ever). Companies like Tuft and Needle, Buffer, Basecamp, MVMT, and Wildbit have all skipped endless rounds of traditional venture capital and come out on top with big exits or revenues.

So what does this new horizon look like? Tyler Tringas of Earnest Capital broke down the difference between Revenue-Based Investing and Shared Earnings, the two most recognized alternative VC types on Twitter. “Revenue-based investing is debt-like, repayment comes out of revenues at the top of the business is paid before anything else,” he explained. “Shared Earnings is equity-like and only a % of “profits” (technically “Founder Earnings”) after everybody, including the founders, are paid.”

To give more context, revenue-based financing has been around decades longer. You might see these sorts of deals popularized on Shark Tank where the sharks will invest, but take X% of revenue for X years. Newer firms that do this are Alternative Capital, Corl, Novel Growth Partners, and Lighter Capital. Today, many revenue-based financing firms are modifying the traditional model to start focusing more on startups who don’t fit the traditional venture capital model of being a $1B unicorn with a rocketship growth in 5–7 years. This is starting to include a transition to revenue-based investing where equity may also be taken in addition to a percentage of top-line revenue. Indie.vc is one example of a firm that has tested something in this realm.

Now, on the Shared Earnings agreements side, these models may have been inspired by revenue-based investing, but they start to look a lot different. They focus more on earlier stage startups that were most likely bootstrapped to steady revenue growth or profitability but not enough revenue to offer a firm a multiple of it (or a desire to).

Shared Earnings eligible startups also may have large-scale potential but growing at a slower rate than traditional VC firms like. That’s why Shared Earnings firms — mainly Earnest who designed the term sheet, but also similar-looking firms like TinySeed — take a percentage of equity. They see the long term partnership as valuable. This factor fits these firms nicely in between traditional venture capital that takes a sole equity stake and traditional revenue-based financing that only takes a percentage of revenue.

As an entrepreneur, it’s important to have optionality when looking for new capital to grow your business. You want a fair and supportive partnership with your firm, bank, or VC. That’s why it’s exciting to see more alternative funding options available for founders and startups than ever before. There are now myriad ways to fund your startup today thanks to innovation on the venture capital model made by these new alternative types of firms.

In short, it’s never been a better time to be a startup looking for funding now that the VC world has innovated like the startups they invest in.