Financing Your Startup with Debt - Good or Bad Idea?

Image by DanielaNob via Flickr

If you're an early stage company at some point you may consider financing your business with debt as well as - or instead of - equity.

There is no simple right or wrong answer about taking on debt as, with so many things in startup land, it depends ... on the company's stage of development, the availability of other funding sources, etc.

And as usual with banking, the less you need it the more available it often is.

Over the next few weeks I'll explore some of the factors to consider in looking for and taking on debt in your startup.

However, remember that debt is not like equity and there is a requirement of regular repayment of the principal along with the interest.  At some level its the same as a mortgage on your home - you repay principal and interest monthly (perhaps starting after some months of grace period) and therefore you need to be comfortable that you will have the ability to repay this debt even if the value of your business declines. You therefore need to be very comfortable that the reason to borrow is to use the loan as a bridge to a key event or milestone - a sale of the business, completion of an equity funding round, achievement of consistent positive cash flow in the operations of the business, etc.

I am not a fan of borrowing to generically "extend your runway". Unless you have a clear and achievable goal with a high probability outcome that the debt will bridge you to, then you will have simply created a pier and when you plough into the water you'll be in a lot deeper than when you were dabbing your toes in at the water's edge!

So, Rule #1: Use debt only to build a bridge, not a pier!