Venture debt is a key tool that has been used for over thirty years by entrepreneurs and equity sponsors to improve returns. The successful use of venture debt can enhance returns for senior management and investors by increasing the time between or eliminating equity rounds. Here is a list of some of the most common venture debt questions and answers.
Eastward’s venture debt products are similar to traditional bank debt where a company borrows capital and makes monthly payments. Unlike a traditional loan, Eastward’s loans typically provide a period of interest-only payments before principal balances begin to amortize. This interest only period allows the company to manage their cash balances.
The debt products offered by Eastward include Senior Debt (secured by all the assets of the company) or Senior Subordinated Debt (for example term debt which is subordinated to a receivable line).
Eastward’s loans typically include additional components such as warrants as well as the right to invest in future equity rounds.
Many companies evaluate the difference between venture debt and bank debt. The terms of the loans made available between Eastward and a traditional bank may be significant and should be carefully reviewed.
Eastward loan facilities are covenant light or do not include any covenants. After funding of a facility, the company provides Eastward with the same financial and operational reports provided to the Board of Directors rather than submitting additional monthly covenant compliance reports. Eastward also conducts quarterly discussions with Senior Management to provide further monitoring of a portfolio company.
Traditional banking facilities often include significant covenants, which the company must comply with and document on a monthly basis. Failure to remain in compliance with covenants can lead to greater control of cash balance or operations or additional fees to amend existing debt agreements. Typical covenants include cash covenants (significant minimum cash balances) or profitability/revenue covenants (minimum sales levels or profitability requirements).
Companies that are close to achieving financial and operating metrics including product introductions or enhancements, profitability or other financial metrics are attractive candidates for venture debt. The funds from a venture debt facility typically extend the period between rounds for 18-24 months, which may lead to improved valuations. In addition, companies approaching profitability may also benefit from venture debt as it may eliminate the need for additional financing rounds.
Eastward’s loan review process focuses on the value which has been created thus far by the company as well as understanding the future growth curve of the company. This approach is unlike that used in evaluating traditional bank loans where the lender focuses on the collateral and profitability of the company. As part of Eastward’s initial due diligence process, the team will review information including investor presentations, financial statements, and the company’s equity structure.
As a next step, the company will make a presentation to the entire Eastward team. During the presentation, the management of the company will provide the Eastward team with:
- An overview of the products, target markets and competitors
- Background of the management team
- Current and forecasted financial results
- Status or future timing of any fundraising efforts
- Discussion of the ultimate exit plans including potential acquirers
The ultimate goal of the review process is to fashion a unique loan product which meets the unique needs of the company.
The opinions expressed herein are those of Eastward Capital Partners, LLC (Eastward) and are subject to change without notice. This material is not financial advice or an offer to purchase or sell any product. Eastward reserves the right to modify its current investment strategies and techniques based on changing market dynamics or client needs. Past performance is not indicative of future results. It should not be assumed that any of the recommendations or characteristics discussed here will prove to be profitable, or that the investment recommendations or decisions we make in the future will be profitable.
Eastward Capital Partners, LLC (Eastward) is an independent investment adviser registered under the Investment Advisers Act of 1940, as amended. Registration does not imply a certain level of skill or training. More information about Eastward, including our investment strategies, fees, and objectives, is included in the Form ADV Part 2, which is available upon request.