Alternatives to traditional VC: redeemable equity

Traditional venture capital investors look for an exit with a target multiple on a specific timeline. While that model may work for some, others may be hesitant to give away ownership and decision-making power in perpetuity, and their business may not be geared towards an exit on a timeline that makes sense for VCs. In such cases, nontraditional equity structures like redeemable equity can provide a viable solution for all sides.

We sat down with Can Atacik, founder of Alethina Impact Investments and Advisory, founding partner of ImpACTNOW Capital, and a venture partner of Venture Science to explore how climate entrepreneurs can leverage redeemable equity to raise capital on alternative terms.

What are the benefits of redeemable equity for investors and entrepreneurs?

Some climate founders may have a venture that doesn’t have a likely exit on a 10-15 year horizon (or exiting may not even be the right outcome). Keeping the business private long-term may lead to better business outcomes and climate impact, and founders may want to have the right to regain ownership over time.

In such cases, non-standard terms can offer solutions for both sides. Redeemable equity, which allows for founders to buy back ownership from VCs at pre-defined terms, allows investors to still have a compelling exit without forcing an IPO or acquisition. Although the upside may be lower, this structure also results in greater downside protection than traditional venture.

In addition to financial returns, some impact investors put a value on the wealth they create in marginalized communities. With nontraditional structures like redeemable equity, investors can encourage greater wealth creation across their portfolio while still meeting return requirements for their LPs, etc. This wealth can accrue to the communities that companies might serve (through a community ownership model) or to employees, where staff can redeem shares through an escrow account funded by the company’s operations.

What do redeemable equity structures look like?

This structure can create positive outcomes for both the entrepreneur and the investor. The deal could be structured in different ways, with four key aspects:

1. A put/call structure determines whether the company or the investor gets to initiate the sale of shares. It can be structured in either a:

• Call option: The business, employees, or other stakeholders who have fulfilled certain conditions, have the right to force the investor to sell the shares back to them. In this case, the company or the sellers initiate the sale. At any time after the company has reached a certain amount of revenue, the seller or employees can start to buy back the investor’s shares.
• Put Option: The investor, or other party who owns shares, has a right to force the company to buy back their shares.

2. In either case, this trigger of the redemption event is based on an explicit timeline, money multiple, and/or target valuation.

3. When the pre-defined milestones are met, and either party exercises their call/put option, the company either (a) begins to pay into an escrow account to meet redemption requirements with investors, without adversely impacting operational performance, or (b) has sufficient balance sheet capital to redeem all at once. Sometimes, to prepare for (b), a requirement may be put on the company to start funding an escrow account when certain earlier milestones are met (such as a revenue or free cash flow threshold), to accumulate sufficient funds in advance.

4. Liquidation events can also get built into the structure. If a liquidation happens, the investor typically gets whichever is highest, the redemption price or the amount owed due to a liquidation of their shares at the sale price of the company. This can be risky for the entrepreneur, so make sure you clearly negotiate all outcomes given possible scenarios.

How to find non-traditional equity:

This structure is less likely to work for a standard VC, so redeemable equity can be a challenge to find. Talk to folks who have more flexibility, such as individual angel investors, family offices, boutique impact investors, private foundations, or specific impact VCs who may already be familiar with these terms. Initiate this discussion about raising capital for your initiative, and tell them you want to leverage this structure. Present the benefits, find out if this is something they might be comfortable with, and encourage them to consider these nonstandard terms. Explain the derisking component for them and the additional impact they would create by generating wealth in marginalized founders, if that is the case.

Can has over 20 years of combined experience in international development, finance and corporate management. He started his career at the World Bank in Washington DC, then switched to the private sector and was an investment banker focusing on M&A and project finance for renewable energy assets in Turkey. In 2020, Can founded Alethina Impact Investments and Advisory, through which he has brought together his international development, investment banking, and management experience in alignment with his personal values to invest in and support purpose driven, innovative impact companies that are tackling real life problems. In addition to managing Alethina, Can is a founding partner of ImpACTNOW Capital, an impact VC firm based in Lisbon and a venture partner of Venture Science, a late stage VC firm based in San Francisco. Can serves as an executive board member of Etkiyap, Turkey's leading impact investment association.