Fundamental Funding: How basing funding on business fundamentals helps early-stage enterprises
It’s not easy growing a business – and it’s even harder when that business is a social enterprise. Unfortunately, in many emerging markets, the challenges of serving BoP customers are multiplied by difficulties in securing appropriate financing.
Take India, for example. The country’s small and medium enterprises sector is severely underfinanced, with a debt gap estimated at INR 26 trillion (around a quarter of the country’s GDP). Banks and larger non-banking financial corporations have not been able to meet this demand effectively. The reasons for the lack of traditional bank funding are manifold, but they primarily stem from the lender’s desire to focus on a company’s track record instead of its future prospects. Traditional lending in India is also largely collateral based, relying on security value rather than business fundamentals as the basis for lending decisions.
Now apply this scenario to India’s burgeoning impact sectors. Hundreds of entrepreneurs are following their dreams, setting up innovative businesses in education, clean energy, health care, water – all part of infrastructure that India needs to sustain and grow its economy. These business ideas are able to access equity funding from the multitude of angel investors, seed funds and venture capital firms that support early stage enterprises. But once they are past the proof of concept and need working capital to trigger their firm’s growth, they hit a funding snag. At that stage, with no lenders in sight, the only available option to the entrepreneur is to go to equity markets for the next round, heavily diluting their stakes for raising amounts that will become trivial in a couple of years once the company hits its growth path. It’s to address this critical gap in the financial ecosystem that IntelleGrow was conceptualized in 2010.
IntelleGrow‘s model addresses the gaps in the financing system by providing viability-based debt financing to fast growing early-stage enterprises. This access to debt for meeting working and growth capital requirements, in turn, becomes a catalyst for start-ups to kick-start their growth and achieve scale. With ticket sizes ranging from INR 5-30 million, IntelleGrow’s target customers are typically enterprises with turnover of less than INR 500 million and with around 12 months of operations. Not surprisingly, most of these companies are outside the banking spectrum, with IntelleGrow becoming the first lender to around 70 percent of its portfolio companies.
In our first two years of operations, IntelleGrow has been involved in 35 transactions, lending more than INR 350 million to companies in clean energy, education, water and sanitation, and health care. Four key pillars define our investment strategy: strength of the entrepreneur, business viability, scalability prospects and impact creation through the business being lent to. Unlike traditional bank financing, IntelleGrow focuses primarily on the future viability and cash generation prospects of the business. The financing solution is then customized, with flexible repayment schedules linked to the borrower’s cashflows. There is no reliance on collateral (i.e. security through personal assets outside the business) in assessing the loan.
IntelleGrow’s venture debt offering is a clear recognition of the value that early stage debt creates for small and growing businesses. The company’s success, reflected in large demand for its debt product and an impeccable track record of repayments from all its investments so far, is a clear indication that this is a product for which the time has come.
Simmi Sareen is head of portfolio for IntelleGrow, a venture debt fund that supports small and growing businesses in India through its innovative lending products.