Venture debt

Venture debt or venture lending is a type of debt financing provided to venture-backed companies by specialised banks or non-bank lenders to fund working capital or equipment purchases. Unlike traditional bank lending, venture debt is available to startups and growth companies that do not have positive cash flows or significant assets to use as collateral. Venture debt providers combine their loans with warrants, or rights to purchase equity, to compensate for the higher risk of default. For this reason, venture debt is sometimes considered a hybrid form of financing between debt and equity.

Types of venture debt

Venture debt is typically structured as one of three types:

• Equipment financing: loans for the purchase of equipment such as network infrastructure.
• Accounts receivable financing: borrowings against the accounts receivable item on the balance sheet.
• Growth capital: loans to achieve specific company milestones, sometimes used to bridge the gap between two venture capital financing rounds.

Venture debt is only available to companies that have received or are simultaneously taking on venture capital financing from a reputable firm. The lender effectively piggybacks on the due diligence done by the venture capital firm.

Providers

Venture debt has been available in the US since the 1980s (need source), and in the UK and continental Europe in the past decade. Providers are either banks serving small and medium-sized businesses, or dedicated pooled investment vehicles or funds that only provide venture loans. They include:

United States

• Horizon Technology Finance [2]
• Velocity Financial Group [3]
• SVB Financial Group (including Gold Hill Capital)
• Comerica
• Bridge Bank
• Square 1
• Hercules Technology Growth Capital
• Pinnacle Venture
• Lighthouse Capital Partners
• Vencore Capital link title

Europe

• ETV Capital^[1]
• Oryx
• Noble Venture Finance
• Kreos Capital
• ORIX Venture Finance ^[2]

India

• SVB India Finance (part of SVB Financial Group)^[3]

Financing Terms

Venture debt lenders expects returns of 12-18% on their capital, but achieve this through a combination of loan interest and equity returns. The lender is compensated for the higher rate of default on these loans by earning incremental returns from its equity holding in companies that are successful and achieve a trade sale or IPO.

Equipment financing can be provided to fund 100% of the cost of the capital expenditure. Receivables financing is typically capped at 80-85% of the accounts receivable balance. Growth capital may match the amount provided as equity financing by the venture capital firm.

Loan terms vary widely, but differ from traditional bank loans in a number of ways:

• Repayment: ranging from 12 months to 48 months. Can be interest-only for a period, followed by interest plus principal, or a balloon payment (with rolled-up interest) at the end of the term.
• Interest rate: varies based on the yield curve prevalent in the market where the debt is being offered. In the US, and Europe, interest for equipment financing as low as prime rate (US) or LIBOR (UK) or EURIBOR (Europe) plus 1% or 2%. For accounts receivable and growth capital financing, prime plus 3%. In India where interest rates are higher, financing may be offered between 14% and 16%.
• Collateral: venture debt providers usually require a lien on all the assets of the borrower, excepts in equipment loans where the capital assets acquired may be used as collateral.
• Warrant coverage: the lender will request warrants over equity in the range of 5% to 20% of the value of the loan. A percentage of the loan's face value can be converted into equity at the per-share price of the last (or concurrent) venture financing round. The warrants are usually exercised when the company is acquired or goes public, yielding an 'equity kicker' return to the lender.
• Rights to invest: On occassion, the lender may also seek to obtain some rights to invest in the borrower’s subsequent equity round on the same terms, conditions and pricing offered to its investors in those rounds.
• Covenants: borrowers face fewer operational restrictions or covenants with venture debt. Accounts receivable loans will typically include some minimum profitability or cash flow covenants.

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See also

• Hybrid security
• Shareholder loan
• Seniority (finance)

References

• Altgate Blog: Venture Debt Financing for Startups 31 August 2007.
• Ventureblog: Venture Lending 101 20 April 2004.
• Orix deal highlights growth of ‘venture debt’ FT.com, 26 June 2008.

Further Reading

• Venture Debt: Device Financing Lifeline or Anchor? 20 April 2008.
• Silicon Valley Bank: Venture Debt –Maximizing Its Value In The Current Environment 14 April 2004.
• Venture debt in Europe IN VIVO Blog Spot, 25 June 2007.
• What do VCs think about venture debt? Ask the VC, 12 July 2007.

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