VC Asking for Dividend? What’s going on?
Take a look at a Shareholders’ Agreement:
“The company distributes profits in cash dividends once a year. The annual amount of profit distribution is no less than 20% of the distributable profits for that year.”
A dividend term, quite common. Now, what if I told you this is from an early-stage VC firm in China? Yes, Chinese VCs are now asking their portfolio companies to pay dividends from the very early stages of the investment period—typically 20%-30% of the company’s profit—with the goal of recouping their investment within 5-7 years.
Intrigued? Let's dive deeper.
Question 1: why are VCs doing that?
All around the world, DPI is now the sword of Damocles for many VCs. This is extremely the case in China. The Chinese VC system is quite heavily dominated by government and sovereign money; to give you a more accurate sense, 71.2% of LP money into VC in the 1st half of 2023 are from government/sovereign, who have become more risk-averse and in high demand of certainty and liquidity, after events such as Evergrande (and real estate in general) and MissFresh…
To stay in the game and comfort their LPs, the “dividend model” seems a necessary step for VCs, given that the path to IPO, both domestic and offshore, seems unpromising.
But some questions we really need to ask and consider are:
Question 2: is the “dividend model” viable?
Let’s look at the profile of companies that can satisfy the requirement for certainty and liquidity: the company needs to have predictable revenue, and it needs to turn profitable in a very short period of time. The consumer industry is a fair example of that profile, and is where the Chinese VCs are applying the new investment model as a pioneer.
However, if a startup already exhibits such characteristics, are they still willing to take the so-called “VC money” when it’s in the core a loan that has a much higher interest rate, and also gets into your cap table? Is it possible that only those who are unable to raise conventional VC money are willing to accept these “unfair” terms? We will need to wait and see.
Question 3: is the VC “dividend model” reasonable in the long term?
In other words, are VCs still VCs? Shifting from “high risk high expected return, multiple expansion” to “certainty and liquidity, cashflow first”, has VC changed? Yes they are adapting, but only for now, and for survival. While not a sustainable model, it’s a smart and necessary strategic move to weather challenging periods.
Meanwhile, we are also seeing VCs and LPs navigating more into other models, such as RBF (Revenue Based Financing) and secondary market.
Let us know your view this new VC model in the comment section below!
