Four ways early fintech platforms can fund loans
For early fintech platforms, balance sheet lending may seem like the only option. If you're a seed-stage fintech, however, you should start learning about the mechanics of debt capital and convertible debt. Knowing how to raise debt capital quickly and effectively is one of the key distinctions between fintech platforms that succeed and fintech platforms that fail.
Please note that this information is not financial or legal advice, and that we recommend you consult with your investors and legal counsel about which option is best for you.
Here, we outline four key options you're likely to encounter as you grow as a seed-stage fintech startup, each of which has its own unique characteristics:
Senior revolving credit facility. A revolving line of credit provided to help fund new originations. This is generally the most attractive type of debt capital, as it’s flexible, most cost-efficient, and non-recourse in nature (i.e., if the startup were ever unable to repay the loan, the capital provider could take control of the loans, but would not have a right to the startup’s assets). As you continue to build a track record for your new credit product, you'll likely start attracting more legitimate interest from credit facility providers. For more information on what a debt term sheet looks like, check out Rohit Mittal's excellent post here.
Senior term loan. A fixed loan amount where repayment is required within set intervals or a defined maturity date (e.g., 3 to 5 years). For companies that qualify, it’s a fairly straightforward structure, and the intent would be to refinance with lower cost debt in the future. It's important to note that the loan is full-recourse in nature, and in the unlikely event that the startup fails to repay the loan, the capital provider has the right to foreclose on and sell the company’s assets to service the outstanding loan (similar to a mortgage provider foreclosing on a home). Learn more about the importance of loan recourse here.
Senior term loan with warrants. The same term loan structure as above, but offers the (venture debt) capital provider warrants that act similarly to employee stock options to purchase stock. This is a common feature of venture debt, and while dilution is never ideal, a combination of term loan and warrants presents a middle ground for dilution between pure debt or pure equity financing.
Convertible debt. A fixed loan amount with a scheduled interest rate that’s convertible into equity in the future. This type of debt is the most similar to equity (and actually behaves a lot like preferred stock that companies issue in their Series A). While dilutive, the loan is non-recourse and unsecured, meaning in the scenario that the startup does not repay the loan, the capital provider does not have the right to foreclose on the company and sell the assets. For more info on pros and cons of the convertible debt structure, check out Fundera’s blog post on potential use cases.