Capital strategy: the variable that startups forget to consider
Here's the dominant growth strategy for startups: you come up with a great idea, validate it with users and the market, and then scale up over time (by expanding into new geographies, product lines, etc.), backed by successive equity fundraises. That's a product-led strategy.
In other words, in that model, your capital strategy, or how you decide to fund your growth with equity and debt, is a consequence of your product strategy. If you're building, say, a smartphone app for construction managers, you plan capital needs/asks according to the product milestones you envision.
For many startups, especially those in software, equity is sufficient, and putting the product front and center is sufficient.
Raising solely equity has worked well for many companies in technology. But here's the thing: not all startups are pure software startups. In fact, as spaces like fintech and proptech grow more popular, it's likely that the share of startups that only raise equity will decrease.
What happens when equity's not enough?
The equity-only model just doesn't work for a growing chunk of high-growth companies, namely companies with capital-intensive business models. These companies are "rewarded" for product success and customer acquisition with an increasingly untenable capital structure and financial position.
It isn't just a matter of profitability. Plenty of companies start out unprofitable and are able to spend less on customer acquisition and "turn on" the profitability switch when they need to. It's that businesses that have both software/technology (high returns on equity) and non-software (lower returns on equity) components can and should fund their growth with a mixture of equity and debt.
Here are a few examples: a real estate technology startup that needs to buy properties in addition to creating software; a fintech lending app that begins by lending off of its balance sheet, but hits a wall (in terms of growth) when it runs out of money and needs to raise debt capital; a transportation startup that needs capital to purchase a fleet of vehicles.
How can startups raise debt capital?
The key takeaway here is that, if you face hard capital constraints early on, there are probably subtle ways to align your product strategy with those constraints rather than taking product strategy as fixed and backing into calculations for necessary capital requirements. Alternatively, you can take the more dramatic step of deciding on your capital strategy first. (We think this isn't a bad idea, to be honest.)
Regardless, as a startup founder, the question of how best to combine debt and equity finance is something you should take into account from Day 1.
As for how startups can raise debt capital, it comes down to having the right diligence information for debt investors, a specific debt capital structure in mind, and baking in 6-12 months of lead time for your actual raise. Debt capital transactions take time and expertise, and every startup has different needs.
If you're interested in learning more about technology that can streamline your debt capital raise and management, just request a demo of Finley here. We'd love to chat!