Startup Studio Funding 101: How To Finance a Startup Studio

Money isn’t everything, but it is a key ingredient in any recipe for success. Here is how startup studio fundraising works and why it is so important for startups.

Many things make a startup successful, but one of the most significant keys to success is having sources of capital to develop, test and validate your startup idea. If you’ve just started a business, you may be wondering why money matters so much. Sure, a great idea can get you pretty far, but a solid financial plan will open doors and allow you to manage your cash flow to keep your business on course. To ensure success, you must establish this early on.

The process of raising money for a startup can be daunting. You are already dealing with a lot of uncertainty and operational tasks, and then you add the pressure of finding the right group of investors who share your vision and trust your ability to bring it to fruition. So how do you find investors? How much money do you need? Will they be interested in investing in your business? And once you’ve got the money, how long will it take you to pay back the investment, and what will it ultimately cost you?

Here is where startup studios enter the picture. Startup studios have effectively set up core structures that allow them to finance their operations and startup creation efforts. As such, startup founders can feel secure that their project is not only in the right hands in terms of a knowledgeable and capable team of experts but also backed by the right financials.

Startup studios function by providing capital to startups that help get the ideas off the ground and fuel them all the way to and through launch until the startup becomes financially independent. And even then, studios retain their relationship with their portfolio companies and provide capital and shared resources beyond launch. This is not to say that there are no other suitable startup fundraising services out there, but in general, startup studio fundraising methods have a proven track record of building a strong foundation for emerging startups.

Let’s walk through some fundraising methods below:

Fund Model

With the fund model, the startup studio is responsible for providing funding that is composed mostly of venture capital firms and, at times, angel investors or even government grants. Usually, a percentage of this investment (2.5–5%) goes towards managing the studio internally–the salaries of the founders, the office space needs, overhead, etc. Once that management fee is established to provide for the operations of the startup studio over time, the remaining money is allocated to develop a new startup venture.

An important distinction of this model is that VCs are not investing in the startup studio directly but rather in the startup ventures they launch. This means that the studio itself doesn’t own equity in the startup venture, but they still keep 100% ownership of the studio. This method also includes something called ‘carried interest’, which is a way to carry the interest of the studio to ensure that the startup venture they help launch exceeds their goals and expectations in the future. Essentially, the studio receives 20% of all dividends and profits from each startup venture. This helps align interests and ensures everyone is working as a team to be successful.

PRO

  • Simple model
  • Startup studio doesn’t lose or share ownership of the studio itself
  • Startups can feel secure of post-launch efforts by the studio through the 20% carried interest

CON

  • VCs fully own the equity of the startup ventures that are launched
  • The management fee does not always guarantee to cover all the operational costs of the studio

Holding Entity Model

With the Holding Entity Model, Venture Capital firms invest directly in the startup studio. In exchange for that funding, the startup studio provides equity to the VCs in accordance with how much they invest in the studio. While the VCs won’t be executing and may not choose to provide any resources aside from capital, they are seen as a business partner with the studio, and therefore, they have a say in the studio’s operations, hirings and project selection. When a new startup venture is created, they split the money from that venture once the startup begins to make money, in accordance with their equity structure. So, for example, if the VC firm owns 30% equity in the studio, they will get paid 30% of all startup profits generated from the studio’s portfolio companies.

PRO

  • This model is often easier to explain to investors and get them on board
  • Both studios and VCs get to keep equity in the startups they create
  • Shared equity aligns incentives between VCs and studio

CON

  • The studio can lose autonomy on how to spend its money
  • The studio’s role is diluted to a degree

Non-Dilutive Model

Non-dilutive funding refers to any capital a business owner receives that doesn’t require them to give up equity or ownership. Compared to previous dilutive funding models that require you to give up some level of ownership of your business, non-dilutive funding introduces a relatively new method to the traditional financing space: revenue sharing. Revenue sharing allows investors to retain some ownership of the startup studio they invest in, but it also provides a flexible repayment model for studios to buy back the investment over time. With a shared focus on sustainable revenue growth, startup studios can enjoy flexibility while maintaining full ownership and control of their company.

This type of funding is effective and attractive for investors because the longevity of the investment will eventually generate a bigger return. In other words, non-dilutive funding is more centered around the company’s growth rather than equity, which aligns the interests of startup studios and the ventures they choose to pursue.

PRO

  • Offers a flexible and customized schedule of payments to the investors
  • Studios don’t give up ownership or control over investment
  • There is a shared focus on the sustainable long-term growth of the ventures launched

CON

  • Can be difficult to prove long-term financial stability for investors

So, Which Startup Studio Funding Method Should You Choose?

Whichever startup studio fundraising model sounds most attractive to you, it is important to understand that startup fundraising is essential for getting any business off the ground. From growing your team to sourcing more sophisticated resources to develop your business plan and scale over time, funding plays a critical role in the growth and success of startup studios and their portfolio companies. We hope you found this article helpful, and we invite you to learn more about how effective studios have translated into successful startups disrupting their respective industries in our article: Top Startup Studios By Website Traffic.

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Craig Kronenberger

Craig Kronenberger

Hi, I am Craig Kronenberger — entrepreneur, business accelerator, and founder of The Startup Studio Insider. Connect with me on LinkedIn!