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Scott Orn

Scott Orn, CFA

Jon Prentice of Lighter Capital on Revenue Loans for Startups during COVID

Posted on: 04/08/2020

Jon Prentice

Jon Prentice

Director of the Investment Team - Lighter Capital

Jon Prentice of Lighter Capital - Podcast Summary

Lighter Capital provides revenue-based loans to startups. Jon Prentice discusses how this funding strategy works, and how his firm is helping fund startups during the COVID crisis. Read all of Kruze Consulting’s COVID and PPP Loan-related content here.

Jon Prentice of Lighter Capital - Podcast Transcript

Scott: Hey, it’s Scott Orn at Kruze Consulting and before we get to a terrific podcast with Jon Prentice at Lighter Capital, quick shout out to Rippling. Rippling, payroll benefits and a phenomenal IT integration that helps you spin up new employees, you provision them, they’re automatically able to access web services that your business uses. You don’t have to spend a ton of time provisioning them, and if you know … Unfortunately, if you have to let people go you can de-provision them, too. So, super powerful. It saves … I think it will save about three hours per person hired, which I know our IT services firm charges like 140 bucks. That’s $420 for every person you hire, which is totally crazy. Rippling did it automatically, and they also have a fantastic payroll service. They also handle contractor payments. It’s just a great product. Shout out to the team at Rippling. Also, a shout out to the team at Kruze Consulting. Thanks for making it so I can do this podcast. We have 70 people now at Kruze. It’s been phenomenal, phenomenal growth. We work with startups. We do all the startup accounting. We do all the startup taxes. We do all the financial modeling, budget to actuals, all that stuff you need. This is really the season for taxes, not only just tax returns, but R&D tax credits. We are super strong at that. I think we did 4-1/2 million dollars of R&D tax credits, so we saved our companies that much money in burn last year, which is crazy. So, shout out to Kruze. Now to Jon Prentice of Lighter Capital.
Singer: (singing) It’s Kruze Consulting. Founders and Friends with your host, Scotty Orn.
Scott: Welcome, Jon Prentice, to Founders and Friends podcast with Scott Orn. It’s great to have you, Jon. Thanks for coming on.
Jon: Yeah. Thanks Scott. Pleasure to be here.
Scott: So, Jon and I have been friends for a couple of years, and Jon works at Lighter Capital, one of the big lenders to startups. I thought with COVID-19 going on, and the world moving and changing so fast, I thought we’d better have Jon on to kind of refresh the Lighter Capital story, and also talk about how the firm’s handling new deal flow, existing deal flow, in this new world we’re living in.
Jon: Yeah, absolutely.
Scott: Maybe you can start by just sharing your background with the audience and how you got to Lighter Capital.
Jon: Sure. So, I’m born and raised, from the Seattle area originally. I spent a couple of years working and living down in the Bay Area, where I actually worked at Siemens in their corporate venture group doing partnerships and investments with startups. So, at Siemens Venture Capital, and another there is I did … Or, was Siemens Venture Capital at the time. … Another group that does more kind of technology partnering. It was mostly energy Smart Grid was the work. So, I did that for a couple of years. Really liked the corporate VC side as far as kind of interfacing between a big company and a startup, definitely very interesting but can be frustrating at times as far as kind of the different speeds. So, did that for a couple of years and kind of wanted to work at a startup, but I was still interested in this kind of VC kind of transactional work, and I wanted to come back to Seattle because I’m from Seattle originally. So, I started connecting with all the VCs in Seattle, which there’s really kind of five of them. It’s a pretty small market compared to the Bay area, obviously. So, started talking to folks around town and one of the VCs that I connected with was Voyager Capital, which actually had done a lot of co-investment with Siemens on some of the Smart Grid stuff that we’ve done. So, got connected with one of the partners there, Eric Benson, and he actually is the one that directed me to Lighter Capital. So originally, I was kind of interested with working with Voyager Capital, but he said, “Hey, I have this really interesting portfolio company that we’re incubating right now called Lighter Capital,” which he was technically founder for. The idea actually came from one of his business school professors, Clayton Christensen, who, obviously, passed away earlier this year. It was this idea of applying royalty revenue-sharing arrangement to other industries besides kind of the traditional where you see it, oil, pharmaceutical, media, with movies. They thought, gee, this could be interesting if applied to venture finance or tech finance. Maybe this is a potentially kind of disruptive financing model. So, he, Clayton Christensen, put out an academic white paper on it. Eric Benson, who was a general partner at Voyager, read this white paper, and started talking to some people around town, and connected locally in Seattle to a gentleman by the name of Andy Sack who ran Techstars Seattle, Founder’s Co-op Seattle, a very kind of well-known Seattle area angel investor. The two of them started talking and thought, gee, this might have interesting wings as a business model. So, Voyager Capital actually seeded the company as the original investor, so we ourselves are VC backed, and then Andy sack was the founding CEO. So, that was in 2010. The company kind of got off to a little bit of a kind of an interesting start, shall we say, as far as kind of experimenting with the financing model and what worked and kind of didn’t work. Andy Sack actually stepped down in 2012, and so they brought in the new CEO who kind of restarted the company, and then I came on board after I connected with Art Benson in 2014, as the first kind of sales relationship person when they really wanted to start driving the origination growth.
Scott: So, you’ve had five good years there. It’s been a wild ride, but you guys have grown quite a bit in those five years, right?
Jon: Yeah, it’s been interesting to see it from progress where it started to kind of where it is now. It’s interesting, because we’re working with other startups, but we’re also technically a venture-backed entity, so there’s definitely the pressure to keep growing the top line, just like any sort of software startup. Obviously, as a lender it puts you in this interesting position where you want to grow originations, you want to grow the portfolio, but you don’t want to grow it in the wrong way, so kind of being fair and balanced about that.
Scott: So, starting … That’s the hard thing about a lender is you want to grow as fast as possible but you can’t grow … It’s like being on one of those, the bachelorette, you don’t want to be there for the wrong reasons …
Jon: Right.
Scott: … Kind of thing. So, you and I have seen a million lending companies blow up over the years, but that’s what’s been really interesting about Lighter, you guys you haven’t grown too fast, you’ve grown at a really nice pace, but you’re also probably the biggest kind of non-warrant, non-bank lender on the market, right?
Jon: Yeah, we definitely kind of made a name for ourselves, particularly in the non-equity-sponsored category. I would say there might be some other lenders there that are larger by overall kind of maybe potentially portfolio size and principle deployed, but as far as kind of number of companies we’ve worked with we’re probably the largest. I mean SaaS Capital is another one that we see a lot and are close with. They probably also have a pretty sizable portfolio at this point, but they’re doing larger deals. They’re slightly up market from us. Average check size is much larger, too. We work with earlier-stage companies than they will, and then we’ll kind of work with them all the way up from it could be 200,000 in annualized revenue, all the way up to maybe 20 million in annualized revenue.
Scott: Wow, that’s amazing. One of the reasons that you guys are … One of the things you’re kind of known for in the industry is not demanding warrants. Most typical venture lending firms, like Lighthouse where I worked, always once a piece of the equity, which you understand, like they want a piece of the upside, but Lighter actually has a different model, so you guys are more kind of interest based instead of equity based, right?
Jon: Yeah. So, the model to date has not to take warrants, or any sort of equity kickers, or success fee structure. Earlier on we actually had more of those. We kind of moved away from it for a couple of reasons. It’s hard when you have a larger portfolio just kind of tracking all those warrants. I think, especially, in the non-equity sponsor category it’s really kind of hard to value those and understand … Well, if it’s kind of a lifestyle company, and these entrepreneurs don’t actually want to sell the business is that warrant actually going to amount to anything? I would say not having the warrant piece does really resonate with a lot of optioners that are sensitive to the dilution and control piece. That said, we consciously are trying to move up market and actually even thinking about how we can do more traditional venture debt structures that are equity sponsored, and just moving up to work with larger companies. So, we’re actually thinking about, for those kinds of companies maybe we do have a warrant component. It makes us much more competitive with a lot of these other venture debt structures out there that these companies are more accustomed to seeing.
Scott: When you say more competitive, is that because you can effectively lower your interest rate a little bit if you’re factoring in a warrant, at a later more series A, series B type of …
Jon: Totally.
Scott: … Venture capital company.
Jon: Totally. So, right now I would say our interest rates are in line with most venture debt, mezz debt, and on bank, or maybe a little bit higher when we don’t the warrant piece, so that’s where we’re pretty competitive. If we really want to go head-to-head with like a WTI, or any big venture debt lender, I think you need a more traditional venture debt structure where it’s lower on the rate and then you have the warrant piece on the back end.
Scott: That makes total sense. I think, where we’ve seen product market fit for you guys in our client, the Kruze client base is, we have a lot of SaaS companies who raised a couple million, or 3-4 million, and they seem to really love working with you, and we’ve sent quite a few over your way. It’s been a good experience for them, so that’s why I wanted to have you on the podcast, because our clients are actually asking for Lighter Capital a lot more often.
Jon: Cool.
Scott: The value prop seems to really fit there.
Jon: No, it’s great. Yeah, there is that one that we just worked with actually as of a couple of weeks ago that came introduced from you.
Scott: Yeah.
Jon: I would say, one item that probably differentiates us from other venture debt lenders is just the kind of credit profile that we’re looking for. In a way we prefer bootstrap companies, since these are mostly non-equity sponsored. We prefer the companies that are more capital efficient, they are break even or closer to break even. Maybe they don’t have 100% year-over-year growth, but they can get to break even, or they’re already at break even, and they’re growing a little bit slower, and that’s fine. Especially since we’re not really counting on the warrant piece on the back end for part of our return we’re kind of less concerned of understanding, Oh their market is this big so, therefore, the warrant’s going to be this valuable, sort of thing.
Scott: Where do you see … Maybe you can talk about Lighter Capital’s funding base and where you draw capital, because I think it’s always important to tell our companies this. Actually, the funding base actually really helps you understand your lender and what they care about. You know, sometimes people have revolvers with other banks or things like that. How are you guys financed?
Jon: As I mentioned at the beginning, so we ourselves are a venture-backed company, or private-equity-backed company. We kind of fall under the definition of Fintech, or even specialty finance. So, we have equity financing that we’ve raised to-date technically through a series C, through various, some strategic, and Voyager Capital out of Seattle has been a major investor, too, and supporter of us, some super angels, too, over the years. So, that’s really funding the operational side, so my time, our marketing team’s time, we have a underwriting team, too, their work. We also have a tech team, too, that’s actually developing more kind of the underwriting software side of the business every day. That’s allowing us to do these loans that are pretty high volume, and do the ongoing kind of payment and monitoring of them at a higher volume than maybe a lot of other venture lenders are. So, that’s funding all the operational side. Outside of that, we’re really set up like a private credit fund, where we have our own limited partners. So, to date we’ve had three funds technically, and then we have … More recently we closed a 100-million-dollar fund with a group based in Southern California called HCG. This is all public. There was a press release that just went out about this. So, that’s a new 100-million-dollar fund that we just closed. So, we’re now deploying that fund. Prior to that we had a 100-million-dollar fund from a group based in the Bay Area called CIM, Community Investment Management. Both these groups are fund-to-funds, traditional fund-to-funds, collection of family offices, endowments throughout the country, that are really interested in alternative specialty finance companies, alternative lending models. They, I would say, are definitely a little more conservative, which is where I think kind of our lending profile resonates with them as far as working with these closely-held B2B SaaS companies with good recurring revenue models, closer to break even. They’re not the kind of higher burn companies that you typically see. So, that’s been the funding sources to date. They also have a social impact investment mandate, too, so we actually we report a lot of data back to them as far as kind of job creation, percentage of female founders funded. They’re really interested in geographically, too, where we’re funding companies, because it’s not just West Coast Silicon Valley focused, whether Seattle, San Francisco, New York, or kind of any of these major hubs. It’s really companies throughout the country. So, Rocky Mountain, Carolinas, where maybe there’s not as much venture funding. There’s not an angel investor on every corner like there is in San Francisco, and the tech banks aren’t as active, too. So, they’re really interested in that data, too, as far as kind of social impact in what we’re doing. I would say that’s really a core component, too, as far as kind of how we think.
Scott: That’s fantastic. Maybe it’s worth spending just like a minute on your repayment model, because I think that’s pretty unique. A lot of venture lenders have like a set amortization payment, but you guys you have a couple of different options in the way that borrowers can pay Lighter Capital back.
Jon: Yeah. So, traditionally we started with this royalty revenue-based financing model where we would provide funding upfront. Technically a term debt structure, and the way that loan is repaid is based as a percentage of future monthly revenue, or actually net cash receipts. So, it’s truly a royalty revenue sharing arrangement where companies are paying us anywhere from 1-9% of whatever their net cash receipts is that particular month until they hit a predefined amount over a set term, typically a 3-4-year term. So, there’s a repayment cap, or we call it a repayment cap, that we’re looking for by the end of that 3-4-year term. Typically, it’s anywhere from 1.3 to maybe 1.5, maybe 1.6X, on the very high end by the end of that 3-4-years. So, meaning, if we funded a company 100,000, or let’s use a million dollars, upfront and we are looking for a repayment capital 1.3. By the end of 3-year, or 36-month term, we’re looking for 1.3 million. So, once they hit that predefined amount through that royalty revenue sharing arrangement, that’s when that structure is paid off. Then, we’re not going to have … The warrants on top of it usually don’t have financial-based covenants there, too.
Scott: I didn’t realize it was so precise on the 1.3 multiple. That makes tons of sense. Maybe we can- [crosstalk]
Jon: That was just one example.
Scott: Oh, one example. Okay, sorry. Yeah, yeah, yeah. I was like, wow, 1.3 every time. So that’s one example, and that can fluctuate depending on how risky the company is, or what the profile is, right?
Jon: Totally. Then, beyond that we’ll do traditional term-debt structures, too, where full amortizing using term loan, 36, 48-month term, set interest rate, set monthly payment. Obviously, with that you’re going to have a more fixed repayment amount than the royalty revenue-based financing model. So, there’s different advantages and disadvantages depending on the company, and the stage, if there’s any element of seasonality. So, EDCAD companies, for example, really like our royalty revenue-based financing model, because their cash collections are so lumpy depending on the academic calendar. Then we’ll also … We just started doing lines of credit, too, for short-term working capital needs, which is pretty unique as a non-bank lender.
Scott: That’s really interesting. What does that instrument look like?
Jon: It’s a true line of credit, revolver. Generally, as far as kind of interest rates it’s slightly discounted from our term loan or revenue-based financing structure, kind of low teens to high teens. Don’t have financial-based covenants with that typically, too, and it is a year-long facility, and it’s really meant for shorter-term working capital needs. So, if a company has good accounts receivable base, because it is an AR-based line of credit, we’ll lend on average about 80% of company’s average AR in the past 12 months. If a company has larger customers that are slow to pay, you know Fortune 500 companies, we determine the availability based on that, and then they can make up to two draws a month on that line of credit, and then they only pay interest when they make draws and they’re running a balance. Then, theoretically, if they don’t utilize the line of credit they aren’t actually paying anything, which is kind of unique compared to a lot of line of credits. There is an origination fee on the front end. That’s just to cover some of our fixed costs, and then that’s a yearlong facility, but really addressed for more kind of shorter-term working capital needs, where the revenue-based financing, the term loan, is meant to be for more growth capital.
Scott: That’s … I had no idea you guys actually had that instrument. That’s really powerful, because it is nice for companies to be able to borrow and repay at their own leisure, and so you guys make that really accessible. That’s really cool. Well, maybe we can transition to just the COVID-19 whole thing, and the environment we’re in. What are you guys seeing? Are you guys open for business? Are you doing more deals? Is it a great time for you? Is it a not great time for you? How are you reading the market?
Jon: Yeah. Been having a lot of these discussions recently. It’s interesting, right? I mean, obviously, for everybody it was very sudden as far as kind of how the market shifted. I can certainly say we have companies that have been impacted, especially in verticals that have really been impacted. So, we have companies that are selling to bars and restaurants, companies that are doing tourism, kind of travel booking, that sort of stuff has been pretty tough. So, really trying to work with a lot of our clients through this time right now. So, that’s been an impact we see in our portfolio. We have some companies that really haven’t been impacted. Maybe it’s pipeline, or deals are moving a little bit slower through their pipeline, but that’s it. Believe it or not, we have some companies that have actually benefited from this as far as kind of what it’s meant, people changing behavior and people working from home. So, companies that provide remote collaboration tools their business is booming. Companies that have the tech solutions to enable online distance learning their phone’s ringing off the hook. Delivery services, any of those. So, it’s kind of balanced across the portfolio as far as kind of what we’re seeing. I’ve had companies, too, that were in the process of raising an equity round, or trying to close an equity round. I’ve been hearing a lot about people getting term sheets pulled, or the VCs are coming back and saying, “Hey, we just want to put things on hold right now. Our LPs don’t want to commit capital at this moment.” I’ve been hearing a lot of that. So, I do think … I mean on the startup fundraising side I do think the market is going to get a lot tougher. I think a lot of that liquidity is going to dry up, or kind of already has started to, which for us as companies that maybe don’t want to raise VC, or they want to wait another year until the market improves, I think actually does present a good opportunity for us, since we don’t already need a VC and a company to do any lending.
Scott: Yeah, that’s a great point. You also touched on something I think is worth explaining, that the LPs don’t want to do a lot of capital calls for a venture fund, is actually important to understand. It’s one of these … There’s a lot of VC firms saying, “Hey, we’re open for business,” and they are but their LPs are kind of quietly hurting because their whole portfolio has shrunk. So, every time they’re doing a capital call for a venture fund they’re effectively selling some other security that’s depressed to fund that capital call. So, we actually saw this in 2008, where our LPs were hitting our Capitol calls, but they were kind of like, “Hey.” They’re very polite about it, they’re like, “Can you slow down the capital calls?” We don’t want to sell too much at the bottom, we want to let the markets recover a little bit. So, I think that’s a phen … People, everyone talks about venture capitalists, but the LPs are really kind of the muscle behind the scenes that fund the whole industry, and so I’m seeing the same thing. I haven’t heard of like LPs pulling out, or anything like that. They’re just, everyone just wants to kind of proceed with caution right now.
Jon: Yeah. I’ve even heard from a couple of VCs, and other lenders, that are really just putting things on hold right now.
Scott: Yeah.
Jon: They’re not doing deals right now. That’s not us. We’re still funding companies right now. I would say for companies in verticals that are impacted by this, we’re definitely holding off on that right now, until we kind of figure out what the market looks like and getting through the next couple months. But, companies that benefit from this trend, for better or worse, or aren’t really seeing any adverse impact, we’re still originating loans.
Scott: That’s awesome. Well, like I said our portfolio of clients is asking for you, and I’ve become a big believer in your model. It’s super entrepreneur friendly. It’s like folks don’t even know how many kind of non-VC-backed companies that are actually really good companies that actually just needs access capital, and so you guys have become the go to sort of, and I really like your model of, Hey, you could raise VC if you wanted, but why not take a million dollars from Lighter Capital and hold off for a little while and improve your evaluation over the next six months, and then go raise VC capital. That to me is a perfect model to follow if you’re a startup.
Jon: Yeah. It’s all about providing optionality of, maybe you don’t raise VC now, or you don’t raise VC at all, or you just want to delay the point where you’re going to raise venture capital until you can get to a higher run rate, higher growth rate, and the terms and valuation would be better, and you’re really just going to have more leverage, I think, especially, in this market. If you can buy yourself six months, or a year, until the market, and the economy, hopefully, turns the corner, I think that’s wise.
Scott: Yeah, I totally agree. Well, Jon, I appreciate you coming on. This has been awesome and, like I said, you guys have a great funding source for startups, whether they’re venture backed, or not, and we’re seeing a lot of folks, we’re pushing them your way, and I look forward to doing many deals together in the future.
Jon: Yeah, thanks Scott. Appreciate it.
Scott: Yeah. Stay safe in Seattle. We were talking before turning the mics on that your wife is a hero, and doing a lot of statistical work, and in the medical community.
Jon: Thanks.
Scott: So, be nice to her when she comes home at night. Give her a back massage, and make her dinner, and make her feel special, and thank her on our behalf.
Jon: I will. Thank you very much.
Scott: Awesome. Bye-bye. Thank you so much. Appreciate it.
Jon: Yeah.
Singer: (singing) It’s Kruze Consulting. Founders and Friends with your host, Scotty Orn.

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