Venture Debt 101: Is It Right for your Business?
Venture capital might be the most popular fundraising option in the startup world, but it's certainly not the only one. Amongst the many financing channels available for startups, venture debt has gained popularity over the years to the point some even wonder — is venture debt the new venture capital?
To dive into the FAQs of venture debt, we hosted a live workshop with the experts from Altio, where they gave an introduction to venture debt best practices, and answered questions from the community.
Below are the 3 most popular topics that came up during this venture debt workshop. You can also watch the full replay here.
1. When to use venture debt
Venture debt is a non-dilutive financing tool, widely used in the US ($25Bn deal value in 2019) and increasingly significant in the European startup financing ecosystem. Venture debt is typically provided by banks, funds and international organizations.
Historically, venture debt has been used to bridge the gap between milestones that enable the borrower to raise an additional equity round. Nevertheless, our experts from Altio believe that debt can be very well suited for funding growth in both the medium and long term. For example, boosting customer acquisition with sales hires or buying back shares to “clean” your cap table can be achieved via debt financing.
However, keep in mind the difference between an “equity risk” and “debt risk.” More precisely, it is very unlikely for a debt investor to be willing to fund costs related to product development.
Terms of a venture debt ticket vary depending on the lender and its cost of funding. At Altio, borrowers can expect a 10% yearly interest rate.
2. How to raise venture debt
As opposed to equity investing, debt is an objective process as it relies on core metrics calculations, providing the lender with sufficient visibility of the borrower’s financial health.
If your business is a SaaS model, one box is already ticked: recurrency. Otherwise, Altio advises a focus on client behaviour. Providing lenders with a clear overview of your churn via cohorts can bring you a long way.
There are two other metrics you should pay attention to when going into a debt fundraising process: CLTV/CAC and cash burn. The former refers to how much a client brings in revenue over their lifetime as opposed to how much the borrower spent to acquire them.
Regarding the cost of acquisition (CAC), Altio advises companies to reach out to a third party or an inhouse CFO for its calculation. There are too many companies out there with incorrect CAC computations, so showing up to an investor meeting with clear and accurate calculations will make you stand out. Cash burn refers to making sure you have a grasp on your expenses and monitor the monthly variations of your cash balance.
Founders should conceptualise fundraising as an ongoing process. Fundraising allows you to build relationships with investors early on and provide them with a front row seat to your growth trajectory. It also ensures that you’re keeping track of your core metrics on a regular basis, and thus, can react quickly to potential investor enquiries.
3. What to expect after the deal is closed
One key advantage to debt as opposed to equity is that it does not imply or entitle lenders to the right of a board seat. The sole responsibility of a borrower towards its lender is reporting. Depending on the lender, however, this task could be automated.
Raising venture debt for the first time is not necessarily time consuming; Altio suggests you can expect the process to take about four to six weeks if you are well prepared.
Raising venture debt for the second time from the same lender can be achieved in less than a week. As opposed to equity financing, the objective aspect of the investment making decision means that once initial due diligence is complete, complemented by ongoing monitoring during the first ticket’s life, there is very little work to do for a second round.
If you decide to go for a pure equity round after having raised debt, you can expect a significant increase in valuation: a VC also owns the liabilities of the company in which they invest. Altio’s experience in the matter shows that VCs usually welcome companies with a demonstrated ability to take on debt in their capital structure.
To learn more, about venture debt as a whole and more specifically how it could fit your business, feel free to reach out to the team at Altio: email@example.com
About the experts:
Fabricio Mercier is the CEO and founder of Altio. After fifteen years in investment banking at Rothschild and UBS (M&A, IPO, structured credit), he took on the role of CFO for SaaS companies in Brazil. During that time, he observed the inefficiencies of the fundraising landscape for technology companies and decided to launch Altio in order to provide the tech community with a flexible and tailored source of funding.
Guillaume Cadour is an analyst at Altio. He has a strong international background having lived in Canada, the US, Brazil and now the UK. Following his experience in the Digital Transformation Office of the Societe Generale Group, he decided to pursue his career in the technology and entrepreneurial sectors.
About CFO Connect:
CFO Connect is a global community of finance leaders. We host regular events & workshops, have a private Slack channel for CFOs, and produce helpful content on our blog. Join Us!