Founder-Friendly Co. Financing

Securitization of recurring revenues to help companies access upfront growth capital without debt or dilution.

Debt has a negative connotation attached to it. Yet, growing up in a business family, I saw my family businesses leverage mostly debt to finance our business operations so that we would retain 100% ownership of the firms. However, I understand debt’s shortcomings too and it can have serious implications because of the personal guarantees involved. In fact, recently in India the Supreme Court has ruled that creditors can proceed against promoters of defaulting companies to recover the debt if such promoters have given personal guarantees to secure funds. Until now (2021), we often heard of big business houses declaring bankruptcy/insolvency while the promoters continued to enjoy lavish lives overseas. This was possible under the Insolvency laws, as the promoters could continue to hold on to their personal assets, while the heavily-debt burdened companies they ran were declared bankrupt. With the new ruling, even the personal assets of promoters come under scrutiny. This rule alone is going to disrupt debt as an industry in India. While this rule will address corporate corruption in a big way, debt will find startup entrepreneurs to be elusive more than ever. Capital is a commodity and today in India, it’s free-flowing given Big Tech’s recent investments and Jio’s growth story. 

At the early stages, pre-seed to series A, when all odds are stacked against you - why would any reasonable entrepreneur want to take on legal liability to be held responsible if and when the venture fails? Equity in these circumstances is your best bet forward. However, equity comes with its evil twin - dilution. VCs, by design, enable dilution through equity, even if it’s not the best outcome for the founders..and for that reason, founders of unicorns are often left with single digits or > 20% of their own company. 

Often now, you hear about equity + debt combination fundraises, this has started to become a norm in the ecosystem now as it makes complete sense to finance the growth side of your business through equity but finance working capital and fixed costs via debt so as to bring down your overall cost of capital. The cost of capital is usually never spoken about because that’s how it works in the favour of those controlling the capital. VCs and lenders have been able to dominate financial capital and choose favourable terms for themselves - because for them their investors (LPs) are their customers and the startup/entrepreneur is the product.

However, there is a new wave of founder-friendly capital on the block - especially applicable to companies with any form of recurring revenues (think SaaS, subscription businesses etc). As an entrepreneur and investor, I’m most interested in it for one BIG reason: this model will help founders access capital without debt or dilution. It may sound too good to be true, but the change is here to stay & it’s going to be EXPLOSIVE. Companies like Pipe, Capchase, Clearbanc, Uncapped are some startups already executing it at a decent scale - but this market is HUGE & we’re literally just getting started on Business Financing 2.0.

WTF are you talking about, Shrishti? Let me explain :)

How this model works is through the securitization of recurring revenues. If that sounds too schmancy, don’t worry - I got you. :) Securitization is a process by which a company clubs its different financial assets/debts to form a consolidated financial instrument that is issued to investors. Essentially, the way this model works is that you take the receivables of different companies, pool them together, and sell it as fixed-income instruments to institutional investors. The debt market runs in trillions $$$$$ (in comparison the equity market is a tiny drop in the ocean), & these institutional investors are always on the lookout for more ways to get more fixed-income instruments. 

You might say that I sound crazy! How the hell does revenue become a fixed-income instrument? 

That’s the beauty of this model! SaaS and Subscription businesses have recurring revenues charged monthly, quarterly or annually. If you think about it, you know the annual contract values, the churn, retention etc & basically you can predict with a high level of certainty how the financials will pan out. Now the problem that most founders face is that most customers want to pay monthly rather than annually - because of which when fundraising the founders have to discount the value of their annual contracts sometimes by almost 40-50%. With this model, companies can basically access the annual contract value UPFRONT - so it converts their Monthly Recurring Revenues (MRR) into Annual Recurring Revenues (ARR) - and the companies get access to growth capital upfront which they can use for expansion of their businesses. As an example, think of Netflix - now Netflix charges each user INR 199/month -- what if Netflix were able to access a user’s annual value which is roughly INR 2400 upfront to use for further user acquisition and growth? INR 2400 upfront might not sound a lot, but when multiplied by millions of users - it’s SIGNIFICANT growth capital, even for Netflix. Now just extrapolate that to any startup that has raised Series A + financing, wouldn’t this be a much better way to get access to capital for them? In return, companies get to retain more ownership of the business, dilute much later and lesser.

This new method of company financing is REVOLUTIONARY. Any company after Series A till the IPO stage can benefit immensely from it. While it won’t replace venture, it will become the new way founders supplement their VC rounds to dilute lesser, as they have this upfront growth capital available to them.

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