No. 5: The case for Clearbanc's alternative funding model
Weekly news, insights and stories about bootstrapped entrepreneurs.
Good morning people,
When I started writing about alternative venture funding for startups, my main focus was self-funding (a.k.a. bootstrapping) because of the large number of great companies that bootstrapped their way to success (e.g. Basecamp, Notion, Freeletics, Mailchimp, GitHub, CB Insights, etc…). But a couple of weeks ago, I came across a new financial service firm (I guess?) called Clearbanc. The company offers web-enabled businesses capital to fund their online marketing campaigns in exchange for a fixed percentage of their revenue up to 106% of the initial amount and the process works via an automated system. While at first it only seems kind of interesting, here is why such type of services deserve a bit more attention than they currently get: the cost of capital.
Cost of capital 101
Businesses are financed with either equity, debt or a mix of both. For startups, debt is usually not an option because they have no assets to bring as collateral (more on the history of finance in another post). Therefore startups are almost exclusively financed with equity, with VCs being the main source of capital for startups. I am not going to pop out my corporate finance classes here, but all you need to know is that, all other things being equal, equity is more expensive than debt and that is why well managed companies always find the right balanced between equity and debt financing. Since this is not an option for early-stage companies, the only choice left is to pay the (high) price of equity financing by selling a part of their business early on.
Why it makes sense now
Most e-commerce, D2C, B2C SaaS or marketplace businesses will raise capital to spend it on paid marketing with Facebook, Instagram, Pinterest, Google Ads and perhaps soon Amazon. I am assuming that these companies have find their product-market fit and have identified channels which can help them scale very fast while making economical sense, i.e. each €1 spent on marketing brings in more than €1 in revenue. So now, why would you sell a portion of your business today just to finance paid advertising that you know will pay off (i.e. with no/little risk)? This is where alternative financing methods - like Clearbanc - can make a lot of sense. Venture capital is a great tool to finance technical and execution risks, less so advertising. In addition, not only is Clearbanc non-dilutive, but entrepreneurs can avoid the loss of business focus usually associated with the fundraising process.
Finally
Ultimately, Clearbanc-like solutions are good complement to other investors: it means less dilution as well as more and cheaper capital to grow. Going forward, I will try to cover more alternative financing models to VC that entrepreneurs can leverage. As I already said before, not everyone fits the VC model and now is a great time to explore alternative funding mechanisms.
PS: this is not an investment advice and I am not affiliated to or paid by Clearbanc. Before investing or partnering up, make your own research.
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