What is Venture Leasing? - Advantages and Disadvantages
In the previous few articles, we have already learned about how venture capital and venture debt work. We now also know the pros and cons of venture debt. However, there is another form of debt called venture leasing which is commonly used by investors in the marketplace. In this article, we will have a closer look at the concept of venture leasing as well as how it can be used to provide better financial assistance to start-ups.
What is Venture Leasing?
Venture leasing is just like regular leasing in the sense that it is a service under which one party provides an asset to another party for a short period of time. In return, the second party provides a payment to the first party. Generally, leasing is considered to be a form of debt. Hence, leasing companies provide their equipment only to corporations that have a stable track record and are likely to be able to pay their lease payments from their free cash flows.
Venture leasing companies operate differently. Venture leasing is all about lending money to corporations that do not have the financial wherewithal to pay lease payments on their own. This means that these companies either do not have any revenue or that their revenue is not enough to cover their expenses. Hence, in a way, these companies are dependent upon additional inflow from venture capital companies in order to be able to pay the leasing payments.
Needless to say that leasing out to such companies with unstable cash flows is challenging and requires special skill. However, venture leasing is widely used by many entrepreneurs since it provides many advantages. Some of the advantages of venture leasing have been listed below.
Advantages of Venture Leasing
The advantages of venture leasing have been mentioned below:
- Specific and Lean: The best part about venture leasing is that it provides the leasing companies with a lean against a very specific asset. Investors offering venture debt may want to create a lien on the company as a whole and even the intellectual properties of the company are at risk in this stage. However, when it comes to venture leasing, even in the event of a default, only the specific asset is at risk.
Also, venture leasing is often referred to as “just in time financing”. This is because start-up companies can decide to take the equipment on lease exactly when they require it. This allows them to be more efficient from an operational point of view and save costs.
- Lowers Dilution: Another main benefit of venture leasing is that allows founders to obtain funds from financiers at a lower cost as compared to both venture debt as well as venture capital. Venture capital can be considered to be the most expensive method since it leads to permanent loss of equity. Venture debt is also more expensive as compared to venture leasing. This is because venture debt is about providing unsecured loans whereas venture leasing is about providing loans that are secured by tangible assets.
Founders can use venture leasing to ensure that their precious equity capital is not locked up in assets. Instead, they utilize the capital of a venture leasing company to finance equipment while conserving their own capital to increase the growth rate of the firm.
- Suitable for Asset Heavy Companies: Even though most startups are leaning towards asset-light companies, there are still some businesses that require significant investments in physical assets. This is where venture leasing comes to the rescue. Even high-tech information companies can use venture leasing to lease out their computer equipment instead of buying it.
Disadvantages of Venture Leasing
There are several disadvantages of venture leasing as well. Some of these disadvantages have been written below:
- Cannot Customize Equipment: One major problem with venture leasing is that it is impossible to customize the equipment for the company’s use. Venture leasing companies want to ensure that they have standard equipment available which can be used by several clients. If one customer is unable to pay the lease amount, these companies lease the same equipment to another customer. Hence, start-up firms can use this arrangement only if they need standardized equipment.
- Not suitable for Long Term: Most start-up companies use venture leasing as a stop-gap arrangement. This is done to ensure that their capital is deployed to generate maximum returns in the short run. However, most companies want to own their own assets in the long run. Hence, it is important to ensure that venture lease contracts provide companies with the option to buy the equipment. If this option is not present, the company may have to give up its asset base and then create a new one again with its own money.
- More Expensive than Buying Outright: In the short run, leasing can be cheaper since it allows the start-up company to conserve its capital. However, it is important to note that the leasing company is also making a return on its investment and is also charging a management fee. All these amounts end up over the long term. Hence, venture leasing can turn out to be significantly more expensive if used over the long term.
The bottom line is that venture leasing is another tool at the disposal of the start-up founders. They need to ensure that they understand the pros and cons of venture leasing before they decide to deploy it.
Authorship/Referencing - About the Author(s)
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