Business, Finance, Scale-ups; Start-ups

New and emerging debt products for CFOs

30 March 2023  |   9 minutes read

In a previous post, we assessed why the possibility of down investment rounds mean debt funding is now a more appealing option. We also analysed how to maximise your chances of accessing debt facilities.

Naturally, standard-term loans remain one of the most popular forms of debt finance. But the last few years have seen the development of a new range of debt products. These developments are driven by technology and lenders using previously unobtainable data points.

Depending on your sector, business model and maturity, you may be able to access specialist debt products. These give you enhanced flexibility and/or which may be cheaper than standard loans.

Venture debt

Venture debt is a specialist product only accessible to high-growth companies. In the current uncertain economic environment, if you are venture capital-backed, this could be an excellent bridging option before your next equity round when favourable market conditions may return.

It allows you to retain equity while still accessing funding to support growth ambitions. Over the long term, it could be cheaper than selling shares.

Providers are commonly banks specialising in venture lending. In the UK, this includes Kreos Capital and Columbia Lake Partners.

The duration of venture debt loans is relatively short. Around one to three years. Values of loans are often capped at around 30% of the amount raised at the last funding round. For example, a company that has raised £100m could borrow up to £30m.

Given its high-risk nature from the lender’s perspective, venture debt interest rates are relatively high. Ranging from 12%-15%.

Lenders will likely get you to agree to a warrant to protect themselves, giving them the right to acquire a portion of equity at your current valuation. This gives them some upside as it can be exercised if your business increases in value and there is a liquidity event such as an IPO.

Revenue loans

Revenue loans differ from standard loans as the amount you pay back each month is variable. The repayments’ value depends on the agreed percentage of sales revenues in the period, with this rate lasting for the duration of the facility.

Seasonable-based businesses favour revenue loans due to their flexibility. For these companies, a revenue loan will mean higher repayments are due in busier periods and lower repayments in quieter ones.

For example, most e-commerce based businesses will complete the bulk of their sales in the run-up to Christmas, so will have higher repayments during the last quarter.

One of their main benefits is that they help ease cash flow. Providers may require you to pay a fixed fee of around 10%, but if you ask, they’ll often let you add this to the total amount borrowed to access the full finance needed.

The duration of revenue loans isn’t set. It will depend on future sales. The higher your sales, the shorter the arrangement. When considering if a revenue loan is the right debt product for you, put together a repayment schedule with your forecast sales figures to estimate how much it will cost you.

Merchant cash advances

Merchant Cash Advances (MCAs) are a variant of revenue loans only available to bricks and mortar retailers.

Businesses are given card terminals and repay loans based on the value of sales taken through this method. Lenders can access real-time visibility on sales by accessing data directly from the terminals. Which makes administration relatively easy.

The pandemic has led to a shift away from cash to cards. And contactless MCAs are becoming an increasingly attractive debt financing option. Advances can be up to around 150% of monthly card sales.

Flexi loans

Flexi loans are technology-powered overdraft facilities where you only pay interest on the value of funds being drawn upon. These types of loans are capped at around £500,000.

Providers like iwoca and Fleximize allow you to make applications online. Credit decisions rely on data extracted from your accounting software. Successful applications can result in funds being accessed on the same day.

Given their short-term nature, APRs seem steep at around 40%. However, this will be much lower in reality as you should only draw down on limited values for short periods if flexi loans are the right product for you.

They can be helpful to have in place if you are likely to face a short-term cash gap. And providers will often let you top up the value of the facility once borrowed funds have been paid back.

Seek out providers that offer no early repayment fees, as this will drive down the cost of funding.

Invoice financing

Invoice financing lets you access funding for your unpaid invoices. As well as easing cash flow, this form of financing saves significant admin time as staff don’t have to use precious resourcing chasing invoices.

Lenders usually provide up to 90% of the value of invoices upfront, with the balance being paid out when they are settled. Fees are charged at around 3% on the value of invoices.

Some lenders will require you to use them for your entire debtor book. Whereas others will let you pick vendors and invoices on a selective basis. Picking invoices on a selective basis may be more costly on a per-invoice basis. But overall can work out cheaper if you don’t require significant funding.

Invoice financing in the UK is available from well-known banks, including Lloyds and specialist and online lenders, including Close and Kriya.

Access finance soon to beat rate rises

Over the last 18 months there have been several interest rate hikes, with the Bank of England base rate rising to 4% in February (and rising again last week).

To avoid the possibility of financing costs increasing further you may want to lock in your debt financing now to access the best rates, whichever product you pick.

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