Riding donkeys, not unicorns
Dec 19, 2015
A new form of venture capital finance ignores potential stars and concentrates instead on solid, reliable sales.
For an industry obsessed with innovation, venture capital has done surprisingly little to revolutionize its own business model. Funds are raised, equity stakes taken and exits sought in roughly the same manner and timeframes as 20 years ago.
New firm Draper Oakwood hopes to shake things up with a financing method that sits between equity and debt, and does away with the need for exits or, indeed, a fund.
Draper’s royalty-based model – where it invests in return for a share of future revenues – has been used in mining and healthcare, but the London-based firm wants to apply it to a broader range of businesses and entrepreneurs.
Investing from $5 million to $20 million, initially in Western Europe, Draper seeks companies with solid revenues, good margins, and assets in intellectual property, people or services rather than property or equipment.
“The VC industry in the U.S. and Europe is all about trying to invest in unicorns. We prefer donkeys – companies that are reliable, stable and can carry heavy loads on their backs,” says Aamer Sarfraz, Draper Oakwood’s founder.
While Draper’s model is niche, business founders who don’t want the dilution of equity stakes, those unwilling to enter valuation discussions or those with little collateral should consider it. The firm’s investments also come with none of covenants of bank loans, nor do they appear on the books as debt.
In a typical deal Draper would take about five per cent of a company’s revenue until an agreed ceiling had been reached, although the full balance, subject to conditions, could be repaid at any time.
Exact terms will be flexible, with each deal customised to the investee, but one consistent factor will be Draper’s hands-off approach, which brooks zero interference with the management of its portfolio companies.
The firm terms its investments ‘R rounds’, and they usually occur when a company is ready for growth equity funding. Unlike venture debt, however, Draper’s money doesn’t hang on whether a business has already raised a Series A round.
That said, Sarfraz is happy to invest after or alongside traditional equity backers, and says that much of the firm’s “heavy pipeline” of early dealflow has come from investors caught between VC rounds.
“They want their companies to grow before doing another round at a higher valuation,” he says.
When Draper does invest, it will through a handful of institutional backers – as yet unnamed but including a “traditional European family office” and a multi-family office – rather than a fund.
“Funds suck. It takes forever to raise them and we prefer to work with larger investors who are keen to get an income stream from businesses rather than wait for an exit that might never happen,” comments Sarfraz.
Providing it receives approval from British financial regulator the FCA, Draper Oakwood plans four deals in 2016, and up to nine every year thereafter, investing around $100 million annually.
Although its name is a tribute to Tim Draper and Sarfraz hopes eventually to become part of the Draper Venture Network, Draper Oakwood is independent of both Menlo Park-based Draper Fisher Jurvetson and London firm DFJ Esprit.