By John McCullough, Director of Business & Corporate Development at OpenView. As either a key source of minimally dilutive growth funding and / or runway between equity financings, debt is an important component of the capital structure for many VC-backed startups. Whether you’re raising your first credit line or have been working with the same lender for years, it’s important to understand how to compare venture debt offers (in very general terms, we’ll define venture debt as term financing with durations of between 3 and 5 years), either from less risk-averse venture debt funds or more conservative banks. While not exhaustive, here are 10 items to compare across competing term sheets that should, to some extent, be up for negotiation.

1. // financial series
10 Ways to
Borrow Wisely
Criteria to Help You Compare
Venture Debt Term Sheets

2. John McCullough
Director of Business
& Corporate Development
As either a key source of minimally dilutive growth funding and/ or
runway between equity financings, debt is an important
component of the capital structure for many VC-backed startups.
Whether you’re raising your first credit line or have been working
with the same lender for years, it’s important to understand how
to compare venture debt offers (in very general terms, we’ll define
venture debt as term financing with durations of between 3 and 5
years), either from less risk-averse venture debt funds or more
conservative banks.
While not exhaustive, here are 10 items to compare across
competing term sheets that should, to some extent, be up for
negotiation….

3. 1. Loan Size
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4. Loan Size
What sort of turn on revenue or earnings is
the lender willing to give you? It may be
more than you need, or less. Sizing often
ranges from ~20% to 100% of the most
recent venture round.

5. 2. Interest Rate
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6. Interest Rate
Not only the initial rate itself, but whether floating or
fixed. A lot of term sheets these days propose a spread
to prime rate, which is obviously variable; if floating,
understand both the reference rate and the spread. Also
be sure to know if there is a minimum (aka “floor”) rate
as part of the variable construct. Currently, banks tend to
hover around 5-8% total rate, while more risk tolerant
venture debt firms are more often in the 10-14% range.

7. 3. Interest-Only Period
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8. Interest-Only Period
Given the cash-burn profile of many startups,
lenders are willing to forgo principal repayments for a
period (broadly speaking, in exchange for upside via
warrants, higher collateral, or in other ways); this can
range from roughly 0 to 18 months depending on the
lender and profile of the business.

9. 4. Term / Maturity Date
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10. Interest-Only Period
For obvious reasons a longer term may be
more desirable, and they generally range
from 36 to 48 months.

11. 5. Warrant Coverage
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12. Warrant Coverage
Usually expressed as a percentage of the loan size,
warrants represent the right of the bank to purchase
preferred equity shares in the business — usually at
a share price equal to the lower of the most recent
equity round or the next equity round. If included,
coverage can run from a few percentage points with
banks to as high as 10 to 15% with venture debt
funds.

13. 6. Unused Facility Fee
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14. Unused Facility Fee
Often banks will charge a fee on the unused portion of a
credit facility (if you’ve chosen to use a revolver in
addition to the term loan) as compensation for keeping
the line open and assuring the borrower the funds will be
there in the future at the stated contractual rate
regardless of market conditions. It’s generally expressed
as a small percent of the facility size and paid monthly or
quarterly. These fees range from zero to a few
percentage points.

15. 7. Pre-Payment Penalty
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16. Pre-Payment Penalty
Term sheets may request none, or may lay out a
detailed waterfall whereby the penalty, as a percent
of the loan, steps down incrementally as the pre-
payment date moves closer to the maturity date (i.e.
from 3% for first 12 months, to 2% in the second 12
months, and so on); typically you should expect to
see 1-3% of principal. In some cases all future
interest payments may be accelerated.

17. 8. MAC
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18. Material Adverse Change
A material adverse change clause allows the lender to
call a loan if they deem a material change (i.e. something
unpredictable) in the business to have taken place that
renders the company unable to repay, or more generally,
significantly increases the risk assumed by the lender.
Simply put, you’d rather not be subject to a MAC clause
— but if you are, the goal is to narrow the scope of the
clause to the extent practical.

19. 9. Covenants
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20. Material Adverse Change
While venture debt providers don’t usually require
covenants, the more conservative bank lenders will
often propose a minimum liquidity covenant (the
dollar amount of working capital) and / or trailing
EBITDA profit / loss thresholds that are tested
quarterly; while not ideal, if the covenants are easily
met than this may be a more acceptable ‘give’ than
higher debt costs and other unfavorable features.

21. 10. Other
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22. Other
Board observer seats, rights to invest in
subsequent equity rounds, requirements to
keep primary depository and operating
accounts with the institution (in the case of
banks only) may also appear on term sheets.