The Role of Debt in Capital Formation
Leverage. Capital preservation (can use available liquid funds for other purposes). Expanded impacts (if that is your focus) and financial profits. How, exactly?
Both ventures and projects typically rely on at least some debt capital (loans of various types — see below), especially while interest rates remain low, but projects typically rely on it more debt than equity, as there are physical assets with every traditional type of project that can be leveraged and secured via a pledge of collateral.
Startup venture funding, AKA venture capital, accepts more risk with the potential for proportionately higher returns. Greenfield project finance (what’s the difference?), by contrast, is more able to offer concessionary or “soft” loans, with interest rates close to the Prime Lending Rates that banks use. There is overlap between venture capital and project finance, in some cases — very open-minded project funding sources that are actually less risk averse than certain types of (mostly later-stage) VCs.
Debt capital is particularly popular and important in the current economy with affordable interest rates and favorable terms available to qualified borrowers. Not every venture relies on debt, but commercial credit and related instruments (such as revenue-sharing notes, or topline revenue contracts, for example) are important tools in forming adequate financial capital for reaching development targets.
Startup ventures typically rely more on equity investment, at least to start, and repay investors by building long-term enterprise value (based on increasing the company’s share price), and sometimes by offering dividends, but the goal is often to position the company to be acquired or to make a public offering, or in some cases, for shares to be “redeemed” or repurchased from investors. These “exits” are what venture investors use to gain liquidity (earn back their investment). Otherwise, there is generally no market for early stage (private) equity.
Types of debt: construction (short-term) loans, senior debt (long-term as 3 or more years), subordinated debt (sub-debt takes second position to senior), mezzanine debt (a kind of sub-debt, or as preferred shares; more), convertible debt (aka quasi-equity, usually with more flexible repayment terms), revenue contracts (a hybrid of equity and debt; more), lines of credit (more common in structured finance, or trade finance), standby letter of credit (SBLCs, a bank instrument that can serve as a guarantee). Ask us what might be right for your situation.