Control Dilution Part 4
This is a 5 part series of suggestions to help founders identify ways they can sell less of their company while still building a great one.
Quick PSA: all these suggestions have tradeoffs associated with them. Decisions around this topic needs to be evaluated in the context of your specific company/situation and your profile for risk.
Controlling Dilution by Raise Debt instead of Equity
There are other sources of funding besides venture capital.? Use them to control founder and employee dilution.
Debt basically means you’re raising money from a bank/financial entity that will loan you money that you will have to pay back in the future. However, you can use debt to finance growth of your company instead of or in addition to having to sell equity and increase dilution. This is an intuitive concept but a somewhat uncommon path for venture backed companies so I find it to be something a lot of founders sometimes overlook.
The general trend and advice I’d give is to create a mixed source of capital as you raise money and grow your company and (potentially) lean heavier on debt as you grow the company's revenue over time. This may mean that in your series B round, for example, you raise 20 million in equity and 5 million in debt and get to announce a 25 million round but only have 20m of that round be equity based dilution. In your C you might have a higher percentage debt than your previous round. As you grow your revenue (especially recurring revenue) your risk as an entity to loan money to goes down and the rate you can get the money loaned to you becomes more and more preferential.
Depending on the investor, they may not encourage your company to do this for various reasons. The self serving one tends to be that they would rather you let them buy more of the company via equity though they often won’t share this as a core reason. Therefore, founders without previous experience with debt may not even evaluate debt as a potential funding source if they think it will upset their existing investors. But I’d advise to always consider it, especially at later stage rounds, to effectively fund the company and reduce dilution.
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Tradeoffs: Simple: you have to pay this money back and the more debt you have on the books, the more gets taken out of a potential future acquisition that needs to be paid back to the bank. You also have to pay money annually or quarterly to the bank so this type of funding can be “expensive” from a cash flow perspective depending on the terms you get.
Founder at Levo.ai | Helping Enterprises proactively secure their apps and APIs
11 个月Thanks for writing this Andrew Peterson Adding to my holiday reading list.
Account Executive at GuidePoint Security
11 个月No one would own a house (minus the top .05%) without debt. Too much is risky, not enough holds you back. When money is cheap, there's not a better source, just remember that high leverage can turn to junk. As Grandma always said, everything in moderation ??
Founder @bugcrowd && @disclose_io | Hacker, Entrepreneur, Executive, Advisor, Investor
11 个月One thing here which works for early stage companies as well: ALWAYS ALWAYS ALWAYS raise a debt line off the back of any VC-lead round (especially priced equity, it’s easiest to do in that scenario). Even if you don’t end up using it, you can negotiate the cost of maintenance of the line down most effectively the day of/after announcement of a formal closing (i.e. when you need it the least).
M&A and CFO Advisory | Goldman Sachs | McKinsey
11 个月Great post. Would also note that even in early stage rounds it makes sense to augment the equity raise with venture debt to extend runway. This means your next raise can be at a (later) higher valuation. As Andrew Peterson noted debt gets painted as “bad” because it is more complex and can be mismanaged without proper finance support.
General Partner at CRV (Charles River Ventures)
11 个月You need to watch for the covenants though ??