April 17, 2024
April 18, 2024
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Five instances when debt is a good funding choice for startups

Tenzin Norzom

No one-size-fits-all when it comes to laying down the fundraising strategy for startups. It needs to be tailored to the nature of the business, stage of growth, and team strengths and weaknesses, among other factors.

That is why it is important to devise a funding strategy and approach based on the startup’s growth trajectory. It is equally important to diversify types and sources of funding to maintain a certain level of freedom in deciding how the business is run. 

While there’s a lot of myth when it comes to financing businesses with debt, it can be an effective alternative form of funding. When properly used, debt funding, which is essentially taking a loan to fund specific needs, can be advantageous. 

As a pure-play debt solution, LV Debt offers debt funding to startups and emerging businesses to unlock the next stage of growth. They must be a private limited company, generating steady revenue. 

Here are five circumstances where debt can be an effective funding solution. 

  1. When you need to finance short-term business needs 

Lack of capital can hinder startups from making large purchases, ambitious campaigns, or even capitalizing on lucrative business opportunities. In such situations, taking debt funding can provide immediate relief to fund short-term needs. However, it is important to ensure positive returns from the investment made through debt to maximize its value.  

  1. When the business has just raised equity 

In the last couple of years, more and more startups are raising equidebt (combining debt with equity in a round) or raising debt shortly after closing an equity round. This gives businesses a chance to invest comfortably in growth across different areas.

This allows businesses to optimize the capital structure, allocate resources efficiently, and pursue growth opportunities with confidence. 

  1. When you have a predictable cash flow 

When a startup takes debt, there’s an obligation to repay the debt. Hence, it is ideal for slightly mature businesses that have a steady source of revenue. By leveraging debt against consistent cash flow, businesses can manage repayment schedules more effectively, minimizing financial risk. It allows strategic use of debt to enhance operations or capture growth opportunities without jeopardizing day-to-day financial stability.

  1. When you’re an asset-heavy business

For asset-heavy businesses, relying only on equity to raise capital is not a good business strategy. The capital expenditures will need to be funded through debt solutions. For instance, EV ride-hailing startup BluSmart took Rs 1200 Cr to finance the cars and chargers for its electric vehicles. 

“You need to see what is more expensive, whether debt is more expensive or equity. Equity is costly. You have to dilute capital, your stake, and raise equity,” Punit Goyal, Co-founder of BluSmart, said at LetsIgnite 2023. 

However, one must also understand that debt cannot replace equity. Startups must raise debt or equity depending on their needs and not raise them interchangeably.  

  1. When you don’t want to dilute equity further

Poor planning for fundraising can lead to over-dilution of equity stakes early. In such a situation, seeking debt to finance growth and operations will help maintain ownership and decision-making authority.  

This approach is particularly advantageous when founders seek to retain a larger share of the business within the company. This enables the company to make key decisions independently and retain more significant portions of future profits.

(LetsVenture offers pure-play debt funding through LV Debt. Know more.

Tenzin Norzom
LV Debt

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