Venture debt in the German market
The main advantage of venture debt is that it gives young growth companies access to debt capital during the growth phase. They receive this debt capital at a stage when they generally do not yet have access to traditional bank financing due to the lack of tangible assets as collateral and the lack of sustainable profits from operating activities. In contrast to raising capital as part of an equity financing round, with venture debt there is no dilution of shareholders and holders of equity incentives (ESOP, VSOP) as a result of raising financing, with the exception of warrants. — In contrast to an equity financing round, there is also no need to determine a valuation of the company to be financed when taking out a venture loan. The transaction duration of a venture debt transaction is generally shorter than that of an equity financing round. A typical venture debt project can be completed in around 6 to 8 weeks.
Venture loans are generally not a stand-alone financing solution, but a financing instrument that is used to complement equity financing rounds. Venture loans are often taken out between two financing rounds in order to finance the company’s further development until the next valuation-relevant milestone is reached. Another example of the use of venture debt is the bridge financing of later-stage start-ups until a planned IPO or exit, without diluting existing investors along the way.
Venture loans are senior, high-interest and collateralized loans that are usually granted on the basis of a written loan agreement ( term loans) and are collateralized with the company’s assets. Venture loans generally have terms of between 36 and 48 months. In addition tobullet loans, where the company only pays interest during the term and the full loan amount is only due for repayment at the end of the term, venture loans withamortizing loans tend to dominate the market. With these, after an initial repayment-free phase (usually 12 and 24 months) in which only interest has to be paid(interest-only period), the company pays the venture lender regular (usually monthly) annuities consisting of interest and repayment. Venture loans in the form of abond are less common.
The higher risk assumed by the venture debt provider corresponds to the control and information rights customary in the industry in the venture loan documentation, usually in the loan agreement. In practice, the so-called negative covenants are important here, i.e. contractual clauses that prohibit the borrower from implementing certain legal measures or taking them without the consent of the venture debt provider.
Typical examples of such negative covenants are the prohibition of distributions to shareholders during the term of the loan, the prohibition of the sale of significant assets or significant shareholdings or the prohibition or restriction of taking out further debt financing or further collateral during the term of the loan. Non-compliance with these covenants by the borrower leads to a breach of contract, which entitles the venture debt provider to terminate and accelerate the venture loan if the company does not remedy these breaches.
When drafting the contractual documentation for German deals, care must also be taken to ensure that venture loans are sufficiently clearly distinguished from the legal institution of the shareholder loan and, in particular, from so-called equivalent third-party loans. — The venture debt provider is not a “shareholder-equivalent third party”, but an external financing partner.
You can read the detailed article by Dr. Stefan Gottgetreu and Andrea Schlote (both Bird & Bird) on “Venture debt in the German market — differentiation from the legal institution of shareholder loans and equivalent third-party loans” in the new issue of FYB-2024 or order it as a PDF!
Dr. Stefan Gottgetreu
is a lawyer and partner at Bird & Bird with over 20 years of experience in the venture capital sector as well as in mergers and acquisitions and general corporate transactions. His focus is on early stage/start-up advisory and venture capital transactions (both equity financing rounds and venture debt), where he has advised on more than 80 successful deals in technology-intensive industries over the last ten years.