Early-stage startups, rearing to develop, usually hit a wall in terms of elevating cash for his or her working capital wants. Unable to develop on their very own dime, most founders are dragged into promoting part of their stake to fairness buyers (fairness financing).
However quickly after the big-ticket offers have been sealed and champagne corks popped, actuality sinks in: The entrepreneurs are not the masters of the businesses they’ve created.
That is why, more and more, founders are choosing the enterprise debt route in India. Mid-stage startups are actually slowly gravitating in direction of corporations corresponding to InnoVen Capital, Trifecta Capital, and Unicorn India. They’re an alternative choice to fairness enterprise capital (VC) funds like Softbank, Sequoia Capital, Accel Companions, and Nexus Enterprise, which have dominated the startup financing sector for lengthy.
In line with knowledge monitoring agency Tracxn, 2017 noticed 27 rounds of venture-debt funding, amounting to $62.7 million (Rs439 crore), as in opposition to 26 rounds ($58 million) in 2016. Firms that raised such funds embrace Shopclues, BigBasket, and Swiggy. Over the previous two years, different outstanding startups like Snapdeal, Faasos, Portea, Freecharge, Practo, and OYO, amongst others, have additionally taken this path to develop.
Not like common VC investments made in return for shares in an organization, debt funding is a mortgage that doesn’t entail fairness dilution. It usually enhances fairness financing and is often structured as a three-year time period mortgage with warrants or choices for the corporate’s inventory.
The rising reputation of such funding is sweet information for startups which are usually not thought of creditworthy by banks as a consequence of a scarcity of collateral or profitability. They could additionally not wish to elevate funds in opposition to fairness at an early stage when their shares are value little.
Bengaluru-based InnoVen Capital is one such supply of funds. It has invested in over 110 Indian firms thus far, disbursing loans of $75 million to startups in 2017. Within the first half of 2018, it invested over Rs130 crore in follow-on spherical throughout 11 corporations, together with Power2SME, Chaipoint, Treebo, and Bizongo, a 350% leap from the earlier yr’s investments of Rs37 crore throughout 4 corporations.
Cheaper and higher
On account of the huge prevalence of fairness financing in India’s startup sector, a number of outstanding founders maintain little or no of their ventures. As an illustration, earlier than it was acquired by the US-based Walmart in Might, the 2 founders of India’s most-funded tech enterprise, Flipkart, owned simply around 5% each within the firm.
Enterprise-debt funding solves this downside.
“Enterprise debt offers the startup an opportunity to boost funds with out diluting fairness. It offers another supply for all money wants of a rising enterprise, permitting them to realize key milestones earlier than elevating a recent fairness funding,” stated Siddharth Talwar, co-founder and associate at enterprise capital agency LightBox. It may also be leveraged to choose funds at greater valuation with much less dilution, within the subsequent fairness spherical. LightBox’s portfolio firm Furlenco, a furnishings rental startup, has raised a number of enterprise debt funds prior to now yr.
As well as, enterprise debt is a tad cheaper—round 15%—than loans from non-banking monetary corporations (NBFCs) who cost anyplace between 18% and 20% as curiosity.
New to India
Enterprise debt funding has been well-liked in a number of different startup ecosystems for many years now. The idea first emerged within the US within the 1980s and gained prominence within the 2000s when corporations corresponding to Fb and YouTube opted for it.
Within the US, “the market is way wider with over $6 billion in enterprise debt,” stated Rahul Khanna, managing associate of Trifecta Capital. The enterprise debt market within the US is about 15% of the general VC market. In India, nevertheless, it has not been well-liked to date, accounting for simply between 2% and four%.
It is because the ecosystem continues to be younger, consultants stated. Now, because the trade matures, startups are getting ripe for enterprise debt alternatives.
“Debt funding will play an necessary position in a startup’s journey. Our portfolio corporations would require roughly $140-150 million in debt capital within the subsequent few years,” stated Sudhir Sethi, chairman of IDG Ventures.
Whereas it seems to be a safer funding possibility, consultants warn that enterprise debt shouldn’t be a substitute for fairness financing. For one, enterprise debt funds lend solely to these startups which are well-placed to boost a follow-on fairness funding.
Khanna of Trifecta Capital cautions that funds have to concentrate on the highest few gamers in any class to make sure that the funding is safe.
Dangers nonetheless stay, he says. “If an organization shouldn’t be in a position to elevate the subsequent spherical of funding, the funding can turn out to be a non-performing asset,” he stated. A living proof is the funding increase between 2014 and 2015 when indiscriminate funding created unrealistic valuations. Firms corresponding to Flipkart and Ola have been downgraded by brokerages on valuation correction in 2016 and 2017.