The current startup funding environment is predominantly VC-model driven i.e. investors make money only if they are able to sell the equity that they hold in a startup to someone else – usually investors in subsequent rounds - at a substantially higher price. Success therefore is measured largely by a startups ability to raise multiple rounds, else even if the business becomes profitable investors make no money unless there is an exit.
While a few startups can, and do, provide healthy exists to investors, there is a significantly larger number of startups that can become profitable, healthy businesses but may not be able scale massively and hence will not be able to attract Venture Capital.
Businesses that may or may not scale massively but will be able to service capital from their cash flows currently have limited options to raise any form of capital. For such companies, Venture Debt – collateral-free loans - is an alternate to Venture Capital.
While debt is available today too, all Venture Debt investors currently focus on growth-stage ventures. Since equity-funding has taken centre stage in India, seed-stage venture debt is an ignored segment - one for which the timing is just right.
Venture Debt allows startups to get started without diluting equity at the start, and also allows them to grow without the pressure of scaling up aggressively, often unprofitably, just to be able to be relevant to attract venture capital.
The Venture Debt model also allows HNIs to co-invest in startups without the typical risks associated with startup investing. The investment is deployed as collateral free debt in startups that can quickly become profitable businesses and provide handsome interest on the capital deployed, whilst allowing investors to benefit from the opportunity of a multiple times return on capital if the startup attracts follow-on venture capital or is acquired.
Very soon, Venture Debt will be available in India for early-stage businesses that have the potential to become profitable quickly. Watch this space.