5 Ways High-Growth Companies Can Use Venture Debt Financing

Getting the right funding at the right moment is crucial for fast-growing businesses looking to expand. A growing number of companies are seeing venture debt as a useful supplement to, or perhaps a replacement for, traditional venture capital. With venture financing, businesses have more leeway in how they spend their money, which means they may fuel growth, extend their financial runway, and accomplish important milestones without having to rush into more equity rounds.

Venture debt is a useful tool for fast-growing businesses that want to improve their financial strategy, increase their cash flow, and fund essential initiatives such as product development, marketing, and expansion.

Here, we examine 5 strategies high-growth companies can employ to maximize venture debt. These strategies can help them achieve their growth goals, streamline their operations, and set themselves up for long-term success. By using this funding option wisely, businesses can accomplish their next milestone with the necessary resources while maintaining control and limiting dilution.

What Venture Debt Financing is All About?

Companies in their early stages that seek funding but do not yet have a stable revenue stream often turn to venture debt financing. Specialist lenders, prepared to assume more risk in pursuit of potentially larger profits, are the usual sources of venture loans. Unlike more conventional types of debt financing, it is common practice to employ this form of debt financing in addition to equity financing.

Venture debt, usually provided as a loan, can be used to obtain equipment, fund research and development (R&D), or grow the business. In addition to funding, the venture loan lender might offer strategic and operational guidance to help the business succeed.

Venture debt is a type of financing that avoids diluting current shareholder stock and does not require giving up ownership in the company. However, it usually comes with a higher interest rate and shorter repayment terms.

How does it work?

The term "venture debt financing" refers to the practice of a specialized lending institution or venture debt firm lending money to a young or rapidly expanding business. The venture debt lender determines the amount and conditions of investment based on the company's financial status, business strategy, and growth prospects. 

Some examples of such terms are the interest rate, the repayment period, and any limitations or prerequisites. The venture finance lender may go above and beyond by offering strategic and operational guidance to assist the business in succeeding. After that, the business is responsible for repaying the agreed-upon loan.

5 Approaches for High-Growth Businesses to Capitalize on Venture Debt Financing

88% of venture capitalists (VCs) said that their portfolio companies intend to seek venture debt within the next twelve to eighteen months. Given this increasing trend, companies can utilize venture debt funding for the following reasons:

Lengthen cash runway

What is Cash Runway?

This means you can run your business for a certain period before you run out of cash.

To What Extent Does A Rapidly Expanding Technology Company Require Runway?

Investors recommend a cash runway of 18–24 months between funding rounds. The best ways to determine your company's ideal cash runway are to predict its financial demands early on, raise capital appropriately, and cut costs where possible.

How Can Venture Debt Increase Your Cash Flow?

Venture debt financing addresses the demands and risks associated with technology companies. A venture loan can result in a longer cash runway, less share dilution, and continued company control. Compared to the expense of a new equity funding round, the cost of venture financing is significantly lower.

Finance large capital expenditures

A common and traditional purpose of debt borrowing is to finance big capital expenditures, such as buying new equipment or merging with a smaller company.

Companies in areas like cloud-based software don't often make huge capital expenditures, but this allows them to make purchases without draining the company's cash or going through an equity round, which would dilute its shareholders.

Eliminate a bridge round

What is a Bridge Round?

A bridge round temporarily infuses capital between a company's present liquidity needs and its subsequent investment round.

Why Should You Prevent a Bridge Round?

A bridge round raises the obvious question of what happened to the company's previously raised capital, strongly linking it with risk. Investors begin to question the C-suite's competence in handling their funds. If investors pull out of a bridge deal sends a message to potential backers that existing investors aren't completely committed to the company.

How Do We Eliminate A Bridge Round Using Venture Debt Financing?

Despite its speed, raising a bridge round is not without its costs and signaling risks. On the other hand, venture debt does not involve indicating risk, does not necessitate a valuation, and allows for the full amount of equity to be raised fresh during the round.

Prevent setting a valuation

What is a valuation?

The valuation process calculates a company's present value by considering various elements. These include financial forecasts, the market value of its assets, the composition of its capital structure, and its management.

When a valuation is not necessary

When a business isn't doing well, it could be due to internal issues or external factors, such as a shift in the market. If the pre-money value of the upcoming fundraising round value is below the post-money valuation of the prior round, this could lead to anxiety about a "down round" in the industry.

A Valuation Is Not Necessary For Venture Debt

Businesses can raise growth financing through venture debt without establishing a valuation. It provides the money needed to launch growth projects and hit milestones, strengthening your business's position for valuation in the next equity round.

The Insurance Policy

Equity investors consider the projected capital expenditure to reach the next milestone, as each fundraising round is structured to propel the company to the next investment round.

A corporation can use venture debt as a safety net if it requires more time to reach a certain goal. When planning for a period of low revenue, many businesses opt to raise venture loans in addition to equity. This gives them peace of mind.

Conclusion

Businesses that are about to break even may seek additional funding to help them reach their goal. There may be less dilutive financing solutions that management and current investors find more appealing at this stage of the company's development.

Businesses on the verge of breaking even could consider taking out venture debt instead of raising stock because it is less dilutive and can eliminate the need for a last round of funding altogether. 

Additional repayment choices, including a lengthier amortization period, are available. When a business is nearing profitability, it makes more sense to have a longer amortization period so that it can pay back the loan when cash flow is positive.