Venture debt: what it is and who it suits

Venture debt is a specific type of loan tailored to innovative businesses that are already backed by venture capital. The British Business Bank describes it as lending to early-stage, high-growth companies that have venture capital supporting them, and as an extra source of cash between equity funding rounds.

It is typically an addition to venture capital rather than a replacement for it. The company borrows an agreed sum, pays it back with interest and does not hand over an extra stake in the business to do so. The British Business Bank notes that start-ups and fast-growing businesses can apply even when they have few assets, which is a large part of why the product exists.

The rest of this guide explains how it works in practice. It is general information, not advice on any particular deal.

Venture debt is borrowed money you repay, venture capital is investment you pay for with shares, and an ordinary business loan is assessed on different things. The table sets the three side by side.

The underwriting is the real difference. The British Business Bank explains that conventional loans focus mainly on cash flow, or on assets such as stock, property or machinery that act as security. Neither suits a company that is pre-product, or one that deliberately puts growth ahead of profit. A venture debt lender instead looks at the equity the company has raised and its ability to raise more.

The classic reason is to extend the cash runway, which is how long the company can keep operating before it needs the next round. A funding round is usually sized to reach a milestone, and a delay can leave the company short of cash just before that point.

Cash burn rate means how quickly a business spends its money on running costs such as building a prototype or entering a new market. Here is the arithmetic with round, made-up numbers.

The British Business Bank adds that a venture loan can be a more cost-effective way to buy extra time than adding the same amount in new equity, because the founders and existing shareholders keep their share of the company.

For an early-stage company the main focus is on its investors, its recent equity rounds and its estimated cash burn rate, according to the British Business Bank. Lenders weigh up who has backed you, how much capital those investors have set aside for later rounds and how fast you spend.

• Size of the loan: it typically relates to the size of the equity round and to current and forecast cash burn.
• Burn rate: companies with high burn rates are viewed as riskier, because they depend more on outside capital.
• Investor track record: lenders look at each existing investor’s record and the capital they have earmarked for follow-on rounds.
• Milestones: for more mature companies, a record of hitting product and financial targets counts, alongside the ability to attract new non-dilutive capital.

All of this is subject to the lender’s own criteria, and the terms on offer differ from one provider to the next.

The main risks are cost, access and the fixed obligation to repay. The British Business Bank lists high interest rates relative to traditional business loans as a drawback and warns that repayment can become a challenge if the business runs into financial difficulty.

• You must already have venture capital behind you, and that is hard to get, so venture debt is difficult to obtain for most businesses.
• Repayments are due even if the next funding round is delayed or does not complete.
• Terms can include more than interest, such as arrangement fees, restrictions on how you run the business, security over assets or a right for the lender to take shares later. Ask for every term in writing and have a solicitor review it.

Venture debt suits venture-backed companies with a clear plan for the cash, and it is not designed for ordinary established or sole-trader businesses. Use the lists as a rough guide only.

If you are earlier than that, our guide to start up business loans covers the finance that does exist before investors are involved, and small business grants covers money that does not need repaying.

The alternatives depend on whether you want to give up shares, and on what you can offer a lender. The table sets out the main routes.

Whichever route you take, compare the total cost and the conditions, not only the headline rate. Our guide to comparing business lenders explains how.

Ask for the full cost, every condition and what happens if a funding round slips, and get the answers in writing before you sign. A short list helps.

• What are the interest, fees and any other payments, and when does each fall due?
• Is there any security over company assets or a right to take shares later?
• Are there conditions I must keep meeting, and what happens if I breach one?
• What happens if the next equity round is late or smaller than planned?
• Is there a charge for repaying early?
• Will any director be asked for a personal guarantee?

Read our guide to personal guarantees if a lender asks for one. Capzy does not give legal, tax or investment advice, so ask a solicitor and your accountant to review the terms.

Capzy is a credit broker, not a lender, and is paid by the lender. We arrange debt finance from lenders, and venture debt from specialist providers is not one of the products we set out on this site. If you are not venture-backed, the other types of finance above may be a closer fit.

You can check your funding options with a soft search that does not affect your credit score, or browse our directory of business lenders. A full application to a lender may involve a hard search, and any offer is subject to status and lender criteria. Capzy does not arrange equity or venture capital.