Investors discuss alt-financing and the role of venture capital

There are so many ways to secure capital for your startup beyond traditional venture capital, from crowdfunding to debt financings to revenue-share agreements. But is all money created equal if you are on route to becoming a billion-dollar business? Dr. Astrid Scholz, the co-founder of Zebras Unite, Sydney Thomas, a principal at Precursor Ventures, and Brian Brackeen, the founding partner of Lightship Capital, joined us as TC Sessions: Justice to discuss alternative pathways to funding, and if the democratization of capital is a facade.

On the choice to stay away from traditional venture capital

Scholz is currently building out Zebras Unite, a founder-led cooperative that is focused on making startups more sustainable, ethical and inclusive. During the panel, she mentioned that the capital arm of Zebras Unite could have been a traditional fund, but the organization ultimately decided to pursue more creative alternatives, such as the Future Economy Lab. This lab, which focuses on helping founders find financing instruments that fit their sectors, took place in Montreal with a focus on climate tech.

Scholz shared why she went for this route, versus a traditional fund:

In the big scheme of things, [VC] really is just a tiny drop in the large capital pool of capital that's out there. And then on the other extreme, you have bank loans. That may or may not be accessible to startup founders, especially if they're from certain demographics in this country. Of course we have a massive racial wealth gap and access to capital.

To me, that sounds just like two flavors of capital: vanilla and chocolate. It's not interesting, if that was an ice cream store, it was not interesting. At Zebras Unite, we're looking to increase the diversity of capital, as well as the diversity of managers of capital. So we're very interested in revenue based financing mechanisms. We're very interested in non-dilutive early stage forms of support to entrepreneurs who don't have friends and family wealth. We were looking at new sort of character-based lending instruments and a bunch of blended approaches, so there's more room on the capital spectrum to color in, beyond the two ends of the spectrum. (Timestamp: 3:52)

• SEC loosens crowdfunding regs so small businesses can raise alternative financing in pandemic
• AngelList pioneers rolling VC funds in pivot to SaaS
• Who are the major revenue-based investing VCs?
• How to approach (and work with) the 3 types of corporate VCs

On why venture capital paths can be formed around a more inclusive strategy

Now, venture capital isn't the devil, and in a market as hot as right now it's clear that there is a huge demand to back great ideas. The problem starts when you look at which ideas get backed versus which don't, and underrepresented founders lose out at a disproportionately higher rate than white founders.

Standards help everyone get on the same page, and in venture, any clarity around how one investor cuts checks versus another can help curb signaling risk and help set expectations on early-stage founders. Lightship Capital uses traditional venture capital but applies it in a way Brackeen thinks is more inclusive to founders.

Oftentimes, VCs talk about designing your product for your customer, but then they don't design themselves around the customer. They completely ignore what they tell people to do. And so we're designed for the underrepresented founders. And for us, that's women, minorities, lgbtq, plus disabled. And so the capital path for that founder is different from the white male Zuckerberg founder. Oftentimes, a Series A is very, very difficult, so we bridge that. We'll write a smaller check - half a million dollars first - and then we'll reserve $1.5 million so they can go out and get a Series A done. And so to do that, we don't require board seats and things of that nature, we do require strong collaboration. (Timestamp: 7:03)

• Flexible VC: A new model for startups targeting profitability
• Venture capital gets less diverse in 2020
• If you're not investing in diverse founders, you're a bad investor

On how your first check could impact your next check

Thomas noted that Indie.VC, an alternative financing program that was aimed at slow-growth, bootstrapped founders, shutting down this past week could be a lesson for founders who look to finance their companies from the plethora of programs out there.

They were at the frontiers of building access to new capital. I think one of the things that we saw when we would talk to founders who were considering Indie.vc capital versus our capital was, does the investor that you would like after you get that Indie.vc funding, if you decide to go to a more traditional VC firm? Can they actually even do revenue based financing investments, some people actually legitimately can't because of the regulatory limits of their fund.(Timestamp: 16:28)

She went on to explain how this isn't simply a one-off problem that could happen with. Precursor founding partner Charles Hudson penned a post, months ago, about the messiness in early-stage cap tables.

I don't want to say it's unfair, but you have to make a pretty final decision, pretty early on in what type of company you want to build. And I don't think that allows for a lot of the flexibility that is the reality of building a startup. When you pivot like five to 10 to 20 to 30 times before you finally get to something that, you know, matters. And so how do we also allow for more flexibility between multiple different types of revenue structures? I just don't think that exists right now. (Timestamp: 17:12)

• A recapitalization reckoning
• Founders seeking their first check need a fundraising sales funnel

Brackeen added that his form loves non-dilutive financing before, and after, they are nicest. Pitch competitions might help a startup launch, but it won't help founders get from stage to stage. This banter basically answers the question that I set early on: is all capital created equal in the eyes of investors? A cap table filled with different types of financing structures and notes, as Thomas mentions, could lead to your next check investor declining to invest based on a semantic versus a lack of believing in your vision. One side effect we see here is recapitalizations, an event where startups restructure their entire cap table to squeeze out old investors, bring on new ones and shift the way equity and debt is managed.

Scholz chimed in about how startups should think about capital limitations, but also other corporate structures that could shape the trajectory of a startup.

I think that point about founders basically getting locked into a corporate structure and an investment strategy before they even really know what they're building or how it's selling is just so important. I always joke, you know, like 99 out of 100, corporate lawyers will tell you to incorporate as a Delaware C. [But] that may or may not be the right answer. There may be a good reason to become a cooperative, and incorporating as a Delaware C will make your life very difficult. (Timestamp: 17:46)

• Should your startup take the public benefit or B corp route?
• Which types of startups are most often profitable?

On if VC will be even more relevant five years from now

The conversation turned into a broader discussion on if venture capital will be as relevant as it is today, five years from now. While Scholz said that she doesn't even think venture is that important today, the two venture capitalists on the panel - Brackeen and Thomas - were good sports about the future of the asset class they have bet their careers on.

Thomas: The IPOs just keep on coming, and they keep getting bigger. It's crazy. I think that there is recreating an immense amount of wealth, and that we need to be thoughtful, we need to be careful. And we need to be just considerate of that fact. And so I plan to be in venture for the next ten years. But I Ithink, to Astrid's point, we are not the only ones on the island. We are connected to all of these other different capital structures, and different communities. But my bet is still here. (Timestamp 25:14)

Brackeen: Capital will continue to play a large role in capitalism, because the two are hand in hand. And venture capital is a version of that. Watch what we do. To see billions of dollars go into these geographies, these communities, these groups, the value creation is outrageous. Morgan Stanley, and others say that racism and sexism cost this country somewhere between $4 trillion and $16 trillion in kind of untapped value. So venture capital can be a key lever in opening that faucet. (Timestamp: 25:52)

• Venture capital is going to get even bigger, faster and more expensive this year
• Lame LPs, founder referenceability and the future of VC signaling

You can read the entire transcript here.

Early Stage is the premier how-to' event for startup entrepreneurs and investors. You'll hear first-hand how some of the most successful founders and VCs build their businesses, raise money and manage their portfolios. We'll cover every aspect of company-building: Fundraising, recruiting, sales, product market fit, PR, marketing and brand building. Each session also has audience participation built-in - there's ample time included for audience questions and discussion.