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Venture debt for small companies. Just closed a small VC round. Is this a good time to add venture debt?

Michael Jameson's Profile

My company just closed a small venture capital round. I have been approached by a venture debt player with a proposal. Before I spend time doing any work on this I was wondering whether it was worth my time. The round was just under $1M, which is not a lot (which was on purpose on our part). And to move the ball at all we'd probably need to pull in another $1M in venture debt, or else it's not worth the bother. We are in revenue but not yet profitable consistently.

Would we even be able to get the debt? I'm not asking for a definitive b/c of course it's not your deal and you don't know it, but would this deal be fundable fundamentally if we pursue it or is it a waste of time?

Answers

Topic Expert
Brian Best
Title: Managing Director
Company: Leader Ventures
(Managing Director, Leader Ventures) |

There are few things to consider from your question.
1) Timing: Just after closing an equity round is a good time to consider venture debt as lenders like to see recent equity, long cash runway and a current valuation.
2) Company size and Stage: Yes several venture debt firms, including mine, are interested in early stage companies. In general most venture debt deals for companies with one round of equity will range from 25-50% of the equity raised so you may well find that you can't raise $1 million of debt at this time unless you have created significant enterprise value. $250-$500k would be more likely.
3) Does Debt make sense for you? This is the big question. The value of venture debt is generally to allow you to extend your cash runway, hit more business milestones, and increase your next round valuation. If you are already sufficiently funded to hit your milestones with some cushion or if the deal structure doesn't really allow you to extend your runway (financial covenants, MAC default clauses, etc.) I would advise you to hold off. If there is some uncertainty about timing of your milestones venture debt can provide an insurance policy that would be much cheaper than getting a bridge loan later on.

Feel free to reach out directly if you would like to discuss further.

Brian

Topic Expert
Kent Thomas
Title: Founder
Company: Advanced CFO Solutions
(Founder, Advanced CFO Solutions) |

Brian has given you an excellent summary of what to consider with respect to venture debt. One more item to keep in mind: Some venture lenders (especially the banks who are active in this space) will add liquidity covenants that may have a significant impact on whether or not you can really ever use the venture debt. If you have an adjusted quick ratio of 1.25 or 1.5 to 1, you'll have to have cash and receivables that total 125% to 150% of the debt so be careful. The venture debt can take the form of term loans (usually 36 month term) and asset-based lines of credit. If you are generating revenue and can use the line of credit to help fund growth, it can be an effective tool. If your runway is less than 18 months under your current forecast, I'd advise against a term loan if the liquidity covenants are required.

Good luck!

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