What is Venture Debt – Demystifying venture debt for SMEs and scale-ups

What Is Venture Debt?

Venture debt is a growth capital investment aimed at fast-growing scale-ups, provided by specialist non-bank lenders. This method of funding is particularly effective for rapidly growing innovative businesses in need of external investment to underpin their next stage of growth. Available to pre-profit SMEs with an established business model and clear growth prospects, venture debt loans are available earlier and in larger amounts than traditional bank loans, and do not make use of personal guarantees.

Fast-growing young businesses with a limited trading history and little or no track record of profitability usually struggle to borrow money from conventional sources, even where they have exciting prospects. Banks are generally wary of the risks posed by these start-ups and tend to steer clear. In fact, Bank of England statistics show that bank lending to all SMEs has been falling over the past year.

Alternative Funding Options for SMEs

Despite tough trading conditions and political uncertainty, many small and medium-sized enterprises (SMEs) remain confident about their prospects and are more optimistic about the future than they have been for some time. Indeed, the number of start-up businesses in the UK is at a record high. But how do fast-growing companies fund their ambitions for the future, at a time when bank support for SMEs is declining?

Very often, business founders believe that the difficulty of securing bank debt leaves them with little choice in terms of funding. Many feel they have to raise equity capital in order to fund future growth. In the process, they give up a large chunk of ownership, possibly even ceding control to their investors. But venture debt finance may still be available to start-ups with a viable business model and strong growth prospects. Venture loans are aimed at exactly this sort of company.

Key Features Of Venture Debt

The venture debt available from non-bank lenders such as BOOST&Co combines the traditional features of a loan with aspects of venture capital that have traditionally been the preserve of investors offering equity finance. It’s potentially attractive to start-up and growth companies that do not yet have the sort of positive cash flows that banks look for, or the valuable assets that banks typically expect borrowers to put up as collateral against their borrowing.

This is not to suggest venture debt is suitable for start-ups with no track record at all, or no significant revenues or assets. Lenders will want to see that the business is already generating strong revenues. BOOST&Co, for example, looks for a revenue rate of £5m. They will also assess the business’s enterprise value, as well as making a judgement about its future growth prospects.

Nevertheless, because venture debt providers are interested in the current and expected performance of a business – rather than its historical financial performance –this sort of funding is open to young and relatively immature businesses, even though bank finance may not be an option.

Highly Individualised Venture Debt Pricing

Growth capital loans tend to be priced individually, depending on the needs and circumstances of the borrower – companies at an earlier stage of their development or with a faster cash burn rate would typically expect to pay more. Venture debt typically incorporates three elements: a fee of between 1% and 2% of the approved loan amount, an annual interest rate of between 10% and 12%, and an equity kicker worth 10% to 20% of the loan. This final element is typically structured as a warrant giving the lender the right to buy a small portion of equity at a fixed price during the term of the loan.

In BOOST&Co’s case, venture loans vary in size from £1m to £10m and are typically repayable over terms ranging from 36 to 60 months. These loans can be structured to suit the borrower – some companies choose to draw down funding in tranches as and when they need the money. This reduces the total interest cost. And while repayments usually include both interest and capital, some borrowers opt for an interest-only period at the beginning of the loan of between six and 12 months. Some loans include covenants the company must meet, but others don’t.

Clearly, venture debt isn’t suitable for every young business. While it may appear more expensive than traditional bank finance, it does provide fast-growing SMEs with access to non-dilutive debt finance that can be used for various types of growth.

The Uses of Venture Debt

As it provides more funding, faster, earlier in the business life cycle, and without the use of fixed criteria, ratio testing, or covenants; venture debt is an appealing alternative for scale-ups in need of growth capital. Every venture debt loan is individually designed for each company, depending on its needs and circumstances. Funding is typically between £1 million and £10 million, and is repayable over three to five years. Venture debt growth capital can be used in a myriad of ways, including for the following purposes:

♦ Extending the cash runway

A venture debt loan can provide a useful source of headroom for a loss-making business as it closes in on profitability. Because venture debt lenders focus on a business’ enterprise value and business model rather than its historical financial performance, while businesses must be generating revenue to be eligible for venture debt, they needn’t be profitable.

♦ Funding M&A activity

Fast-growing businesses often plan to increase the speed of expansion by implementing a growth strategy based on mergers and acquisitions. However, this model requires that finance be in place to allow for rapid response when new opportunities arise. Once secured, venture debt can be drawn down over time – making it perfectly suited to acquisition growth strategies.

♦ Providing working

Carefully managing cash flow is crucial for high-growth businesses yet to break into profit. But they still sometimes need to raise funding for working capital needs, such as stock purchases. In cases where such requirements vary by season, it can be particularly difficult for relatively young businesses to manage. The flexibility of venture debt makes it well-suited to this purpose.

♦ Supporting capital expenditure

High-growth businesses often struggle to fund the investments that would secure further growth. These can include equipment purchases or the cost of software licenses. Venture debt can be a handy tool in financing such investments. And because venture debt loans are offered in tranches, SMEs are able to plan for future investments.

Venture Debt – Perfect for Scale-Ups

With SMEs forming 99% of the 5.5 million businesses in the UK, much has been said about scale-ups in recent times. How do we encourage entrepreneurs to start a business and drive it to the point of scalability? And perhaps most importantly, what can scale-ups do to find the capital to support their growth – be it in the form of a loan such as venture debt, equity, or traditional bank financing.

At BOOST&Co, we believe that to support a business, you have to know a business. So here’s a look at how we define a venture debt-ready scale-up.

Gearing Up for Growth

Preparation is the key to securing growth capital. Be prepared and you are halfway there. Be sure to have the following at hand:

  • Financial information
  • Company profile
  • Business model
  • Market analysis
  • Management team profile
  • Funding needs
  • Plans for servicing debt in a downside
  • Business goals

For more, take a look at BOOST&Co’s 8 most important readiness factors for growth capital investment.

 

Four Business Benefiting From Venture Capital Loans

BOOST&Co has been providing exciting high-growth businesses with venture debt and growth capital loans since its launch. We’ve already worked with over 500 high-tech and innovative businesses seeking funding to move their enterprises forward. We’ve worked with a range of businesses raising venture debt for a variety of different reasons: to bridge the gap to break-even, to extend the runway before an equity round, for M&A, working capital, or to roll-out new sites. Here are just four examples of companies we’ve helped to grow.

Vizolution

Vizolution is a UK-based software-as-a-service (SaaS) business offering omni-channel, digital solutions that streamline the customer journey for large contact centres. In a fast-growing marketplace, its software is powering the customer support of a number of prominent organisations in banking, financial services and telecoms. Clients include HSBC, RBS, Santander, Legal & General, EE and O2.

BOOST&Co provided Vizolution with £1.5m of venture debt, giving the company the financial firepower it needed to accelerate its international growth and strengthen its development team.

idio

Another UK-based SaaS business, idio analyses customers’ digital content consumption to help the business target its marketing and sales activity with far greater precision. idio’s software is based on the premise that customers’ reading behaviour provides a constant stream of intelligence about their interests and influences. Businesses able to harness this insight are far better placed to engage with prospective customers and build value-enhancing relationships.

BOOST&Co provided idio with £1.25m of venture debt, enabling the company to increase its investment and manpower in its core markets in the UK and US.

 

Triptease

UK-based SaaS company, Triptease, builds smart digital tools that help its customers to increase direct bookings on hotel websites. It offers solutions that improve the customer journey for hotels looking to secure direct bookings, in an industry where online travel agents have taken an increasingly large share of the market.

BOOST&Co provided Triptease with £1m of venture debt to enable the company to expand its team, increase investment in sales and marketing, and further develop its product portfolio.

Bowman Power Group

Bowman is a world leader in advanced exhaust energy, designing and manufacturing waste heat recovery systems for large diesel engines. This enables engines to secure energy efficiencies of up to 10% and the company has won a series of large contracts with tier-1 manufacturers.

BOOST&Co provided Bowman with £3m of venture debt, providing the business with invaluable working capital as its growth accelerated.


If a venture debt loan could be right for your business, download The Growth Lending Guide to learn more and discover how Growth Capital can help your business growth without equity-loss. Or contact us, to find out how we could help your business reach its growth objectives.

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