Revenue-Based Funding by Corporations

There’s a difference between traditional venture capital and corporate venture capital.  While standard VCs are primarily concerned with financial goals (i.e. a high IRR%), corporate venture capital (CVC) groups such as Intel Capital, GE Capital, and the J&J Development Corp. have dual goals: financial and ‘strategic’ value.  CVC investments must somehow assist the core business of their parent companies in addition to creating financial returns.

Strategic Value Overrides Financial Returns

Dual emphasis on both strategic and financial objectives creates unique challenges for CVC practitioners.  For example, CVC investors often find themselves faced with highly strategic deals that have little financial attractiveness from an equity investment perspective.  In other words, due to their strategic missions, CVCs often invest in highly strategic businesses that no financially-focused VC would otherwise touch with a ten foot pole.  By one estimate, 65% of CVC investments were either for strategic value only, or with strategic value as the primary concern (vs. financial returns).

CVC slide 1[i]

CVCs Favor Mid-to-Later Stage Firms

CVCs contribute a critical piece to the venture investing pie.  In 2000, CVCs invested around 16% of all venture capital that year.[ii] Compared with traditional VCs, CVCs also tend to do fewer seed and early stage investments.  For example, a 2006 study indicated that the percentage of VC investments in seed and early stage firms (20%) was around one and a half times larger than that of CVCs (13%).  In both cases, seed and early stage investments were a relatively small proportion of overall deals.

[iii]

Revenue-Based Funding for Strategic Deals

With an emphasis on highly strategic (and not always financially attractive), mid-to-later stage deals, CVCs have increasingly discovered revenue-based investing as an alternative to traditional equity-based venture capital.

While not every deal lends itself to revenue-based funding (RBF), CVCs can employ RBF structures in the case of highly strategic investments where a target business has no likely exit (i.e. M&A or IPO).  For example, many highly strategic portfolio companies have strong revenue and respectable growth.  However they may not be likely to create the “blockbuster” growth, followed by a prompt exit, that is required for sound equity-based returns.

In such cases, RBF allows the CVC to assist a strategic firm (with an RBF cash infusion) and to then enjoy financial returns based on a percentage of the target’s revenue.  Compared with the 15% of CVC deals that have no financial merit, or even the 65% where strategic value trumps financial prudence, RBF can lower the risk of pursuing strategic value.  RBF allows CVC to finally enjoy strategic and financial returns in deals without exits.

As RBF is best suited for investments in businesses with established revenue (since repayment is based on revenue), RBF also complements CVCs’ general preference for mid-to-later stage deals.  After all, mid-to-later stage businesses are more likely to have revenue than seed and early stage startups.

Better in Both Worlds

Historically, CVCs have faced daunting tradeoffs between strategic value and financial returns.  By favoring strategic value, lower financial returns have often hampered corporate enthusiasm for CVC in general – making fewer resources available for CVCs and the businesses that depend on them for capital.

This is the promise of corporate RBF.  By allowing CVCs to better enjoy both strategic and financial returns, a positive net impact is created for corporate investors and entrepreneurs alike.

This article can also be found at RBF Central


[i] MacMillan & Roberts, et al, Corporate Venture Capital (CVC); Seeking Innovation and Strategic Growth, National Institute of Standards and Technology, U.S. Department of Commerce (2008).

[ii] MacMillan & Roberts, note supra.

[iii] MacMillan & Roberts, note supra.

This Post Has 11 Comments

  1. Jessica

    The company I used to work for is thinking about doing an investment like this. I wonder how much it has caught on? Could be interesting…

  2. Steven W.

    Strategic investors can be good for startups in other ways like broader industry connections, co-marketing and IP assistance. It can also be good if the strategic investor is the ideal acquisition partner later on – helps build the relationship early. Doing this with revenue accomplishes the same goals but may give the startups more independence which is good for the startups but not always good for the strategic investor if they want more control.

  3. David Roth

    My experience in launching and incrementally supporting new ventures with non-dilutive strategic corporate funding has been very positive, especially with my last venture, the restaurant chain, Cereality Cereal Bar & Cafe. As I discovered, there are many different reasons—beyond equity or revenues—that these organizations may be compelled to support such ventures. My particular case with Cereality is detailed in a brief slideshow at http://www.getstirredup.com/lesson and also discussed on the video on my homepage.

  4. Kingsley

    I can see using this.

  5. Intel Capital is experimenting with Revenue Based Financing. We often was to sponsor / support companies which can make an impact to our businesses. However, sometimes these companies are not ideally suited for venture / equity invesment. Rev Based Financing gives us an investment vehicle to proceed. We get a handsome financial return but more importantly, we are incented to make the portfolio company successful. The faster we help them grow, the more successful we are as well. This type of win-win alignment is not found by most debt providers – they are almost entirely focused on collateral.

  6. CT

    are you still focused on RBF options these days?

  7. Thomas

    I still pay attention to the space and care about how it’s developing, but my current fund doesn’t do RBF so my involvement isn’t as 1st hand anymore.

    1. CT

      you mentioned there are 20 some funds doing this type of lending. can you point me to a list? folks like cypress, arctaris, next step, et al. thx

    1. CT

      thanks. is Union Bay doing revenue-sweep lending?

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