Worked Example: Rs 2 Crore of Venture Debt vs Rs 2 Crore of Equity

Let's say there is a hypothetical startup that is looking to raise a Rs 2 crore. It has two choices: it can raise the amount via Venture Debt or through an equity investment at Rs 10 crore pre-money valuation.

For the venture debt option, let's say that the interest rate is 15% per year for 24 months, with the first 6 months as an interest-only period and the last 18 months as principal-only payments. The processing fee is also 1.5% of the amount and the facility comes with a 10% warrant of Rs 20 lakh, based on the last round post-money valuation of Rs 40 crore.

Based on these assumptions, the interest accrued on the venture debt facility is around Rs 38.75 lakh, excluding any processing fees of Rs 3 lakh. The total cash cost will be around Rs 41.75 lakhs in two years.

A warrant component is an extra possible expense. The 0.5% warrant stake would be valued at about Rs 50 lakh if the company eventually achieves a Rs 100 crore valuation. In this alternative funding scenario, the stake of equity issued is 16.67% and it would be valued at around Rs 16.67 crore at the same valuation.

In the illustration, debt can help to keep founder ownership. But it is not necessarily free of risk and not necessarily less expensive. The company is obliged to meet its repayment commitments whether or not it meets its growth goals or closing its next fundraising round. Equity investors, on the other hand, bear the negative consequences of the company.