Decomposing Venture: VC Substitutes
Investor Liaison Hannah Savage explores the threat of "VC Substitutes" and why founders aren’t bowing to VC's anymore
Force Four
So far in this series, we’ve unpacked the Force One: Threat of New Entrants, the Force Two: Bargaining Power of LPs and the Force Three: Influence of Founders as Buyers. Each of Porter's 5 Forces reveals something important about how venture capital works — and why it’s under pressure.
Today, we turn to a different kind of challenge, Force Four: Threat of Substitutes.
Substitute vs. Competitor
In Porter’s framework, a substitute isn’t a direct competitor — it’s an alternative solution to the same problem. For startups, that means any source of capital or support that helps them grow without involving traditional venture capital. From angel syndicates and crowdfunding to revenue-based financing and grants, these alternatives are gaining traction and offering founders additional ways to secure capital.
This post explores what makes substitutes appealing, why they’re on the rise and how VC firms are responding.
To VC, or Not to VC
Venture capital may bring a lot to the table for founders looking to innovate, such as:
Equity funding for high-growth businesses
Strategic support and network access
Risk tolerance and long time horizons
Credibility that can unlock follow-on capital
Yet, there are some trade-offs to VC, such as:
Dilution of ownership
Governance pressures, potentially impacting autonomy
High expectations for rapid growth and significant market share
Potential for misaligned incentives regarding exit timelines and strategies
VC Substitutes
Here are some key substitutes to VC:
Angel Investors and Syndicates: Faster decisions, friendlier terms and growing platforms like AngelList make angels a popular funding option.
Crowdfunding Platforms: Crowdfunding Platforms: Equity crowdfunding (e.g., Republic; Wefunder) and revenue-based models (e.g., Pipe; Clearco) offer capital with community and take away the pressure of VC requirements.
Bootstrapping: Capital provided by the founding team and living off of revenue generated. In many parts of the world this is a requirement before VCs will even consider investing in your company as other early-stage capital is nonexistent.
Venture Debt: Non-dilutive loans tailored to venture-backed startups, often used to extend runway without giving up more equity. This differs from traditional bank loans in that the traditional model often required consistent operating cash flows and assets that can be used as collateral.
Annual Recurring Revenue Lending: May suit startups with subscription-based payment models. A business development company (BDC), private equity firm and even some banks provide this type of financing. They use different metrics than traditional banks such as customer renewal rates and annual or monthly recurring revenue over a period of time. This type of lending often comes as a line of credit which can secure a startup more capital than with a bank loan.
SBA Loans: Sponsored by the U.S. Small Business Administration, a government organization, offers loans with lower rates and low down payments and favorable repayment terms. The application process can be long and cumbersome.
Grants: Typically non-dilutive and often used for early-stage projects with a social or environmental focus.
Why Now
The rise of substitutes is closely linked to the increasing leverage founders have in the capital stack.
Founders today are more informed, more connected and more intentional about the type of capital they take on. As we explored in Force Three: Influence of Founders as Buyers, founders are increasingly treating capital as a product to be evaluated and are pushing back for better terms.
At the same time, the macro environment is reinforcing this shift:
Capital is tighter. VCs are slower to deploy, LPs are more cautious and terms are getting tougher.
Interest rates are up. Debt options are more expensive but still more attractive than giving up equity for many founders.
Technology has leveled the playing field. Platforms like Republic, AngelList and even Stripe Atlas have made it easier to raise, manage and deploy capital outside of traditional VC channels.
Ultimately, the power dynamic is shifting. Founders don’t just want capital — they want capital that fits. And that mindset is fueling the growth of substitutes.
VC Response
Mounting pressure from founders combined with alternative sources of funding are requiring VCs to take action and make funding easier and more friendly for founders.
Building real relationships: Clear and candid communication and long-term alignment with founders
Doubling down on value beyond capital: Strategic guidance, hiring help, network access, investor liaising, and cultivating a “missionary” culture
Investing in community: Curated conversations, events and platforms around portfolio companies and investors to cross-pollinate and create mutual benefit.
Getting flexible: Smaller checks, friendlier terms, and co-investing
Standardizing early-stage deals: Widespread adoption of the SAFE (Simple Agreement for Future Equity) for speed and simplicity
Adopting hybrid models: Exploring RBF and early-stage vehicles within VC firms
Specializing deeply: Owning capital-intensive and complex sectors like biotech or deep tech with access to subject matter experts or impactful personas
Final Thoughts
Ultimately, the rise of substitutes isn't necessarily an existential threat to venture capital, but it is a significant catalyst for evolution. VCs who can clearly articulate and consistently deliver value beyond just the dollars, adapt their strategies and build strong relationships with founders are best positioned to thrive in this increasingly diverse funding ecosystem. Stay tuned as the series about Porter's 5 Forces concludes with Force Five: Competitive Rivalry.
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