17 ms·

Debt is coming to the tech industry

541 points by jger15 7y ago

ghastmaster 7y ago
Debt is dumb. The childish glee coming from this author should be ignored. 2008 is coming again soon and debt holders will suffer. Please get/keep your financial house in order. Business debt is just as dangerous as personal debt.
- dnadler 7y ago
  Debt is a very useful tool for raising capital. It is a way to raise money without selling ownership, and is often the wiser choice. It all depends on the situation. Blanket statements disparaging (or encouraging) debt without regards to the situation are dumb.
- shin_lao 7y ago
  Debt is one of the financial tools at your disposal. Properly used, it's extremely powerful.
- sykick 7y ago
  When you say, "Debt is dumb" are you speaking in hyperbole? There are lots of examples where debt is not dumb and is in fact the prudent thing to do. If you aren't speaking in hyperbole you are wrong and if you are I suggest that in this case you shouldn't. Your overall point appears to be that a repeat of 2008 is immanent and this point can be better made without the "Debt is dumb" first sentence.
  - deleted 7y ago
    [deleted]
  - ghastmaster 7y ago
    It certainly was hyperbole. There are obvious situations where debt is not dumb. We live in a time where the vast majority of debt is not used for those obvious critical situations.
- ryanlol 7y ago
  >Debt is dumb. This attitude is dumb.
- kevingadd 7y ago
  How do you propose solving problems like "buy a house" and "buy a car" without debt? The average person who needs to drive to work has no way to buy a car in cash, at least not early on. If you drop all your savings on a new car and suddenly end up with a hospital bill, that car isn't going to pay for it. I say this as someone who had enough saved to buy a car in cash: Buying it via a loan was the right choice. It boosted my credit rating and more importantly when emergencies came up I had that cash on hand.
  - zepto 7y ago
    Agree with you - although the part about boosting your credit rating, although true, is a scam.
  - Psyladine 7y ago
    Rent, and, 'cars are bad'. This is written from an urbanist perspective. If you mean it can't scale, well, yes, its target is silicon valley devs. Either rich enough where it doesnt matter, or poor enough where it doesn't matter.
  - ghastmaster 7y ago
    Look up the word "savings". It is possible to rent a cheap apartment, buy a used car, and wait until you can afford better things. Obviously some people are going to run into financial difficulties if they have unexpected extraordinary bills. The vast majority of things in life are however, expected. Nothing is new under the sun. The overwhelming debt of the world increases costs. Additionally, debt temporarily tricks most people into thinking they have more than they actually do. I think more people would be interested in working harder for better jobs or opportunities if it wasn't so easy to get whatever you want by signing a piece of paper.
    - kevingadd 7y ago
      How do I rent a cheap apartment and buy a used car without a job? The job I need a car to drive to? What am I supposed to save, exactly? The allowance I get from my presumably rich parents? In my case, my first job (at 14) required getting a ride to from a coworker with a car. Getting to university for my job working in the computer lab + my courses required either a car ride from a neighbor or 3 hours on the bus. After I moved away for my first salaried job, I needed a loan (thankfully a personal one and not from a bank - both of which are things many people don't have access to!) to cover my first month of expenses so I could move and actually start getting paid and building measurable savings, since the move already exhausted the savings I had left over after uni. Money doesn't come out of thin air. Not everyone starts their working life with access to enough money to just buy a car (even used!) and rent an apartment.
- axegon_ 7y ago
  > 2008 is coming again soon I have no idea why people __LOVE__ making these statements. 2008 was something that affected mostly the US and while it affected the rest of the world to a certain degree, overall very little changed. Before jumping on my throat, hear me out: There have been several significant financial events since then: the European debt crisis, then Portugal(which is relatively small on a global scale), same with Ukraine and Venezuela, Russia(still going 5 years later), Brazil and those are just off the top of my head. What I'm trying to say is that financial crisis occur almost every year. Keeping your finances tidy is a good life advise but prophecies shouldn't be the motivation for it.
  - onetimemanytime 7y ago
    >>I have no idea why people __LOVE__ making these statements. 2008 was something that affected mostly the US and while it affected the rest of the world to a certain degree, overall very little changed. US is back on top. How's Italy, Greece, Spain etc doing?
    - hobs 7y ago
      I dont know why this is downvoted - the EU implemented austerity and it took a gigantic chunk out of its economy in the last ten years - why is this controversial? Spain's growth rate has been what, 0%? Greece is totally screwed, and there's a strong set of evidence to say Brexit was a direct result of the 2008 crisis (because they pushed back so hard on austerity.)
      - axegon_ 7y ago
        > there's a strong set of evidence to say Brexit was a direct result of the 2008 crisis. Nah. The only selling point on the referendum was immigration. The only one people really cared about anyway.
        Wildgoose 7y ago
        A lot of people cared about Democracy and the ability to hold the politicians we elected accountable for the decisions that were made. Mass immigration was important, but it wasn't the only factor.
- kaliali 7y ago
  Debt can be useful to quickly get capital to grow a business. The problem is that everyone is competing to grow their business faster and so the amount of debt steadily climbs faster and faster than being able to pay the interest. New businesses who gather debt in a more controlled way will look like they aren't growing as fast (if loans were the primary source of funding) and they are quickly left for the companies that grow fast. Luckily, VCs take responsibility with their investments and make it possible for a new business to not need to go into crazy amounts of debt. Eventually, so much debt will be accumulated that companies will not be able to pay off the interest and the bubble pops. If everyone is always in debt, there will always be a periodic crash.
- sbmthakur 7y ago
  Debt is not dumb. Managing your debt in a bad way is dumb. You may want to see the following illustration by Ray Dalio about how debt complements the economy: https://www.youtube.com/watch?v=PHe0bXAIuk0 https://www.youtube.com/watch?v=PHe0bXAIuk0
- satya71 7y ago
  Finance 101: debt is cheaper than equity. Arguably in today's model it's actually less risky than equity for the founders.
- jariel 7y ago
  "Business debt is just as dangerous as personal debt." They are barely related to the point they should probably even be called different things. Business debt is to buy equipment to make stuff to sell at a profit. Personal debt to buy a nice boat.
  - ghastmaster 7y ago
    The end goal is the same. The boat. I see no difference.
kevingadd 7y ago
Aside from the other conclusions and assertions in this long article, this particular bit resonates with me: "Here is a widely believed cause-and-effect relationship I bet you’ve never thought to invert before: because most startups fail, therefore equity is the best way to finance them. Have you ever considered: because equity is how we finance startups, therefore most startups fail?" At the very least, this lines up perfectly with my startup experiences and many other case studies I've seen - investors simply are not willing to accept reasonable growth or reasonable returns, they want massive scaling and massive growth. Sometimes that approach works out but very often you get expensive bets that never deliver on the level they need to and the startup flames out or ends up stuck constantly trying to clean up the mess left by the last big bet while trying to execute on a new one. A revolving door of new executives and new business strategies.
- asah 7y ago
  Meh, straight debt (not convertible) isn't available to risky startups. The venture debt industry depends on tight relationships with VCs to ensure reasonable repayment rates. In some cases they reduce risk by reselling part of the debt. In all cases, they're themselves leveraged, lending money from limited partners and not just themselves.
williesleg 7y ago
I love this kind of Hacker News! I come here to learn about solving the problems of the world, not learning about the new Intel chips. Yay Hacker News!
debt 7y ago
I’m already here
- christiansakai 7y ago
  Lmao
- selimthegrim 7y ago
  The call is coming from inside the vault
Yetanfou 7y ago
Debt is like medicine: useful to cure certain conditions but nothing to be burdened with your entire life. Once the condition is cured the medicine is no longer needed. It is also like medicine in that it has a tendency of ending up being worse than the condition it was meant to cure when taken irresponsibly or in too large a dose. There's another way in which debt resembles medicine: those who sell it are wont to sell it as widely and at as high a price as possible, no matter whether it is the right medicine for the condition at hand. When used responsibly debt can be a net positive. When allowed to run amok it is a burden upon society. Maybe debt, like medicine, should only be allowed to be taken with a prescription?
- _yhdy 7y ago
  Very good comment
- sokoloff 7y ago
  I agree with everything except the last line (and I suspect that’s where your downvotes are coming from). The CEO/CFO should have the freedom to self-prescribe, IMO. In that regard, debt might be more like food. Some businesses have a chronic need for debt and can live quite fine with a lifetime of healthy debt usage.
- tchaffee 7y ago
  I don't love this analogy because a healthy person doesn't need medicine. If you can make something for $1 and sell for $2, it's very healthy for a business to take on debt in order to make more of those things. Which is why debt is a normal part of many healthy businesses.
- UncleEntity 7y ago
  > Maybe debt, like medicine, should only be allowed to be taken with a prescription? Isn't it though, really? The bankers determine your "need" and price it according to the risk of you defaulting -- which would seem to put a kink in TFA's argument since most startups fail, the interest rate would be astronomical if true risks were priced in.
  - 7y ago
pge 7y ago
“Debt helps you grow faster; debt helps you die faster.” - someone said this to me early in my career and it has stuck with me.
- himaraya 7y ago
  Ditto for equity
  - looping__lui 7y ago
    ?
    - corford 7y ago
      Sky high valuations that limit your options/exits, potentially pushing your company down a path it shouldn't take.
      - looping__lui 7y ago
        ... based on false and unrealistic promises? When did the discussion about “financing structure” become a discussion on ethics? Or are you already taking the “bullshit business hockeystick promises” as a “given in the industry”? Why are fraudulent business practices the first thing that come to your mind? If you told me about WACC and how equity is like actually really expensive way of financing: ok, I get it, some cool discussion on a provocative questionmark. Kind a telling on the industry in a sense :-D
    - caspper69 7y ago
      You can't maintain anything for free; everything has a carrying cost-- even cash in the form of depreciation. Use it or lose it as they say.
      - samsonradu 7y ago
        Not everything depreciates over time, does it? Looking at housing in many hot markets or at collectible watches fe.
juped 7y ago
Debt financing would be wonderful (note to non-business-savvy readers: this is not even remotely the same kind of thing as personal credit card debt or whatever other completely unrelated thing is making you sanctimoniously kneejerk that "debt is bad". Can we please have an informed discussion of debt as a part of a business capital structure?) for software businesses, which have very predictable capex costs. The issue was always that bankers don't want to lend for, basically, cultural reasons. When it actually starts becoming possible and there start being standard diligence scripts, etc., it will be much more favorable than equity financing for basically anyone who can get it.
- zozbot234 7y ago
  How does debt help deal with "very predictable capex costs"? You would need very predictable revenue to make it work, otherwise equity financing seems like it might be preferable.
  - juped 7y ago
    Debt financing generally makes more sense for capex, not opex. Servicing the debt becomes an opex, basically, so it would be weird to finance opex out of it.
- wongarsu 7y ago
  I don't think it's only cultural, software businesses also have very few assets that could be liquidated. Volkswagen might finance 2/3 of everything it does with debt, but if it just stopped tomorrow and sold all production facilities then lenders would get more than half their money back. If a typical software startup stops operating and sells off all its assets it gets a bit of spare change and the lenders leave with close to nothing.
  - martinald 7y ago
    I'm really not sure if that's the case. With some stuff (eg: car fleets) which are pretty liquid they may get a return. But on some super specialised machinery for VW which only makes VW specific parts they are going to really struggle to get any money for it.
lifeisstillgood 7y ago
Debt and VC are just sides of the same (multi-sided) coin. The money has to come from somewhere - domestic savings, commercial profit or sovereign wealth. The unicorn phenomenon is easier to explain this way - if you are already a company that can consume huge amounts of debt (you have a business model, product and route to market and just need to replicate) then you used to have one choice - take on debt. Now, where the returns on money as debt is so low, the money may choose to be VC just to gets return. As such the only likely way "debt is coming" is if interest rates climb, giving money an alternative to VC. However what drives global interest rates as very little to do with tech sector (I think). So - yes huge tech plays are going to become more and more common because software is eating the world and we are basically going to replace all our business has governmental processes with new software ones. Those will need huge investment - but whether that is debt or VCor something inbetween (looking at you government bonds) - is more likely to be a function of interest rates than anything else. My prediction - the next YCombinator will take VC sized money and deploy it at bank level scale - small and medium sized companies at non-unicorn stages, because with good software and models it will be feasible to deploy at smaller levels. Debt may not be coming so soon
- lmm 7y ago
  > As such the only likely way "debt is coming" is if interest rates climb, giving money an alternative to VC. Surely that's backwards: a lot of money really wants to be invested in debt, and is only doing VC because the returns to debt investing are so bad. Offer those investors a better alternative - comparable returns to a second-tier VC fund (which is not actually that hard), with something they can pretend is a security backed by something (they want to believe, you don't have to give them much), and they'll beat a path to your door. Much easier to offer market-beating "startup user bonds" while interest rates are low than when (if) some decent bond investing opportunities come back.
  - lifeisstillgood 7y ago
    I think we are saying the same thing - at the moment money chooses to be VC funds because normal debt has such low interest rates. Yes I absolutely think there will be shake ups in VC market meaning smaller more frequent and earlier investment (taking the place of what used to be bank business loans). And I think a lot of money will want to do that. But both of these are not debt - and until savings rates globally change then there will be plenty of supply of money and interest rates will remain low. Given that savings rates generally correlate to countries growing in wealth then SEAsia and Africa suggest there will be a long while before interest rates tip up structurally
shreyshrey 7y ago
Think of debt as a way to gain market leverage. Leverage is good if you are reasonably certain of the outcome. https://news.ycombinator.com/item?id=20942950 https://news.ycombinator.com/item?id=20942950
- tshtf 7y ago
  Is there any reliable metric to know what reliable means here?
  - shreyshrey 7y ago
    not sure of one specific number. Say you have achieved product market fit and the lifetime value of your customers (LTV) is less than three times the cost of acquisition, you probably be better of getting leverage from debt and gain marketshare. Depends on the market you operate though.
streetcat1 7y ago
debt and intellectual property do not mixup since by definition there is nothing to back up the debt (unlike real estate or any other industry outside of software). The author suggests to backup of the debt with a revenue stream, but those : 1) depend on the churn rate. 2) Are stable only for mature companies. Post product-market fit.
- commandlinefan 7y ago
  Well, there is something to back up the debt - but not something that can be seized.
bullen 7y ago
If you open graphs over inflation and interest rate since 1971 you will understand why debt is not coming again in nominal terms until the dollar goes away; that is in real value compared to something that you cannot borrow to buy: https://www.whythings.net/Images/Inflation_chart.jpg https://www.whythings.net/Images/Inflation_chart.jpg https://beta.theglobeandmail.com/legacy/static/folio/mortgage/chart.jpg?token=1496685693 https://beta.theglobeandmail.com/legacy/static/folio/mortgag... Technology; like money, can't change physics. Just like when you hit a ball; what goes up must come down. While looking at the graphs, consider that the personal computer and the internet were invented in the 70s. We went to the moon then too. Virtually nothing in technology has changed since the 80s.
jariel 7y ago
Great read, but I had a sneaky suspicion the entire time he was going to just say 'securitise revenue streams', which he finally did. I just don't think for the most part this will happen in any meaningful way, because high growth companies that need the money just don't have the track record to really underpin the value of said revenue streams. As for more established tech companies ... surely they must have been doing or at least trying to do this already?
5cott0 7y ago
“The VC model we’ve honed to perfection over decades”?
H8crilA 7y ago
I'm really not sure what's the point of the article. The idea that there is no debt yet in "tech" isn't even true. Uber, WeWork, and especially Tesla have been raising capital via debt. Not to mention Brex which covers the tail end of the startup market with "debt backed by revenue". I'm putting it in quotes because it's a ridiculous idea.
- CPLX 7y ago
  As far as I can tell Brex literally just “lends” money to people that already have money. They lend based on cash in the bank and have the right to debit cash straight from the bank account. It hasn’t been clear to me that they’re even involved in any kind of actual issuance of debt in a meaningful sense at all.
  - thoughtstheseus 7y ago
    Once a company has substantial money (runway) they’d just move to a better banking provider. Brex seems geared toward start-ups not companies that make money. Weird business model.
  - aianus 7y ago
    > As far as I can tell Brex literally just “lends” money to people that already have money. It hasn’t been clear to me that they’re even involved in any kind of actual issuance of debt in a meaningful sense at all. It's exactly the same as Chase lending an individual Google engineer $5k for free for the month on his Visa card despite the engineer having $50k in his savings account already. They make money on the interchange.
rossdavidh 7y ago
"Any one customer may be unknowable, but cohorts of customers can be modelled and understood decently well." Just substitute "mortgage" in this sentence, think back on events of the last decade, and you can see what is horribly wrong with this article. Lots of debt, all given to tech startups, which will almost all go bust with the first recession. Let's see, what does that remind me of? Of course, if you believe that the government would step in to take the downside, then you could just get the upside in the time between now and when the downturn comes.
- corford 7y ago
  Yeah but unlike a mortgage (secured against one static asset i.e. a house), the article assumes most of this debt will be issued against the strength and quality of a company's various recurring revenue streams (even speculating that different components of this could be financed separately to try and account for the varied risk). Just need to make sure you don't end up with financers/banks/rating agencies colluding to bundle multiple companies together and sell tranches of the debt (all with a phony A+ rating) to investors/funds...
  - skybrian 7y ago
    The question I have is how you know the customers won't cancel their subscriptions when the recession hits, or because a competitor provides the same service for less, or has better service?
    - trhway 7y ago
      you can use CDS to insure performance of your high quality A+ "recurring revenue" bonds. It is pretty cheap for high quality A+ bonds. >>Just need to make sure you don't end up with financers/banks/rating agencies colluding to bundle multiple companies together and sell tranches of the debt (all with a phony A+ rating) to investors/funds... but that is exactly the point of the securitization and high skill in doing it which would allow to bring all those sweet pension fund money into play. "financers/banks/rating agencies colluding " - it like saying violin and piano players colluding in Metropolitan Opera performance.
binky 7y ago
Debt is a liability to be served, having returns and margins winning over growth, adding a not-so-silent participant to the mission. Welcome to the real world.
pcmaffey 7y ago
> Furthermore, in the Bay Area Founder-VC scene, FK/PK tension simply isn’t perceived as a problem. Founders increasingly think of themselves as capital allocators who think in bets, and the angel investing scene has brought founders and VCs together as social peers. There’s no FK/PK tension between investors and founders. They all want the same thing, and they all hang out at the same parties. The tension has simply been redistributed, largely onto employees. The greatest trick VCs ever pulled was convincing founders, “you’re just like us.” Recommend reading the whole article if you're curious about the nuance in this. It flies above the current milieu.
- Grimm1 7y ago
  I can say in the New York scene the opinion seems to be quite the opposite. There is a non-trivial amount of wariness when it comes to VC money.
  - lumost 7y ago
    The same is true in Boston, most founders look to bootstrap through the seed rounds.
    - neltnerb 7y ago
      I agree completely, but it's worth pointing out that a big reason for this is that Cambridge and Boston have vastly fewer and worse connected VCs than the bay area. I did try to pursue VC funding for a hard-tech startup (thin film deposition for making solar panel conductive pastes), but there was really only one VC group that was relevant so there wasn't exactly a surplus of opportunity money-wise just waiting for a good use. Personally I think bootstrapping is way better for startups that intend to be acquired or don't mind growing slowly (or don't mind never really growing much at all). Nothing wrong with "lifestyle businesses". After a few tries, now I have a consulting company that helps people develop their weird scientific equipment and commercial prototypes. I don't really care about funding with that model, and my salary went up 3-fold in one year versus a job at a startup in Oakland. I'll probably create a product soon, I have a prototype about done and I'll definitely try to make a business out of it -- but because most of my income is consulting I can also afford to move slower, do it right, and not have to hire anyone to help with it unless I actually find traction and need help with manufacturing them. Short plug: I'm making color changing strobe light art pieces that use the ganzfeld effect to cause vivid geometric illusions -- not novel in the concept, but the implementation is really good after a decade of casually improving it over time. If this sounds awesome to you do feel free to send a note so that I can let you know when they're ready =) http://neltnerlabs.com http://neltnerlabs.com is the website, I haven't mentioned the art piece on it yet since it's not done but here's a youtube video of the basic hardware before being put into a frame. https://www.youtube.com/watch?v=eFte1ggIVjM https://www.youtube.com/watch?v=eFte1ggIVjM
corford 7y ago
Can't find it now but I remember reading about a recently launched Seedcamp or Point Nine portfolio company that is doing this for B2C SaaS companies I think. You let them plug into your stripe metrics etc. and they then give you debt based financing (using AI/algos to determine amount and rate based on your numbers: churn, growth, recurring revenue etc.)
- thoughtstheseus 7y ago
  Amazon does lending like this (I think). Tech moving into the merchant cash advance market has creating some innovative financings.
- Androider 7y ago
  Stripe themselves are also doing it now https://stripe.com/capital https://stripe.com/capital The sums are pretty small right now, but the basic model is there.
motohagiography 7y ago
Sort of thought the whole point of SaaS businesses with lots of employee frills and perks was to eventually attract the activist investors, leveraged buyouts, asset strippers, and other private equity managed debt, as a way to deploy institutional and pension money. Maybe it was cynical, but the point is to generate a long term trickle of ARR that is greater than the interest payments on a debt financing of control of the company, which at a product level is why you need sticky APIs that get baked into institutional customer infrastructure that will yield 10-15 years of locked-in revenue. One of said vultures above raises debt from group of funds, buys a SaaS company, installs managers who understand cost optimization with no concept of growth, and hollow it out. Their nut is paying the interest back to their pension fund creditors, and their yield (after fees, naturally) is the delta between what they can squeeze out of cost reductions and making that nut. I won't name the companies I think will be those targets, but speculating about privately held security companies as an example, it sounds like there is a clear exit sized at 10-15x revenues for anyone with traction, an API, and an office that has free snacks and a climbing wall.
Grimm1 7y ago
I think this article is trying to make something out to be more than it actually is. Debt financing is a specific vehicle that can be used tactically for a relatively mature business (Series A area +) with predictable revenue for specific growth I do not see it as this magical solution to the current issues of VC capital because alignment is often really out of wack in the early-stages before established product-market fit with high dilution and higher investor leverage. In a mature business investors and founders are likely to be more aligned anyway because the founder's model has been working and has some length of history and predictability with regards to forecasting further growth and outcomes. To put it plainly while you can get screwed in the later stages you're much more likely to get screwed in the early stages of running a company. With that in mind, one of the main benefits, as stated in the article that the debt investment is not dilutive, is still nice at the later stages but I wouldn't say people should exclusively decide to go with debt based on that reason alone because the largest dilution (and by consequence chance to be screwed) typically happens in the earlier rounds (unless you're getting bailed out) anyway.
james_impliu 7y ago
At the moment, way more VC money is going into later stage deals as companies stay private longer... that is the chunk that if securitisation becomes mainstream , where VCs will have competition. The impact of this could be really fascinating - VCs would be forced to go even broader in their earlier stage investments, or VC’s own funding will start to reduce as it won’t be possible to deploy the capital at the same return. Maybe it’ll turn out that funding more pre seed companies will be successful - why stop at YC’s 200 every six months. The switchover period would be an entertaining time to be a founder, that’s for sure!
monkeydust 7y ago
Whilst I broadly agree with the article it did remind me of mini bonds, a UK centric concept perhaps. https://www.fca.org.uk/consumers/mini-bonds https://www.fca.org.uk/consumers/mini-bonds These havent been getting good press recently due to a number of failures.
mathattack 7y ago
Interesting article. The reality is places like Silicon Valley bank do provide debt financing. If your SAAS cash flows look like fixed income, that’s a better way to finance them. There is downside to this too. The irony is many traditional businesses that use debt (retail?) really should be equity financed.
paulgerhardt 7y ago
Less any bright eyed startup founder take this post too seriously, I’ll spell it out: venture debt is bad. Debt issued to established companies is an essential mechanism to bridge working capital needs - like GM procuring millions of pounds of sheet metal before selling thousands of cars. This is not controversial. Venture debt issued to startups by bankers, especially by the kind of bank who fancy themselves as a Bank for Silicon Valley, and the types of bankers who, after a few too many cocktail parties with VCs, fancy themselves venture capitalists. It’s just these pseudo-venture capitalists have the risk tolerance of...bankers. If you pioneer a new space, particularly in consumer electronics with high working capital needs and you are initially successful you will be offered venture debt. If you take it, you will be more successful and you will have copy cats. Some of those copy cats will be FAANG companies. When this happens the bankers will freak out and pull your working capital. Or exercise a clause that forces a premature sale. Or...or..or. Woe to you if you were banking on that to make this years Black Friday/Christmas demand. Alex’s post highlights a need in the space. Don’t confuse it with the services currently offered.
- gfodor 7y ago
  Your last point should come first so people don't miss it -- securitized RR as proposed in this post is not the same thing as venture debt.
- aguyfromnb 7y ago
  >When this happens the bankers will freak out and pull your working capital. Or exercise a clause that forces a premature sale. Or...or..or. How is this different than the "next round" of a venture raise vaporizing and being left with no money?
  - paulgerhardt 7y ago
    Time horizon. Capital gives you 18 months. Your debt instrument can be pulled overnight.
    - wbl 7y ago
_marlowe_ 7y ago
"When you acquire some customers and they start yielding revenue that behavior sounds an awful lot like buying a fixed income instrument..." This is so intellectually dishonest. He even goes on to equate recurring revenue with cash flow. Not the same! So often companies point to ARR as success without acknowledging other structural cost issues in their businesses. "It's basically AAA debt. Now give me a 30x revenue multiple." -SaaS investor who wants it both ways SaaS is just one of many recurring/contractual revenue categories, but VCs talk about it like its a revolutionary business model that should yield some extra reward from the capital markets. Recurring revenue has been around forever in more traditional industries. Yes, reliable recurring revenue (with +FCF) can support leverage, but claiming that it looks and acts like debt is either ignorant or deceptive. It is 100% equity risk and that kind of magical thinking is just vulture bait.
erlend_sh 7y ago
Isn’t this essentially a different way of doing what Earnest Capital is already doing? https://earnestcapital.com/ https://earnestcapital.com/
cryptica 7y ago
>> And when founders really get a taste of that credit? That sweet, sweet taste of dilution-free capital, flowing freely to and from a continuous growth vehicle At that point, cryptocurrency prices will start rising fast as fiat currencies start hyperinflating; free money is worthless money. People will dump the old fiat currencies and start buying up cryptocurrencies with their free debt-fueled fiat. Companies will no longer need debt; to raise capital, they will be able to create a new cryptocurrency and list it on Decentralized Exchanges; then they will use the profits from their business operation to buy-back coins from investors at a predetermined rate. Companies could even use open source code to operate their own decentralized exchanges so that there would be no intermediaries between a company and its investors.
reggieband 7y ago
I commented a few weeks ago on startup ideas saying there was a gap in SaaS financing models. VCs have been abuzz about the opportunities in slow-burn SaaS businesses that have generated predictable recurring revenue streams. This created two classes of potential VC investment - pre-revenue moonshots for billion dollar unicorns and post-revenue SaaS businesses with healthy balance sheets. I lamented that left a gap for pre-revenue slow-burn SaaS businesses in unproven markets. I can imagine debt being a potential gap filler but only in established markets where lenders have points of comparison. This article skews on the side of pushing VC money out of the post-revenue slow-burn SaaS space. To be honest, if I was a founder running a healthy SaaS business wishing to grow then I would probably prefer debt compared to handing out equity. But if I am starting from complete scratch and my goal is to build a slow-burn SaaS business (maybe even of a lifestyle business scale) I don't know I would jump onto debt as my first choice for funding. The only viable options I see other than personal savings are friends/family, government entrepreneurial grants and potentially crowd sourcing.
spyckie2 7y ago
The biggest problem with this idea is that it doesn't really have a good market space. If your company revenue is too small, your subscription backed debt is just an inferior financial product compared to equity, which handles risk much better. If your company revenue is large enough, you have plenty of financial tools to keep your company fiscally healthy. The only time I can see it being useful is if you want to trick rich non-investors to give you money by pretending that your startup has value when it doesn't (similar to an ICO). Let's say you had a subscription user base and the retention / LTV data to convince finance people to treat it as a security. That usually is the sign of a successful startup, and you'd also likely have access to venture capital as well. As a founder, is it worth your time to come up with a new financial product and convince people to buy it? In my opinion, you're probably better off doing a round because it will close much quicker and you'll know what to expect, and you can focus on growing your business instead of convincing everyone of your non-standardized, not well understood financial product offering. Good luck closing a group of institutional investors with that. Now, why do finance people create new financial products? One reason is to investment larger amounts of money all at once - so create asset classes and then buy them in bulk because you have a $5b dollar fund and can only afford to look at $500m deals or more. This is probably the only reason why you'd want to create a subscription backed debt - collect them up and allow people to participate in returns on startups without becoming a VC. But this is much more likely to be a repeat of the mortgage crisis rather than being actually beneficial to the economy.
- virgilp 7y ago
  I read it the other way around. If BigCash, co. advertises “we securitize your growth - get free money to grow based on your business metrics!’, and you’re a startup founder - would you be interested, or would you say “nah, I think I’ll just do another round”? OTOH I’m not sure I understood it well :D
  - spyckie2 7y ago
    Good point - there are a ton of SMBs that have good business metrics, usually as a result of being around for a long time. I would think that these companies would be the primary audience for this - they would use the flexibility that a securitized revenue stream allows them to smooth out any cash flow problems they had. The majority of startups use investment to get to profitability / stability. This is why I think debt is a poor choice in general for the startup and tech market. I'd hope BigCash, co. models out default rates, not just SaaS metrics, and the adage, 9 out of 10 startups fail, while a bit harsh on revenue generating startups, doesn't bode well. If offered, I can see a very well positioned startup who has access to VC preferring to raise debt to avoid the hyper growth push of VCs and grow at their own pace. But also if offered, I can see a lot of high default risk companies use it to get cash because other options are not available, and the riskiness is why I didn't even think of an institution offering it in the first place - or just a repeat of the mortgage crisis.
tempsy 7y ago
Aren't SAFEs effectively debt?
- iamwil 7y ago
  no. you're thinking of convertible notes.
  - tempsy 7y ago
    That’s “effectively debt” - it converts to equity upon a new round but if the company fails or doesn’t raise then it’s more like debt than equity.
awinter-py 7y ago
if you have structured settlements and you need cash now call JG wentworth if you need cash now
gfodor 7y ago
The post is predicated upon assumptions surrounding the risk to recurring revenue cash flows from SaaS customers. I'm not sure why the author thinks these cash flows can be well understood enough to securitize to support lending -- it'd be good to understand what's changed recently (given that the first SaaS companies are more than 20 years old) that lead one to believe debt markets can now suddenly price risk on these revenue streams now. In other words, why should we expect this now, if it hasn't happened already? If we suddenly saw debt markets becoming attracted to startups, I'd put just as much weight upon it as a cultural norm shifting than fundamental analysis showing a change to the risk profile. And you know what that means: if it's a cultural change, not justified by new evidence, it's either a late realization (safe, and regrettable) or irrational (incredibly dangerous.)
ahominid 7y ago
My background in financial engineering is limited to trying to make sense of articles like this so maybe someone more in-the-know would be kind enough to help me understand. But when you securitize an asset, isn’t it typically an asset that has intrinsic value, e.g. property of some sort that can be easily liquidated? It seems to me that recurring revenue for a service only has value as long as that service exists. So if some startup selling dog food subscriptions stops providing that service, the subscriptions are worth exactly zero. To take the example further, would said startup now be unable to sell the book of business to someone else before going broke?
- swiley 7y ago
  I’d imagine that’s how you end up with companies like Verizon taking over services like tumblr.
gerdesj 7y ago
> Debt is going to finally come to the tech industry Bear in mind that the tech industry exists in all countries with a population greater than 10. Also consider that this: > When people in tech want to sound smart, one name you can drop is Carlota Perez. ... is probably nonsense or at best pointing out another point of view. Not all companies work the way you think they do. Not all companies want to be yoked with the burden of continuous economic growth, always beholden to the irksome shareholder. My little company is about 20 years old now. We have never been in debt apart from a mortgage that we could pay off tomorrow (probably, cough ... ish) We will never set the world on light and you will never hear of us. We have 20 odd employees now and in five years time probably 20-40. A few years back the UK decided to cede the union with Europe (c'est la vie.) The pound slid south about 30% rather quickly and IT stuff became 30% more expensive nearly overnight. We import nearly everything IT here in the UK. I can't say that my company noticed any downturn in trade, actually we have just hit £1M t/o two months early this year. I hate this sort of article. Maybe in the US all companies are multi billion t/o setups. Here in the UK we are all simply "shop keepers" (Emperor Napolean said so) and fucking proud of it.
- ThrowAwayGlen 7y ago
  Thank you. I read this article twice, thought I was completely missing something. No, it's a pretty obvious statement wrapped around pseudo-intellectual ideas of Carlota Perez and presented in an Emperor's New Clothes style where if you disagree with it you're an idiot ("Maybe not all investors get this, but the smart ones do"). Alex was previously at Social Capital, a fund with amazing PR and huge egos combined with very mediocre financial results and awful morals. It would not surprise me at all to see him get back into the game by starting a fund using drivel like this post to sucker LPs into writing him checks.
  - eru 7y ago
    The article seemed pretty straightforward. Perhaps a bit too excited. But the fundamental thesis that the predominance of equity financing in tech is an aberration and will likely come to an end, seems rather plausible.
alecjaco 7y ago
It's been here since the beginning? "Apple received its first big investment, a guaranteed bank loan of $250,000 from Mike Markkula in 1977 (the equivalent of over $1.1 million)" https://www.cnbc.com/2020/02/06/steve-wozniak-on-steve-jobs-personality-shift-as-apple-co-founder.html https://www.cnbc.com/2020/02/06/steve-wozniak-on-steve-jobs-... also vc covenants etc?
ceohockey60 7y ago
IIRC there is at least one Silicon Valley example of this already: Zappos pre Amazon acquisition, debt from Wells Fargo. It was forced upon Zappos b/c VC fundraising dried up, not a deliberate choice, but ended up working out well b/c its GMV was both growing and becoming predictable.
- patrickrivera 7y ago
  I believe this article is focused on a different type of debt - "recurring revenue securitization" (focused on companies w/ a SaSS business model). This type of financial instrument is different from a traditional venture / bank debt instrument in a couple ways: 1. it can be more favorable to startups by making payments a % of revenue instead of a fixed amount (ala ISA's) 2. the lender can earn higher interest by "securitizing" (e.g. pooling together) multiple loans and selling them. this allows the lender to move some debt off the balance sheet and in turn deploy the cash for higher yield 3. over time, the lender could provide more favorable terms by creating more accurate risk models by ingesting data from sources like Stripe and Shopify across companies and then building proprietary data sets to manage default risk. I believe Clearbanc does something similar today. One potential downside of this model is the interest the company receiving the load would have to pay as stated here - [http://www.adventurista.com/2009/01/true-cost-of-venture-debt.html](http://www.adventurista.com/2009/01/true-cost-of-venture-debt.html) http://www.adventurista.com/2009/01/true-cost-of-venture-deb... Would love to see this model work though.
rdlecler1 7y ago
I frankly didn’t understand this article. First there’s already VC debt, and Silicon Valley Bank is also a big lender. There are lots of shops out there that will loan against revenue streams (often we see this tied to hardware). Also the idea that a basket of debt is going to have some enormous payoff Is just painful to listen to. Your upside is capped and you can have ruin. Who wants to invest in ultra junk bonds. The reason equity financing works for startups is the promise of an enormous outsized outcome That pays back all of your losses.
lucas_membrane 7y ago
Odd that the article mentions startups 14 times and hedge funds zero. If a significant percentage of a profitable tech company with established customers and a revenue stream derived from long-term contracts with customers is owned by hedge funds, the hedge funds will flex their muscles a little and convince the company to start borrowing money so that it can buy back some of its stock and pay higher dividends. If such a company does not have a significant constituency of shareholders among its shareholders and has little or no debt, its managers will realize that their company is one that hedge funds are likely to want to own and influence, and that the best way to discourage the hedge funds is to take on debt to buy back stock and raise dividends. Q. E. D.
jigglypuffs 7y ago
Someone tldr it please
leoplct 7y ago
How to securitize SaaS cash-flow nowadays ?

541 points by jger15 7y ago

Debt is dumb. The childish glee coming from this author should be ignored. 2008 is coming again soon and debt holders will suffer. Please get/keep your financial house in order. Business debt is just as dangerous as personal debt.

dnadler 7y ago
Debt is a very useful tool for raising capital. It is a way to raise money without selling ownership, and is often the wiser choice. It all depends on the situation. Blanket statements disparaging (or encouraging) debt without regards to the situation are dumb.
shin_lao 7y ago
Debt is one of the financial tools at your disposal. Properly used, it's extremely powerful.
sykick 7y ago
When you say, "Debt is dumb" are you speaking in hyperbole? There are lots of examples where debt is not dumb and is in fact the prudent thing to do. If you aren't speaking in hyperbole you are wrong and if you are I suggest that in this case you shouldn't. Your overall point appears to be that a repeat of 2008 is immanent and this point can be better made without the "Debt is dumb" first sentence.
- deleted 7y ago
  [deleted]
- ghastmaster 7y ago
  It certainly was hyperbole. There are obvious situations where debt is not dumb. We live in a time where the vast majority of debt is not used for those obvious critical situations.
ryanlol 7y ago
>Debt is dumb. This attitude is dumb.
kevingadd 7y ago
How do you propose solving problems like "buy a house" and "buy a car" without debt? The average person who needs to drive to work has no way to buy a car in cash, at least not early on. If you drop all your savings on a new car and suddenly end up with a hospital bill, that car isn't going to pay for it. I say this as someone who had enough saved to buy a car in cash: Buying it via a loan was the right choice. It boosted my credit rating and more importantly when emergencies came up I had that cash on hand.
- zepto 7y ago
  Agree with you - although the part about boosting your credit rating, although true, is a scam.
- Psyladine 7y ago
  Rent, and, 'cars are bad'. This is written from an urbanist perspective. If you mean it can't scale, well, yes, its target is silicon valley devs. Either rich enough where it doesnt matter, or poor enough where it doesn't matter.
- ghastmaster 7y ago
  Look up the word "savings". It is possible to rent a cheap apartment, buy a used car, and wait until you can afford better things. Obviously some people are going to run into financial difficulties if they have unexpected extraordinary bills. The vast majority of things in life are however, expected. Nothing is new under the sun. The overwhelming debt of the world increases costs. Additionally, debt temporarily tricks most people into thinking they have more than they actually do. I think more people would be interested in working harder for better jobs or opportunities if it wasn't so easy to get whatever you want by signing a piece of paper.
  - kevingadd 7y ago
    How do I rent a cheap apartment and buy a used car without a job? The job I need a car to drive to? What am I supposed to save, exactly? The allowance I get from my presumably rich parents? In my case, my first job (at 14) required getting a ride to from a coworker with a car. Getting to university for my job working in the computer lab + my courses required either a car ride from a neighbor or 3 hours on the bus. After I moved away for my first salaried job, I needed a loan (thankfully a personal one and not from a bank - both of which are things many people don't have access to!) to cover my first month of expenses so I could move and actually start getting paid and building measurable savings, since the move already exhausted the savings I had left over after uni. Money doesn't come out of thin air. Not everyone starts their working life with access to enough money to just buy a car (even used!) and rent an apartment.
axegon_ 7y ago
> 2008 is coming again soon I have no idea why people __LOVE__ making these statements. 2008 was something that affected mostly the US and while it affected the rest of the world to a certain degree, overall very little changed. Before jumping on my throat, hear me out: There have been several significant financial events since then: the European debt crisis, then Portugal(which is relatively small on a global scale), same with Ukraine and Venezuela, Russia(still going 5 years later), Brazil and those are just off the top of my head. What I'm trying to say is that financial crisis occur almost every year. Keeping your finances tidy is a good life advise but prophecies shouldn't be the motivation for it.
- onetimemanytime 7y ago
  >>I have no idea why people __LOVE__ making these statements. 2008 was something that affected mostly the US and while it affected the rest of the world to a certain degree, overall very little changed. US is back on top. How's Italy, Greece, Spain etc doing?
  - hobs 7y ago
    I dont know why this is downvoted - the EU implemented austerity and it took a gigantic chunk out of its economy in the last ten years - why is this controversial? Spain's growth rate has been what, 0%? Greece is totally screwed, and there's a strong set of evidence to say Brexit was a direct result of the 2008 crisis (because they pushed back so hard on austerity.)
    - axegon_ 7y ago
      > there's a strong set of evidence to say Brexit was a direct result of the 2008 crisis. Nah. The only selling point on the referendum was immigration. The only one people really cared about anyway.
      - Wildgoose 7y ago
        A lot of people cared about Democracy and the ability to hold the politicians we elected accountable for the decisions that were made. Mass immigration was important, but it wasn't the only factor.
kaliali 7y ago
Debt can be useful to quickly get capital to grow a business. The problem is that everyone is competing to grow their business faster and so the amount of debt steadily climbs faster and faster than being able to pay the interest. New businesses who gather debt in a more controlled way will look like they aren't growing as fast (if loans were the primary source of funding) and they are quickly left for the companies that grow fast. Luckily, VCs take responsibility with their investments and make it possible for a new business to not need to go into crazy amounts of debt. Eventually, so much debt will be accumulated that companies will not be able to pay off the interest and the bubble pops. If everyone is always in debt, there will always be a periodic crash.
sbmthakur 7y ago
Debt is not dumb. Managing your debt in a bad way is dumb. You may want to see the following illustration by Ray Dalio about how debt complements the economy: https://www.youtube.com/watch?v=PHe0bXAIuk0 https://www.youtube.com/watch?v=PHe0bXAIuk0
satya71 7y ago
Finance 101: debt is cheaper than equity. Arguably in today's model it's actually less risky than equity for the founders.
jariel 7y ago
"Business debt is just as dangerous as personal debt." They are barely related to the point they should probably even be called different things. Business debt is to buy equipment to make stuff to sell at a profit. Personal debt to buy a nice boat.
- ghastmaster 7y ago
  The end goal is the same. The boat. I see no difference.

kevingadd 7y ago

Aside from the other conclusions and assertions in this long article, this particular bit resonates with me: "Here is a widely believed cause-and-effect relationship I bet you’ve never thought to invert before: because most startups fail, therefore equity is the best way to finance them. Have you ever considered: because equity is how we finance startups, therefore most startups fail?" At the very least, this lines up perfectly with my startup experiences and many other case studies I've seen - investors simply are not willing to accept reasonable growth or reasonable returns, they want massive scaling and massive growth. Sometimes that approach works out but very often you get expensive bets that never deliver on the level they need to and the startup flames out or ends up stuck constantly trying to clean up the mess left by the last big bet while trying to execute on a new one. A revolving door of new executives and new business strategies.

asah 7y ago
Meh, straight debt (not convertible) isn't available to risky startups. The venture debt industry depends on tight relationships with VCs to ensure reasonable repayment rates. In some cases they reduce risk by reselling part of the debt. In all cases, they're themselves leveraged, lending money from limited partners and not just themselves.

williesleg 7y ago

I love this kind of Hacker News! I come here to learn about solving the problems of the world, not learning about the new Intel chips. Yay Hacker News!

debt 7y ago

I’m already here

christiansakai 7y ago
Lmao
selimthegrim 7y ago
The call is coming from inside the vault

Yetanfou 7y ago

Debt is like medicine: useful to cure certain conditions but nothing to be burdened with your entire life. Once the condition is cured the medicine is no longer needed. It is also like medicine in that it has a tendency of ending up being worse than the condition it was meant to cure when taken irresponsibly or in too large a dose. There's another way in which debt resembles medicine: those who sell it are wont to sell it as widely and at as high a price as possible, no matter whether it is the right medicine for the condition at hand. When used responsibly debt can be a net positive. When allowed to run amok it is a burden upon society. Maybe debt, like medicine, should only be allowed to be taken with a prescription?

_yhdy 7y ago
Very good comment
sokoloff 7y ago
I agree with everything except the last line (and I suspect that’s where your downvotes are coming from). The CEO/CFO should have the freedom to self-prescribe, IMO. In that regard, debt might be more like food. Some businesses have a chronic need for debt and can live quite fine with a lifetime of healthy debt usage.
tchaffee 7y ago
I don't love this analogy because a healthy person doesn't need medicine. If you can make something for $1 and sell for $2, it's very healthy for a business to take on debt in order to make more of those things. Which is why debt is a normal part of many healthy businesses.
UncleEntity 7y ago
> Maybe debt, like medicine, should only be allowed to be taken with a prescription? Isn't it though, really? The bankers determine your "need" and price it according to the risk of you defaulting -- which would seem to put a kink in TFA's argument since most startups fail, the interest rate would be astronomical if true risks were priced in.
- 7y ago

pge 7y ago

“Debt helps you grow faster; debt helps you die faster.” - someone said this to me early in my career and it has stuck with me.

himaraya 7y ago
Ditto for equity
- looping__lui 7y ago
  ?
  - corford 7y ago
    Sky high valuations that limit your options/exits, potentially pushing your company down a path it shouldn't take.
    - looping__lui 7y ago
      ... based on false and unrealistic promises? When did the discussion about “financing structure” become a discussion on ethics? Or are you already taking the “bullshit business hockeystick promises” as a “given in the industry”? Why are fraudulent business practices the first thing that come to your mind? If you told me about WACC and how equity is like actually really expensive way of financing: ok, I get it, some cool discussion on a provocative questionmark. Kind a telling on the industry in a sense :-D
  - caspper69 7y ago
    You can't maintain anything for free; everything has a carrying cost-- even cash in the form of depreciation. Use it or lose it as they say.
    - samsonradu 7y ago
      Not everything depreciates over time, does it? Looking at housing in many hot markets or at collectible watches fe.

juped 7y ago

Debt financing would be wonderful (note to non-business-savvy readers: this is not even remotely the same kind of thing as personal credit card debt or whatever other completely unrelated thing is making you sanctimoniously kneejerk that "debt is bad". Can we please have an informed discussion of debt as a part of a business capital structure?) for software businesses, which have very predictable capex costs. The issue was always that bankers don't want to lend for, basically, cultural reasons. When it actually starts becoming possible and there start being standard diligence scripts, etc., it will be much more favorable than equity financing for basically anyone who can get it.

zozbot234 7y ago
How does debt help deal with "very predictable capex costs"? You would need very predictable revenue to make it work, otherwise equity financing seems like it might be preferable.
- juped 7y ago
  Debt financing generally makes more sense for capex, not opex. Servicing the debt becomes an opex, basically, so it would be weird to finance opex out of it.
wongarsu 7y ago
I don't think it's only cultural, software businesses also have very few assets that could be liquidated. Volkswagen might finance 2/3 of everything it does with debt, but if it just stopped tomorrow and sold all production facilities then lenders would get more than half their money back. If a typical software startup stops operating and sells off all its assets it gets a bit of spare change and the lenders leave with close to nothing.
- martinald 7y ago
  I'm really not sure if that's the case. With some stuff (eg: car fleets) which are pretty liquid they may get a return. But on some super specialised machinery for VW which only makes VW specific parts they are going to really struggle to get any money for it.

lifeisstillgood 7y ago

Debt and VC are just sides of the same (multi-sided) coin. The money has to come from somewhere - domestic savings, commercial profit or sovereign wealth. The unicorn phenomenon is easier to explain this way - if you are already a company that can consume huge amounts of debt (you have a business model, product and route to market and just need to replicate) then you used to have one choice - take on debt. Now, where the returns on money as debt is so low, the money may choose to be VC just to gets return. As such the only likely way "debt is coming" is if interest rates climb, giving money an alternative to VC. However what drives global interest rates as very little to do with tech sector (I think). So - yes huge tech plays are going to become more and more common because software is eating the world and we are basically going to replace all our business has governmental processes with new software ones. Those will need huge investment - but whether that is debt or VCor something inbetween (looking at you government bonds) - is more likely to be a function of interest rates than anything else. My prediction - the next YCombinator will take VC sized money and deploy it at bank level scale - small and medium sized companies at non-unicorn stages, because with good software and models it will be feasible to deploy at smaller levels. Debt may not be coming so soon

lmm 7y ago
> As such the only likely way "debt is coming" is if interest rates climb, giving money an alternative to VC. Surely that's backwards: a lot of money really wants to be invested in debt, and is only doing VC because the returns to debt investing are so bad. Offer those investors a better alternative - comparable returns to a second-tier VC fund (which is not actually that hard), with something they can pretend is a security backed by something (they want to believe, you don't have to give them much), and they'll beat a path to your door. Much easier to offer market-beating "startup user bonds" while interest rates are low than when (if) some decent bond investing opportunities come back.
- lifeisstillgood 7y ago
  I think we are saying the same thing - at the moment money chooses to be VC funds because normal debt has such low interest rates. Yes I absolutely think there will be shake ups in VC market meaning smaller more frequent and earlier investment (taking the place of what used to be bank business loans). And I think a lot of money will want to do that. But both of these are not debt - and until savings rates globally change then there will be plenty of supply of money and interest rates will remain low. Given that savings rates generally correlate to countries growing in wealth then SEAsia and Africa suggest there will be a long while before interest rates tip up structurally

shreyshrey 7y ago

Think of debt as a way to gain market leverage. Leverage is good if you are reasonably certain of the outcome. https://news.ycombinator.com/item?id=20942950 https://news.ycombinator.com/item?id=20942950

tshtf 7y ago
Is there any reliable metric to know what reliable means here?
- shreyshrey 7y ago
  not sure of one specific number. Say you have achieved product market fit and the lifetime value of your customers (LTV) is less than three times the cost of acquisition, you probably be better of getting leverage from debt and gain marketshare. Depends on the market you operate though.

streetcat1 7y ago

debt and intellectual property do not mixup since by definition there is nothing to back up the debt (unlike real estate or any other industry outside of software). The author suggests to backup of the debt with a revenue stream, but those : 1) depend on the churn rate. 2) Are stable only for mature companies. Post product-market fit.

commandlinefan 7y ago
Well, there is something to back up the debt - but not something that can be seized.

bullen 7y ago

If you open graphs over inflation and interest rate since 1971 you will understand why debt is not coming again in nominal terms until the dollar goes away; that is in real value compared to something that you cannot borrow to buy: https://www.whythings.net/Images/Inflation_chart.jpg https://www.whythings.net/Images/Inflation_chart.jpg https://beta.theglobeandmail.com/legacy/static/folio/mortgage/chart.jpg?token=1496685693 https://beta.theglobeandmail.com/legacy/static/folio/mortgag... Technology; like money, can't change physics. Just like when you hit a ball; what goes up must come down. While looking at the graphs, consider that the personal computer and the internet were invented in the 70s. We went to the moon then too. Virtually nothing in technology has changed since the 80s.

jariel 7y ago

Great read, but I had a sneaky suspicion the entire time he was going to just say 'securitise revenue streams', which he finally did. I just don't think for the most part this will happen in any meaningful way, because high growth companies that need the money just don't have the track record to really underpin the value of said revenue streams. As for more established tech companies ... surely they must have been doing or at least trying to do this already?

5cott0 7y ago

“The VC model we’ve honed to perfection over decades”?

H8crilA 7y ago

I'm really not sure what's the point of the article. The idea that there is no debt yet in "tech" isn't even true. Uber, WeWork, and especially Tesla have been raising capital via debt. Not to mention Brex which covers the tail end of the startup market with "debt backed by revenue". I'm putting it in quotes because it's a ridiculous idea.

CPLX 7y ago
As far as I can tell Brex literally just “lends” money to people that already have money. They lend based on cash in the bank and have the right to debit cash straight from the bank account. It hasn’t been clear to me that they’re even involved in any kind of actual issuance of debt in a meaningful sense at all.
- thoughtstheseus 7y ago
  Once a company has substantial money (runway) they’d just move to a better banking provider. Brex seems geared toward start-ups not companies that make money. Weird business model.
- aianus 7y ago
  > As far as I can tell Brex literally just “lends” money to people that already have money. It hasn’t been clear to me that they’re even involved in any kind of actual issuance of debt in a meaningful sense at all. It's exactly the same as Chase lending an individual Google engineer $5k for free for the month on his Visa card despite the engineer having $50k in his savings account already. They make money on the interchange.

rossdavidh 7y ago

"Any one customer may be unknowable, but cohorts of customers can be modelled and understood decently well." Just substitute "mortgage" in this sentence, think back on events of the last decade, and you can see what is horribly wrong with this article. Lots of debt, all given to tech startups, which will almost all go bust with the first recession. Let's see, what does that remind me of? Of course, if you believe that the government would step in to take the downside, then you could just get the upside in the time between now and when the downturn comes.

corford 7y ago
Yeah but unlike a mortgage (secured against one static asset i.e. a house), the article assumes most of this debt will be issued against the strength and quality of a company's various recurring revenue streams (even speculating that different components of this could be financed separately to try and account for the varied risk). Just need to make sure you don't end up with financers/banks/rating agencies colluding to bundle multiple companies together and sell tranches of the debt (all with a phony A+ rating) to investors/funds...
- skybrian 7y ago
  The question I have is how you know the customers won't cancel their subscriptions when the recession hits, or because a competitor provides the same service for less, or has better service?
  - trhway 7y ago
    you can use CDS to insure performance of your high quality A+ "recurring revenue" bonds. It is pretty cheap for high quality A+ bonds. >>Just need to make sure you don't end up with financers/banks/rating agencies colluding to bundle multiple companies together and sell tranches of the debt (all with a phony A+ rating) to investors/funds... but that is exactly the point of the securitization and high skill in doing it which would allow to bring all those sweet pension fund money into play. "financers/banks/rating agencies colluding " - it like saying violin and piano players colluding in Metropolitan Opera performance.

binky 7y ago

Debt is a liability to be served, having returns and margins winning over growth, adding a not-so-silent participant to the mission. Welcome to the real world.

pcmaffey 7y ago

> Furthermore, in the Bay Area Founder-VC scene, FK/PK tension simply isn’t perceived as a problem. Founders increasingly think of themselves as capital allocators who think in bets, and the angel investing scene has brought founders and VCs together as social peers. There’s no FK/PK tension between investors and founders. They all want the same thing, and they all hang out at the same parties. The tension has simply been redistributed, largely onto employees. The greatest trick VCs ever pulled was convincing founders, “you’re just like us.” Recommend reading the whole article if you're curious about the nuance in this. It flies above the current milieu.

Grimm1 7y ago
I can say in the New York scene the opinion seems to be quite the opposite. There is a non-trivial amount of wariness when it comes to VC money.
- lumost 7y ago
  The same is true in Boston, most founders look to bootstrap through the seed rounds.
  - neltnerb 7y ago
    I agree completely, but it's worth pointing out that a big reason for this is that Cambridge and Boston have vastly fewer and worse connected VCs than the bay area. I did try to pursue VC funding for a hard-tech startup (thin film deposition for making solar panel conductive pastes), but there was really only one VC group that was relevant so there wasn't exactly a surplus of opportunity money-wise just waiting for a good use. Personally I think bootstrapping is way better for startups that intend to be acquired or don't mind growing slowly (or don't mind never really growing much at all). Nothing wrong with "lifestyle businesses". After a few tries, now I have a consulting company that helps people develop their weird scientific equipment and commercial prototypes. I don't really care about funding with that model, and my salary went up 3-fold in one year versus a job at a startup in Oakland. I'll probably create a product soon, I have a prototype about done and I'll definitely try to make a business out of it -- but because most of my income is consulting I can also afford to move slower, do it right, and not have to hire anyone to help with it unless I actually find traction and need help with manufacturing them. Short plug: I'm making color changing strobe light art pieces that use the ganzfeld effect to cause vivid geometric illusions -- not novel in the concept, but the implementation is really good after a decade of casually improving it over time. If this sounds awesome to you do feel free to send a note so that I can let you know when they're ready =) http://neltnerlabs.com http://neltnerlabs.com is the website, I haven't mentioned the art piece on it yet since it's not done but here's a youtube video of the basic hardware before being put into a frame. https://www.youtube.com/watch?v=eFte1ggIVjM https://www.youtube.com/watch?v=eFte1ggIVjM

corford 7y ago

Can't find it now but I remember reading about a recently launched Seedcamp or Point Nine portfolio company that is doing this for B2C SaaS companies I think. You let them plug into your stripe metrics etc. and they then give you debt based financing (using AI/algos to determine amount and rate based on your numbers: churn, growth, recurring revenue etc.)

thoughtstheseus 7y ago
Amazon does lending like this (I think). Tech moving into the merchant cash advance market has creating some innovative financings.
Androider 7y ago
Stripe themselves are also doing it now https://stripe.com/capital https://stripe.com/capital The sums are pretty small right now, but the basic model is there.

motohagiography 7y ago

Sort of thought the whole point of SaaS businesses with lots of employee frills and perks was to eventually attract the activist investors, leveraged buyouts, asset strippers, and other private equity managed debt, as a way to deploy institutional and pension money. Maybe it was cynical, but the point is to generate a long term trickle of ARR that is greater than the interest payments on a debt financing of control of the company, which at a product level is why you need sticky APIs that get baked into institutional customer infrastructure that will yield 10-15 years of locked-in revenue. One of said vultures above raises debt from group of funds, buys a SaaS company, installs managers who understand cost optimization with no concept of growth, and hollow it out. Their nut is paying the interest back to their pension fund creditors, and their yield (after fees, naturally) is the delta between what they can squeeze out of cost reductions and making that nut. I won't name the companies I think will be those targets, but speculating about privately held security companies as an example, it sounds like there is a clear exit sized at 10-15x revenues for anyone with traction, an API, and an office that has free snacks and a climbing wall.

Grimm1 7y ago

I think this article is trying to make something out to be more than it actually is. Debt financing is a specific vehicle that can be used tactically for a relatively mature business (Series A area +) with predictable revenue for specific growth I do not see it as this magical solution to the current issues of VC capital because alignment is often really out of wack in the early-stages before established product-market fit with high dilution and higher investor leverage. In a mature business investors and founders are likely to be more aligned anyway because the founder's model has been working and has some length of history and predictability with regards to forecasting further growth and outcomes. To put it plainly while you can get screwed in the later stages you're much more likely to get screwed in the early stages of running a company. With that in mind, one of the main benefits, as stated in the article that the debt investment is not dilutive, is still nice at the later stages but I wouldn't say people should exclusively decide to go with debt based on that reason alone because the largest dilution (and by consequence chance to be screwed) typically happens in the earlier rounds (unless you're getting bailed out) anyway.

james_impliu 7y ago

At the moment, way more VC money is going into later stage deals as companies stay private longer... that is the chunk that if securitisation becomes mainstream , where VCs will have competition. The impact of this could be really fascinating - VCs would be forced to go even broader in their earlier stage investments, or VC’s own funding will start to reduce as it won’t be possible to deploy the capital at the same return. Maybe it’ll turn out that funding more pre seed companies will be successful - why stop at YC’s 200 every six months. The switchover period would be an entertaining time to be a founder, that’s for sure!

monkeydust 7y ago

Whilst I broadly agree with the article it did remind me of mini bonds, a UK centric concept perhaps. https://www.fca.org.uk/consumers/mini-bonds https://www.fca.org.uk/consumers/mini-bonds These havent been getting good press recently due to a number of failures.

mathattack 7y ago

Interesting article. The reality is places like Silicon Valley bank do provide debt financing. If your SAAS cash flows look like fixed income, that’s a better way to finance them. There is downside to this too. The irony is many traditional businesses that use debt (retail?) really should be equity financed.

paulgerhardt 7y ago

Less any bright eyed startup founder take this post too seriously, I’ll spell it out: venture debt is bad. Debt issued to established companies is an essential mechanism to bridge working capital needs - like GM procuring millions of pounds of sheet metal before selling thousands of cars. This is not controversial. Venture debt issued to startups by bankers, especially by the kind of bank who fancy themselves as a Bank for Silicon Valley, and the types of bankers who, after a few too many cocktail parties with VCs, fancy themselves venture capitalists. It’s just these pseudo-venture capitalists have the risk tolerance of...bankers. If you pioneer a new space, particularly in consumer electronics with high working capital needs and you are initially successful you will be offered venture debt. If you take it, you will be more successful and you will have copy cats. Some of those copy cats will be FAANG companies. When this happens the bankers will freak out and pull your working capital. Or exercise a clause that forces a premature sale. Or...or..or. Woe to you if you were banking on that to make this years Black Friday/Christmas demand. Alex’s post highlights a need in the space. Don’t confuse it with the services currently offered.

gfodor 7y ago
Your last point should come first so people don't miss it -- securitized RR as proposed in this post is not the same thing as venture debt.
aguyfromnb 7y ago
>When this happens the bankers will freak out and pull your working capital. Or exercise a clause that forces a premature sale. Or...or..or. How is this different than the "next round" of a venture raise vaporizing and being left with no money?
- paulgerhardt 7y ago
  Time horizon. Capital gives you 18 months. Your debt instrument can be pulled overnight.
  - wbl 7y ago

_marlowe_ 7y ago

"When you acquire some customers and they start yielding revenue that behavior sounds an awful lot like buying a fixed income instrument..." This is so intellectually dishonest. He even goes on to equate recurring revenue with cash flow. Not the same! So often companies point to ARR as success without acknowledging other structural cost issues in their businesses. "It's basically AAA debt. Now give me a 30x revenue multiple." -SaaS investor who wants it both ways SaaS is just one of many recurring/contractual revenue categories, but VCs talk about it like its a revolutionary business model that should yield some extra reward from the capital markets. Recurring revenue has been around forever in more traditional industries. Yes, reliable recurring revenue (with +FCF) can support leverage, but claiming that it looks and acts like debt is either ignorant or deceptive. It is 100% equity risk and that kind of magical thinking is just vulture bait.

erlend_sh 7y ago

Isn’t this essentially a different way of doing what Earnest Capital is already doing? https://earnestcapital.com/ https://earnestcapital.com/

cryptica 7y ago

>> And when founders really get a taste of that credit? That sweet, sweet taste of dilution-free capital, flowing freely to and from a continuous growth vehicle At that point, cryptocurrency prices will start rising fast as fiat currencies start hyperinflating; free money is worthless money. People will dump the old fiat currencies and start buying up cryptocurrencies with their free debt-fueled fiat. Companies will no longer need debt; to raise capital, they will be able to create a new cryptocurrency and list it on Decentralized Exchanges; then they will use the profits from their business operation to buy-back coins from investors at a predetermined rate. Companies could even use open source code to operate their own decentralized exchanges so that there would be no intermediaries between a company and its investors.

reggieband 7y ago

I commented a few weeks ago on startup ideas saying there was a gap in SaaS financing models. VCs have been abuzz about the opportunities in slow-burn SaaS businesses that have generated predictable recurring revenue streams. This created two classes of potential VC investment - pre-revenue moonshots for billion dollar unicorns and post-revenue SaaS businesses with healthy balance sheets. I lamented that left a gap for pre-revenue slow-burn SaaS businesses in unproven markets. I can imagine debt being a potential gap filler but only in established markets where lenders have points of comparison. This article skews on the side of pushing VC money out of the post-revenue slow-burn SaaS space. To be honest, if I was a founder running a healthy SaaS business wishing to grow then I would probably prefer debt compared to handing out equity. But if I am starting from complete scratch and my goal is to build a slow-burn SaaS business (maybe even of a lifestyle business scale) I don't know I would jump onto debt as my first choice for funding. The only viable options I see other than personal savings are friends/family, government entrepreneurial grants and potentially crowd sourcing.

spyckie2 7y ago

The biggest problem with this idea is that it doesn't really have a good market space. If your company revenue is too small, your subscription backed debt is just an inferior financial product compared to equity, which handles risk much better. If your company revenue is large enough, you have plenty of financial tools to keep your company fiscally healthy. The only time I can see it being useful is if you want to trick rich non-investors to give you money by pretending that your startup has value when it doesn't (similar to an ICO). Let's say you had a subscription user base and the retention / LTV data to convince finance people to treat it as a security. That usually is the sign of a successful startup, and you'd also likely have access to venture capital as well. As a founder, is it worth your time to come up with a new financial product and convince people to buy it? In my opinion, you're probably better off doing a round because it will close much quicker and you'll know what to expect, and you can focus on growing your business instead of convincing everyone of your non-standardized, not well understood financial product offering. Good luck closing a group of institutional investors with that. Now, why do finance people create new financial products? One reason is to investment larger amounts of money all at once - so create asset classes and then buy them in bulk because you have a $5b dollar fund and can only afford to look at $500m deals or more. This is probably the only reason why you'd want to create a subscription backed debt - collect them up and allow people to participate in returns on startups without becoming a VC. But this is much more likely to be a repeat of the mortgage crisis rather than being actually beneficial to the economy.

virgilp 7y ago
I read it the other way around. If BigCash, co. advertises “we securitize your growth - get free money to grow based on your business metrics!’, and you’re a startup founder - would you be interested, or would you say “nah, I think I’ll just do another round”? OTOH I’m not sure I understood it well :D
- spyckie2 7y ago
  Good point - there are a ton of SMBs that have good business metrics, usually as a result of being around for a long time. I would think that these companies would be the primary audience for this - they would use the flexibility that a securitized revenue stream allows them to smooth out any cash flow problems they had. The majority of startups use investment to get to profitability / stability. This is why I think debt is a poor choice in general for the startup and tech market. I'd hope BigCash, co. models out default rates, not just SaaS metrics, and the adage, 9 out of 10 startups fail, while a bit harsh on revenue generating startups, doesn't bode well. If offered, I can see a very well positioned startup who has access to VC preferring to raise debt to avoid the hyper growth push of VCs and grow at their own pace. But also if offered, I can see a lot of high default risk companies use it to get cash because other options are not available, and the riskiness is why I didn't even think of an institution offering it in the first place - or just a repeat of the mortgage crisis.

tempsy 7y ago

Aren't SAFEs effectively debt?

iamwil 7y ago
no. you're thinking of convertible notes.
- tempsy 7y ago
  That’s “effectively debt” - it converts to equity upon a new round but if the company fails or doesn’t raise then it’s more like debt than equity.

awinter-py 7y ago

if you have structured settlements and you need cash now call JG wentworth if you need cash now

gfodor 7y ago

The post is predicated upon assumptions surrounding the risk to recurring revenue cash flows from SaaS customers. I'm not sure why the author thinks these cash flows can be well understood enough to securitize to support lending -- it'd be good to understand what's changed recently (given that the first SaaS companies are more than 20 years old) that lead one to believe debt markets can now suddenly price risk on these revenue streams now. In other words, why should we expect this now, if it hasn't happened already? If we suddenly saw debt markets becoming attracted to startups, I'd put just as much weight upon it as a cultural norm shifting than fundamental analysis showing a change to the risk profile. And you know what that means: if it's a cultural change, not justified by new evidence, it's either a late realization (safe, and regrettable) or irrational (incredibly dangerous.)

ahominid 7y ago

My background in financial engineering is limited to trying to make sense of articles like this so maybe someone more in-the-know would be kind enough to help me understand. But when you securitize an asset, isn’t it typically an asset that has intrinsic value, e.g. property of some sort that can be easily liquidated? It seems to me that recurring revenue for a service only has value as long as that service exists. So if some startup selling dog food subscriptions stops providing that service, the subscriptions are worth exactly zero. To take the example further, would said startup now be unable to sell the book of business to someone else before going broke?

swiley 7y ago
I’d imagine that’s how you end up with companies like Verizon taking over services like tumblr.

gerdesj 7y ago

> Debt is going to finally come to the tech industry Bear in mind that the tech industry exists in all countries with a population greater than 10. Also consider that this: > When people in tech want to sound smart, one name you can drop is Carlota Perez. ... is probably nonsense or at best pointing out another point of view. Not all companies work the way you think they do. Not all companies want to be yoked with the burden of continuous economic growth, always beholden to the irksome shareholder. My little company is about 20 years old now. We have never been in debt apart from a mortgage that we could pay off tomorrow (probably, cough ... ish) We will never set the world on light and you will never hear of us. We have 20 odd employees now and in five years time probably 20-40. A few years back the UK decided to cede the union with Europe (c'est la vie.) The pound slid south about 30% rather quickly and IT stuff became 30% more expensive nearly overnight. We import nearly everything IT here in the UK. I can't say that my company noticed any downturn in trade, actually we have just hit £1M t/o two months early this year. I hate this sort of article. Maybe in the US all companies are multi billion t/o setups. Here in the UK we are all simply "shop keepers" (Emperor Napolean said so) and fucking proud of it.

ThrowAwayGlen 7y ago
Thank you. I read this article twice, thought I was completely missing something. No, it's a pretty obvious statement wrapped around pseudo-intellectual ideas of Carlota Perez and presented in an Emperor's New Clothes style where if you disagree with it you're an idiot ("Maybe not all investors get this, but the smart ones do"). Alex was previously at Social Capital, a fund with amazing PR and huge egos combined with very mediocre financial results and awful morals. It would not surprise me at all to see him get back into the game by starting a fund using drivel like this post to sucker LPs into writing him checks.
- eru 7y ago
  The article seemed pretty straightforward. Perhaps a bit too excited. But the fundamental thesis that the predominance of equity financing in tech is an aberration and will likely come to an end, seems rather plausible.

alecjaco 7y ago

It's been here since the beginning? "Apple received its first big investment, a guaranteed bank loan of $250,000 from Mike Markkula in 1977 (the equivalent of over $1.1 million)" https://www.cnbc.com/2020/02/06/steve-wozniak-on-steve-jobs-personality-shift-as-apple-co-founder.html https://www.cnbc.com/2020/02/06/steve-wozniak-on-steve-jobs-... also vc covenants etc?

ceohockey60 7y ago

IIRC there is at least one Silicon Valley example of this already: Zappos pre Amazon acquisition, debt from Wells Fargo. It was forced upon Zappos b/c VC fundraising dried up, not a deliberate choice, but ended up working out well b/c its GMV was both growing and becoming predictable.

patrickrivera 7y ago
I believe this article is focused on a different type of debt - "recurring revenue securitization" (focused on companies w/ a SaSS business model). This type of financial instrument is different from a traditional venture / bank debt instrument in a couple ways: 1. it can be more favorable to startups by making payments a % of revenue instead of a fixed amount (ala ISA's) 2. the lender can earn higher interest by "securitizing" (e.g. pooling together) multiple loans and selling them. this allows the lender to move some debt off the balance sheet and in turn deploy the cash for higher yield 3. over time, the lender could provide more favorable terms by creating more accurate risk models by ingesting data from sources like Stripe and Shopify across companies and then building proprietary data sets to manage default risk. I believe Clearbanc does something similar today. One potential downside of this model is the interest the company receiving the load would have to pay as stated here - [http://www.adventurista.com/2009/01/true-cost-of-venture-debt.html](http://www.adventurista.com/2009/01/true-cost-of-venture-debt.html) http://www.adventurista.com/2009/01/true-cost-of-venture-deb... Would love to see this model work though.

rdlecler1 7y ago

I frankly didn’t understand this article. First there’s already VC debt, and Silicon Valley Bank is also a big lender. There are lots of shops out there that will loan against revenue streams (often we see this tied to hardware). Also the idea that a basket of debt is going to have some enormous payoff Is just painful to listen to. Your upside is capped and you can have ruin. Who wants to invest in ultra junk bonds. The reason equity financing works for startups is the promise of an enormous outsized outcome That pays back all of your losses.

lucas_membrane 7y ago

Odd that the article mentions startups 14 times and hedge funds zero. If a significant percentage of a profitable tech company with established customers and a revenue stream derived from long-term contracts with customers is owned by hedge funds, the hedge funds will flex their muscles a little and convince the company to start borrowing money so that it can buy back some of its stock and pay higher dividends. If such a company does not have a significant constituency of shareholders among its shareholders and has little or no debt, its managers will realize that their company is one that hedge funds are likely to want to own and influence, and that the best way to discourage the hedge funds is to take on debt to buy back stock and raise dividends. Q. E. D.

jigglypuffs 7y ago

Someone tldr it please

leoplct 7y ago

How to securitize SaaS cash-flow nowadays ?