Alternative Exits are various forms of financial arrangements that allow investors to realize a return on their investments through means other than the conventional use of debt and equity assets.
An “exit” strategy for startups refers to how an investor can retrieve their return on investment, which considers both their initial investment and any profits they have made. An exit strategy startup may consist of something as straightforward as selling to another investor if it has a standard stock listed on an exchange.
Early-stage equity-like transactions can be sold to a new investor or a new company.
Table of Contents
Motives Behind the Existence of Alternative Exits
Alternative exits are often characterized by their method or structure. These investments are self-liquidating, although debt and other classic investments are also self-liquidating.
The rise of social enterprise and impact investing has brought alternate exits to the forefront due to many impact investing traits.
Impact investors increasingly want to fund investors.
Appropriate finance meets investors’ needs and the entrepreneur’s particular company strategy. This aligns capital structure with firm success.
Conventional finance methods are not Appropriate Capital.
Debt requires a corporation to make payments on a predetermined schedule, which is problematic for a company that cannot predict its commercial performance.
Many equity arrangements aren’t ideal for enterprises that don’t expect or seek a conventional exit.
Certain jurisdictions allow royalty funding for alternative exits. Royalties can only be utilized for investor returns if used to pay for intellectual property.
Perspective of Investors
Investors usually seek alternate exits because they don’t think typical structures will return their cash within the timeframe specified for the investment.
The Perspective of the Entrepreneur
Entrepreneurs generally investigate alternative investors for one of two reasons: 1) to align their business’s performance with their investors’ return criteria, or 2) to keep their company’s purpose or control.
Factors That Can Have an Effect
Exit strategies are necessary for several reasons, including the following:
It’s Possible That Social Entrepreneurs Won’t Want to Quit
Social entrepreneurs often consider their organization’s aims and their role.
They feel that standard methods of exiting stock structures will make it more challenging for them to oversee the company’s goal or maintain their role.
Thus, they may prefer investment arrangements that protect their long-term equity ownership and corporate voting control.
There is a possibility that Impact Capital is less interested in rewarding previous investors.
Impact investors seek financial and social returns, unlike traditional financiers. If one investor pays out another, the first investor may not consider their capital to have created any other societal gains.
Thus, following rounds that pay out early investors take more work to fund. Therefore, early investors can choose risk-reducing frameworks.
Initial Entities and Visibility in the Stage
Impact investment alternate exits focus on early-stage firms. Early companies are harder to anticipate.
Investors and business owners often need help agreeing on company valuations and estimates.
Structures Used Frequently as an Alternative Exit
The following are some potential exit strategies that might be utilized:
Exits Determined Based on Revenue
“Revenue Based Exits” are payment instruments that use a percentage of revenues to compensate investors.
Once investors attain the stipulated return, the structures stop paying them. Most negotiated returns are multiples of the initial investment.
Revenue-based exits might be debt or equity, depending on the country. Redemption-based equity exits require the issuer to buy back the shares at a specific price.
Demand Dividends
Demand dividends provide investors with a portion of free cash flow. Demand dividends must meet specific criteria.
Like Revenue-Based Exits, they stop paying investors when they reach the goal return.
Exits Determined by Redemption
Redemption-Based Exists are mostly equity structures that compel the corporation to purchase back equity shares from investors. Repurchase-based exists are redemption-based.
Repurchase agreements can vary. Investors can still earn a set multiple of their initial investment called the redemption premium. The structure determines this security’s lifelong multiple.
What is Acqui-hiring?
One corporation acquires another to hire its staff. Startups use it. A competent acqui-hire can recruit several new employees at once. Employees also have teamwork experience.
Most acqui-hires involve interviewing the acquired company’s employees. It’s like any other hiring. Management treats applicants like typical candidates.
Founders must interview for product manager positions. Some may need help with employment interviews. The company won’t hire job interview failures. Acqui-hires don’t guarantee jobs.
Traditional acquisitions include a company buying a consumer base or product. The acquired firm’s leadership value its assets. Acquiring those assets strengthens the purchasing company.
Acqui-hires simplify goals. Buying the company is worth it to get the workers’ services.
Partnerships for startup market development
Startups develop markets through partnerships. The relationship ensures that your target market likes your product. It lets you integrate your value chain for a complete product solution.
In startups, client success comes first. This means letting customers customize your goods.
Have partners who can add value to the product to make it relevant for a particular use. Systems integrators, who can adapt to new technologies, are typical partners. New product value chains will result.
Validation comes second. Startups need credibility and brand recognition.
Bring in well-known partners to gain client trust. An advisory group of professionals and others will lend legitimacy and strategic decision-making.
Startup Licensing
A license agreement is a contract between a patent, brand, or trademark owner and a user.
The licensor (creator) produces IP by developing innovation and protecting it with a patent, copyright, trademark, or trade secret. The inventor licenses the invention to a licensee to commercialize it. Licensors receive royalties for letting others use their IP.
Trademark, copyright, patent, software, and merchandise licenses exist. IP licensors use exclusive, non-exclusive, and sole rights.
Businesses and innovators prefer licensing agreements due to globalization. Licensing is an intelligent strategy to reach foreign markets. A foreign firm will produce and sell another company’s product in its native nation.
Final Thoughts
Alternative exits are often contingent payment structures because the issuer’s corporate characteristics determine when investors are paid. Alternative exits are organized, so investor costs depend on them.
Income-based financing models pay monthly investor returns based on period revenues.
Although “royalty,” “revenue share,” and “contingent payment” are sometimes used interchangeably, they may have very different tax implications. Thus, they are linked but distinct concepts.
