For UK technology and life sciences SMEs, growth is a high-stakes journey. IP-rich, but asset-poor, these businesses are quick to burn through cash while developing their groundbreaking innovations. Traditional funding - like bank loans - rarely fits as tangible collateral is usually lacking, while equity fundraising, although common, dilutes ownership significantly.

Enter venture debt and revenue financing: two powerful tools that fuel growth but with minimal equity surrender and collateral demands.

Venture Debt

Venture debt offers a lifeline. It’s a loan, typically from specialist lenders, designed for high-growth companies with strong IP and recurring or repeatable revenues, and with a strong venture capital investor (VC) in the capital structure. Unlike traditional bank debt, it doesn’t demand hard assets as security - lenders bet on the business model and growth trajectory while taking comfort in the VC backer’s support.

Repayments are also structured flexibly, often with interest-only periods, giving companies breathing room to hit key milestones. For a software SME scaling its SaaS platform, or a life sciences firm funding trials, venture debt can extend the cash runway post-equity raise, with dilution limited to small warrants (eg 1-5%), not the 20-30% ownership stake of another VC round.

Revenue Financing

Revenue financing, or revenue-based lending, takes a different tack. Lenders advance funds based on recurring revenue - think subscription income for software firms or milestone payments in life sciences - repaid as a percentage of monthly sales. It’s non-dilutive, with no equity surrendered, and scales with success as repayments rise or fall with revenue. This suits businesses with predictable contractual cashflow, offering flexibility to weather any R&D delays or market shifts without fixed debt burdens.

Benefits and Caveats

Both options empower IP-rich SMEs to fund growth, be it breaking into the black or a transformative leap in valuation - without giving up the reins. They can turn innovation into impact, keeping equity intact for the long haul.

But nothing in business is without its risks. Revenue financing could be expensive and lenders can be very narrow in what they consider fundable revenue - it must be contractual, regular and demonstrably recurring. A pre-profit business must be ready for the weighty interest expense that will potentially deepen cash burn, which then needs to be covered by equity or venture debt. Venture debt in turn relies on the cornerstone VC to support the business with additional capital in a downside scenario, which can be more dilutive than if the capital had been raised in equity form in the first place.  

Given the risks, it is essential for SMEs to be well prepared in both instances for funder scrutiny by having a business and revenue model - as well as USPs and financial projections - stress-tested by an experienced adviser. It is much better to be challenged by an independent expert with knowledge of funder requirements and practices, than to lose funder confidence, once already in the market, or to risk dilution from an unachievable financial forecast.

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Alexei Garan is a Partner - Business Funding at Shaw & Co

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