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Why Startups are Turning to Non-Dilutive Funding to Fuel Growth

Updated: Nov 1

Non-dilutive Startup Funding

Taking the entrepreneurial plunge takes grit, a growth mindset, and perseverance to succeed on this journey. One of the most important job requirements of startup founders is being diligent about funding growth while also navigating the ebbs and flows of business.

Entrepreneurs kicking off the fundraising process in their startup's early stages find themselves navigating a complex number of growth capital solutions available to them.

Those who seek startup funding through traditional banks, for instance, find that banks are cautious of modern business models, particularly SaaS or software solutions that are subscription-based. From a bank’s perspective, it can be difficult to understand a startup’s growth potential and evaluate risk with business models they don't understand. VCs generally seek companies growing at more than 100% per year. It’s no surprise, then, that startup founders often get lost navigating the morass of funding that can help accelerate their business growth.

Startup Funding Options Differ by Growth Stage

SaaS companies tend to begin generating revenue and profitability much earlier compared to startups in other tech categories. Reaching revenue earlier in the product life cycle gives entrepreneurs the option to bootstrap, raise equity, or pursue non-dilutive financing.

Startup funding options by growth stage

Many SaaS startups are able to bootstrap to gain early traction. However, bootstrapping will only get you so far. At some point, putting off fundraising means limiting your growth.

The startup funding choices you make today will determine what you can and cannot do with your business in the future.

While angel and VC funding tend to be top of mind for early-stage companies, non-dilutive debt funding might make more sense at certain times in a company’s life cycle.

Debt Funding vs. Equity Funding

Taking on equity investors means giving them seats on your board and conforming to their expectations of how your company should grow; they can limit your control over the business you started, or, in the worst-case scenario, oust you from your own company. The cost and control components of taking VC or angel money too soonalong with the time required to fundraisemight not align with your goals at an early stage.

Startup founders are increasingly financing their healthy growing companies with debt to delay or forgo equity rounds.

What is non-dilutive funding?

Non-dilutive funding is startup capital that does not require entrepreneurs to give up equity and ownership. It includes many types of debt financing and grants. It's the opposite of dilutive equity funding, which requires selling an equity stake in the business in exchange for capital.

The non-dilutive debt funding model empowers entrepreneurs to reach their next growth milestone, bring on critical new hires, and get a better valuation—all attractive to VCs.

dbt Labs hired a world-class team of engineers and expanded its product offering to accelerate revenue growth using non-dilutive funding. It then raised 3 equity rounds, which included $150 million from VCs Altimeter, Sequoia Capital, and Andreesen Horowitz.

The benefits of non-dilutive funding for founders

Startup founders who raise capital through non-dilutive sources like revenue-based financingas opposed to VChold on to all their equity and aren’t forced to continuously accept venture capital while losing more and more equity as a means of pleasing investors.

For example, Lighter Capital's debt financing model is better than traditional debt rounds because the total cost of capital is fixed and your repayments flex to the business' monthly revenue, which makes it easier to grow and manage cash flows.

With revenue-based financing a company agrees to share a percentage of future revenue, typically 2% to 8%, in exchange for capital up frontup to ⅓ of its annualized revenue run rate (ARR). Loan payments are tied to monthly revenue, going up for strong-revenue months and down for low-revenue months. Eventually monthly payments come to an end, usually 1.35 to 2X the principal amount, a multiple referred to as the “cap.” Three to five years down the line, any unpaid amount of the cap is due if it hasn't already been paid in full.

A revenue-based financing round from Lighter Capital may be structured as follows:
  1. $500K loan funded on January 1, 2021

  2. 36-month term

  3. 1.4X cap ($700K in total payments, including $500 in principal and $200K in interest)

  4. Monthly payments equal 5% of net customer payments

The result is entrepreneur-friendly growth capital, where founders are able to maintain control and ownership of their company, without giving up equity, board seats, personal guarantees, or warrants.

And payments are flexible: the borrower only pays a percentage of customer cash payments, so they don’t suffer cash crunches. This debt structure enables startups to focus on business results without obsessing over cash flow or perpetually fundraising.

Once founders have paid back the initial loan, they can opt to raise additional revenue-based financing, turn to VCs, or tap into a tech bank to help them reach their next growth milestone.

Debt financing keeps future funding options open

Lighter Capital’s debt financing allows founders the optionality of pursuing different funding paths in the future, which is often not possible when founders take VC too early in their company’s lifecycle. As a startup grows and becomes more established, traditional forms of financingbank financing, angel/VC equitybecome more realistic.

With more options startup founders can:
  1. Raise venture capital later: Debt financing helps delay raising VC, but it also isn’t a barrier as it can help attract VCs and bolster valuations.

  2. Sell the business: Raising VC funding can eliminate a near term exit, since VC investors expect large multiples on their investments and may have veto power over a decision to sell the company. Raising debt places no limitation on the sale of a businessif the loan is repaid, entrepreneurs can do as they please.

  3. Continue running the business long-term: VCs and angels need an “exit,” usually in the form of a sale of the business, because they own equity. Debt financing does not require a sale of the business, since the loan is repaid over time, empowering entrepreneurs to keep their business for as long as they want.

Non-dilutive debt financing, and all of Lighter Capital’s revenue financing solutions, are safe growth capital options for startups at various life cycle, from moderate growth to hyper-growth.

Companies do not need to be profitable to qualify; in fact, most companies raising non-dilutive funding are burning cash.

Lighter Capital’s startup funding model fits companies that have raised VC, plan to raise VC later, or never to plan to raise VC.

Annual revenue growth Lighter Capital funded companies

Which is Cheaper: Debt or Equity?

For startup founders looking to finance company growth in the most cost-effective way, think about the true cost of capital that’s associated with each funding option; debt financing is almost always the cheaper option than equity.

If you want to run a capital-efficient business that will grow with you, and you only want to borrow what you need while preserving equity and control of your company, debt funding is often an ideal solution.

Take your company to the next level without giving up equity, board seats, or personal guarantees.

Apply today to connect with Lighter Capital’s Investment Team and we will reach out to share how we can help you achieve your growth goals.

A version of this article originally appeared on TechCrunch.

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