Venture Financing:

Step-by-step Guide

Selecting Type of Finance and Banking Relationship

Financing Your High-Growth Start-Up Venture

"A banker is a fellow who lends you his umbrella when the sun is shining and wants it back the minute it begins to rain" ~ Mark Twain

Debt or Equity?

By Silicon Valley Bank

  • You need both. Do not substitute one for the other.

  • Use each component in the right way:

    • Equity should be used in early rounds for R&D and product development and in later rounds, for ramp-ups in sales and marketing and acceleration purposes.

    • Debt should be used for working capital and to build the infrastructure.

  • Debt usually follows equity.

  • Debt is cheaper than equity but always keep in mind that the equity investors take greater risk, hence the potential for reward should be greater.

  • The sooner you establish a banking relationship, the better. It increases credibility and also creates a relationship for credit reference purposes.

What kind of banking relationship is appropriate at what stage?

  • Seed Stage: Deposit Accounts

  • Series A Funding: Equipment Lease Financing/Cash Management/Investments

  • Later Funding:

    • Working Capital Financing

    • Equipment Financing

    • Cash Management

    • Investments

    • Letters of Credit

Types of Venture Finance

Venture Financing Funnel    

Venture Financing: Key Documents

The funding package may contain various forms of finance. The three main types are ordinary shares ("equity"), preference shares, and loans.

Ordinary shares are proprietor's capital, and they normally carry full voting rights. They also carry the greatest risk and potentially the greatest reward, for two reasons. The first is that they are rewarded in the form of dividends after all other costs have been met. The second is that they are entitled to any surplus that remains after all other claims to capital have been met if the company is wound up. Certain classes of ordinary shares may carry deferred or preferred rights in certain respects.

Preference shares give their holders certain rights in priority to the ordinary shareholders, especially as regards entitlement to dividends and entitlement to repayment of capital if the company is wound up. They are normally rewarded at a fixed rate or dividend but may have rights to participate in profits by way of further dividend. Except in special circumstances, they do not normally carry voting rights. Sometimes, preference shares carry conversion and/or redemption rights enabling the holders either to convert their investment into ordinary shares or to realize it at a some future date.

Loans may be secured on the company's assets. In addition, they may be converted later into ordinary shares. They rank ahead of shares for the repayment of capital. The interest is at a fixed rate irrespective of the company's profits or losses and may be subject to periodic review... More

There are variations within each of these classes, and there may also be other elements in the financing package.

Timing your Financing

Most popular strategy is staged financing. This is a process of timing each stage of financing to coincide with the achievement of a significant milestone.

 

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