

Ask HN: Could convertible royalties be an alternative to the VC model? - torrenegra

My wife and I co-founded the Voice123 brand ten years ago. Today, it’s a successful business with 30 employees. Its success didn’t depend on angels, accelerators, or venture capitalists (VCs). In fact, had we listened to any of them, Voice123 would not exist today. There are thousands, maybe millions, of entrepreneurs like us out there. The current model made popular by Silicon Valley is suffocating many of them and killing startups that could also become successful. I wrote an article that explains how and offers an alternative: http:&#x2F;&#x2F;torrenegra.com&#x2F;post&#x2F;61674830952&#x2F;convertible-royalties-an-alternative-to-the-vc-model - Do you think that convertible royalties could be an alternative to the VC model?
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argonaut
> many angels won’t invest in startups that aren’t likely to scale to the $50
> million valuation level because they’re afraid VCs won’t invest.

Firstly, I don't think this is true. Angels won't invest because their
business model is the same as the VC's model.

I'll be blunt and say that I think this is a pretty bad idea for both sides of
the table: founders and angels/investors. In fact, this would be an even worse
deal for bootstrapped companies than it would be for non-bootstrapped
companies. This is bad for founders because it impacts revenue. A normal SV
startup has no revenue, so it's not too impactful there, but for a
bootstrapped company, having to give 0.X% revenue can be really hurtful. Less
revenue = less growth and more likely to run out of cash. The vast majority of
founders would probably _prefer_ giving equity than doing a rev. share.

Secondly, this idea depends on the assumption that bootstrapped companies are
inherently much, much less risky than typical go-big startups, which is the
only way in which I can see the risk ratio justifying the much smaller
potential returns of having a rev share of a slow-growth company. I do not
think this is the case.The whole reason for the go-big VC ecosystem is because
startups - _any_ startups - are extremely risky, and you therefore need an
extremely high potential reward (i.e 50-200x return) to justify investing in
them. Bootstrapped companies are not sufficiently less risky (in fact, I would
argue they are _more_ risky than VC backed companies).

Another problem: would you cap the rev payout or would the payout continue in
perpetuity? Investors wouldn't like the former because it caps their reward,
founder wouldn't like the latter because it's an obligation that lasts for a
very long time.

Finally, given that most startups exit as acquisitions, what then? Again, an
entire avenue for rewarding investors is cut off.

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ig1
It's about trading off reward and risk. Imagine two otherwise identical pre-
revenue businesses, one aiming to become a $10m business and the other a $100m
business.

What's the difference in risk between the two ? - by and large risk is about
product-market fit, execution, hiring, etc. i.e. both companies will face
similar risks. The smaller market might be less competitive but rarely is that
deciding factor in success. So the risk difference isn't actually that much.

For someone to invest in the $10m startup it would have to be 10x less risky
for it to make economic sense. And all the evidence is against that being
true.

Certainly you can build a business without venture funding, through
bootstrapping and loans, but you can't expect someone to rationally invest in
a high-risk investment without having high returns.

