How private debt, asset-based loans & inventory finance can support growth

There’s no doubt that for many businesses, venture capital is the holy grail. The idea of securing and then actually spending huge amounts of money is highly appealing. 

But venture capital (or equity financing) is only one avenue for startup CFOs to pursue. Debt financing, in particular, is an oft-overlooked but potentially ideal revenue source for growing businesses. 

To illustrate this fact, we held two special CFO Connect events focused on different - but related - topics. First was a detailed look at how companies can scale with private debt. A week later, we took a deep dive into asset-based and inventory-based financing. 

In this article, we’ll recap the most insightful takeaways from these two sessions. And we highly recommend you watch the replays.

About the experts

• Ifti Akbar, Co-founder & Director of Fuse Capital — debt experts providing focus & global debt advisory & delivery service for any technology business.

• Sophie Bidault, CFO at Agricool — a fast-growing company contributing every day to building a new, healthier, more responsible food system.

• Dr. Veronika von Heise-Rotenburg, CFO of Cluno, a car subscription service that lets users pay to use a car for a minimum of six months, with all costs except gas covered by a monthly fee.

• Dietmar Helms, Partner at Hogan Lovells, a global law firm helping companies with their toughest and most complex legal issues.

Debt vs equity funding

When we talk about funding modern businesses, our thoughts naturally turn to venture capital. Companies are raising huge sums in the US, Europe, and Asia, and new VC firms are springing up to help distribute these resources. 

But venture capital is far from the only attractive funding vehicle. In fact, as Sophie explains,  “Venture capital has a very significant drawback - the cost of dilution. And then depending on how much equity the VC takes, they may also be more or less aggressive in the day-to-day running of the business.”

Which is the main reason why venture capital is seen as an “expensive” way to raise funds. Debt, on the other hand, can be relatively cheap. As Ifti says, “debt isn’t everyone’s cup of tea. But there are lots of options and different types of funds available. The deals we’re doing now weren’t available two years ago. There are lots of solutions for borrowers as they scale, which is positive.

“This of course works alongside growth funding - venture debt or venture capital. You’ll be able to raise this capital for challenges like customer acquisition, and there it’s more about leveraging things like your IP and brand. So there are different tools and options available.”

And for many companies, it’s not a question of either/or. “Depending on what stage you’re at,” says Ifti, “there can be a mix of debt and equity. It’s about looking at how much you need, how you’ll use the funds, and your existing balance of debt to equity. As you grow and become more secure, more debt options will become available to you.”

Typical requirements for private debt

We’ll see in a moment a “classic” example of a business built on asset-based debt financing (Cluno). But as Ifti explains, there are no clear-cut rules around which businesses can or can’t access these funds. 

“We work with a variety of different businesses. These include VC-backed, where we’re thinking about sponsorships and investor support. We also work with owner/managers and family businesses where there are no sponsors. And sometimes public limited companies.

“There are so many different options, and it always boils down to the kind of business you’re in and the right kinds of funds that meet your requirements. Funds that are looking to support EBITDA-positive companies are going to be no good for a ‘burning,’ VC-backed tech business scaling fast.

“You need to assess your situation and find the right funds to fit your situation.”

And one final point for SaaS finance teams. “Specifically for SaaS businesses, all the usual metrics are taken into consideration (CAC, LTV, and more). But you’ll move into different levels of funder as you grow and the amount of risk is reduced. Particularly once you reach around $10m ARR, there’s more security as your software becomes critical to your clients.”

Choosing the right asset-based debt solution

Our session with Dietmar and Veronika looked closely at asset-based financing, a debt option that can either be private or more traditionally through banks. The hosts spoke at length about the nature of the assets that make this a viable option for some businesses. 

According to Dietmar, “it all depends on which kind of asset you want to finance. That dictates the most suitable debt solution. If you think about cars, these are very fungible assets, and you have a very predictable value at the end of the term when you want to return the vehicle. 

“This is one of the key factors to find an asset-based lending solution: the ability to accurately predict - every month - the value of your asset portfolio. For vehicles, we have a lot of publicly available information - databases in different countries that tell you the price of a one-year-old Volkswagen Golf, for instance. Consumer electronics are also a good example. You can find the prices on eBay pretty easily. The mobility company Tier even created its own resale site on the internet, which gives it sufficient data for financing.”

But you also need to think about these assets from the bank’s point of view. Dietmar worked with one client who wanted to use “control units for heating systems” as collateral for a loan. These have real, measurable value. But if the time came, a bank would have a hard time actually reselling large quantities of them. So they’re not necessarily an easy asset to secure funding with. 

“Agricool is a good example,” says Ifti. He and Sophie worked together to build a good private debt package that suited the company. “In the end, it was quite a classic asset-based approach, but with partners who really understand the value of those assets.”

So what makes the example interesting? “We don’t do a lot of revenue,” says Sophie. “That’s standard in our industry. And our inventory is very particular to us. So that makes it complicated to look for asset-based financing, for example. In our case, there’s not much resale value. A lot of our parts are made to order.”

The key was to find partners who valued the intellectual property and innovation behind the company, and to value these appropriately as assets.

Mitigating risk for asset-based companies

Asset-based financing can also create some potential risk factors for companies and their creditors. Veronika explained how these work for Cluno.

“We set up our finance function to allow for bank-like processes, starting with a credit policy and a collection policy. We don’t hand out a car to someone who’s not correctly identified. Credits are decided not by a single credit manager, but by an automated scorecard.”

“And then on the portfolio side, you have to get a firm grasp on your assets. You have to know beforehand when there are new models coming, for example. You also need to project future prices and future needs to make good spot deals.”

Cluno’s assets (cars) are also held in special purpose vehicles (SPV) - essentially separate companies. This keeps Cluno safe from major insolvency issues, and also gives the banks more input into how the assets are handled, without any input into the business itself.

The webinar replay has a detailed description of how this structure works.

Dietmar explains that the SPVs are widespread: “This model is universal. We can use it all across Europe. This lets a company like Cluno easily expand its portfolio into other jurisdictions. That’s a major plus.”

“One of the main benefits of this structure is that we keep the operating company out of the picture, which is very different from venture debt. This allows the company to grow their portfolio and add different lenders into the same structure, by dividing the asset portfolio into different SPVs.” In other words, asset-based financing with SPVs gives you lots of flexibility, and the ability to take more opportunities as they arise.

Why private debt is ideal for certain companies

So what makes private debt - including asset-based financing in some cases - appealing?

“One of the challenges that companies face is scaling up,” says Ifti. “From a traditional banking route, they don’t meet the typical matrices.” Many banks don’t understand the value that growing companies have, so accessing some traditional forms of debt can be difficult. (This was the case for Agricool.)

But Ifti continues, “some funders understand the value of the business and its assets, and aren’t concerned with the stage of the business and the rate of growth. Using equity dollars to buy hard assets is a very expensive way to grow. Instead you can access funds from all around the world that can appreciate the value of the IP and assets.”

“One of the key elements around this fundraising is looking at an international presence. Whether you’re in Paris, London, New York, or Singapore, you need to look outside your domestic options. Look at international funds to see what’s available in your market. Traditionally within debt, companies have looked at local banks and networks. But those days are long gone. This type of funding originated in the US, but is becoming more and more popular in Europe and Asia as people become more aware of the value of their software and IP. As the value of the business increases, they can leverage debt to bring the cost of capital down and fund their business.”

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