The rapid growth of the SaaS industry over the last two decades has created a demand for more funding options. As SaaS companies mature, the equity-based models for capital-raising such as angel funding or venture capital are not always a good fit.
This article provides a summary of the pros and cons of debt-based capital raising, when it can be advantageous, and where to start researching commercial finance brokers.
Debt vs Equity
Equity capital is money invested into a company in exchange for stock, with the idea that as the company grows, the value of the stock increases. Popular sources of equity funding include family and friends, angel investors, and venture capital (VC) firms.
Debt capital on the other hand, refers to money that is borrowed by the company as a loan, with an agreement to pay it back over time at a specified interest rate. This kind of capital is provided by lenders like banks and loan brokers and usually requires a high-level of certainty that the debt will be repaid.
Pros and cons of debt-based raising
The biggest advantage to raising capital through debt is that the owners and early shareholders retain ownership and control of the company, whereas equity capital requires a trade-off of ownership. In addition, the total cost of the borrowed capital over time can be significantly lower (for instance, repaying the loan plus interest can amount to far less than the loss of a large percentage ownership).
On the down side, debt capital is usually not available to early stage startups because there is too little certainty over the company’s ability to repay the loan (they are still searching for a viable business model). For the same reason, the amount that a SaaS company can borrow will be limited by their predicted revenues in the short to medium-term, and this amount may not be adequate to fund aggressive growth. VC funding, however, can be raised according to how much capital the company needs, rather than how much it earns.
It must also be noted that debt equity comes without the value-add that often comes with angel or VC funding (i.e. the expertise, experience, connections, or assets of the investors).
When is debt better than equity?
The need for predictable revenue (and therefore reliable loan repayments) means that debt capital is more suited to scaleups than startups. This means companies that already have a proven business model, market, and customers. The subscription model common in SaaS software companies (i.e. recurring revenue) can make them highly suited to debt-based capital raising once they have proven they can retain customers and achieve stable revenues.
How to find a commercial finance broker for SaaS investment
Technically a SaaS company can approach any lender to be considered for a loan, but there is an increasing number of SaaS-specific lenders. These industry-specific lenders are in the best position to understand your business model, compared to institutions who are used to dealing with more traditional companies with traditional assets.
They are also more likely to guide you towards the milestones that will make your SaaS company more robust.
If you want to learn more about specialist SaaS lenders, visit the following websites and see how these commercial finance brokers operate and how they can add value with their expertise.
Is debt right for your SaaS company?
Debt-based capital raising through a commercial finance broker can provide real advantages for SaaS companies who are established with predictable revenues, and need funds for further growth. It allows founders and early investors to retain ownership over the company, and control over decision-making.
Commercial finance brokers (even SaaS specialists) are not always the right source of funding, however, and they are less likely to fund early-stage startups, or companies with a less predictable revenue model. These companies have a different risk-reward equation and are a better fit with equity-based investors who seek ownership as a reward for taking on more risk.
What do you think? Leave us your comments here!