A founder’s guide to non-dilutive funding

Non-dilutive funding is a way to receive working capital without losing company ownership. It stands as an alternative to equity funding like venture capital (VC) investment, where you sell shares in your company in exchange for financial aid. 

There are several non-dilutive funding options available. These include government grants or subsidies; tax breaks like R&D tax credits; loans and credit cards, revenue-based financing, venture debt; and crowdfunding.

For startups and new businesses, securing non-dilutive funding has become an increasingly desirable option due to its ability to provide financing based on alternative business factors like innovation.

By granting capital without reducing ownership or equity, non-dilutive funding allows founders to keep control of their business’ direction plus concentrate on long-term success – all while receiving access to necessary funds. It’s also often much easier to obtain than traditional forms of financing, such as VCs or angel investment.

Let’s get into it, then!

Pros

1. Control: Access to non-dilutive funding lets founders keep control of their business direction and concentrate on long-term success without having to part with any equity in their company. 
2. Flexibility: Non-dilutive funding solutions can give founders more flexibility than traditional financing forms. For example, a government grant or loan can be tailored to your business needs. At the same time, venture debt offers repayment terms that can be adjusted depending on current cash flow levels.
3. Speed: Compared to equity financing, the application process is typically quicker and less complex.
4. Repayment schedule: No equity is exchanged, allowing founders to stay focused on their long-term product and business goals rather than worrying about dilution.

Cons

1. Limitations: Non-dilutive financing solutions may have restrictions that could limit a founder’s control over their company. For example, government subsidies usually have strict terms of use and may require regular reporting.
2. Lack of funding: Non-dilutive solutions offer smaller amounts than venture capital rounds, so they may not be suitable for larger or more ambitious projects.
3. Time-consuming to apply for: It takes time to research and apply for different forms of non-dilutive funding. And if the application is unsuccessful, you may have to start again from scratch – which can be costly and time-consuming.

R&D tax credits

The UK’s R&D tax credits scheme is a great source of non-dilutive funding for companies that invest in innovation. The program provides UK businesses with either a cash credit or corporation tax deduction to compensate for a percentage of their R&D costs.

The scheme is available to businesses in all sectors, as long as your activity counts as what HMRC defines as R&D. So if you’re developing new products, services, or processes; or modifying old ones, you may be able to claim.

With the scheme evolving fast, including new R&D tax rate changes and additional qualifying criteria due to take effect in April 2023, it’s smart to seek expert advice from a specialist when compiling your claim. A specialist will help ensure that your claim is successful and that you’re claiming the most credit you can. Determining which costs to claim against can get quite tricky, especially as you grow.

Still uncertain if you are eligible for R&D tax credits? Our Ultimate Guide will provide you with the most recent information on the scheme and what makes someone qualified. Moreover, it’s a great way to get an idea of how much you can claim.

R&D advance funding

To speed up the receipt of funds, you can take out a short-term loan against your future R&D tax credits, widely known as “R&D advance funding”. The advance can be against a future tax credit claim before you start the claiming process, or it can be a loan at the point the claim is submitted.

This type of debt funding is an excellent option for most businesses as it enables you to receive non-dilutive capital up to 9 months early. Once you have received your HMRC R&D tax credits, you will be required to pay back the loan from the proceeds of your relief. Read our Guide on R&D Advance Funding to find out more.

Grants

Small business grants are a type of financial support typically received from the government. They cater to small to medium-sized businesses, like startups or scale-ups, who want assistance with growth and expansion. Unlike business loans, grants are awarded and do not have to be repaid.

Businesses generally must meet specific conditions to qualify for a UK business grant. For example, the company might need to satisfy specific innovation criteria or be based in a particular area. Also, the money from the grant can have multiple purposes; these areas could include R&D, hiring new employees, marketing and advertising, or product development.

To learn more about business grants in the UK, read our comprehensive Guide on small business grants. Alternatively, visit the Innovation Funding Service, which has all the latest competition.

Loans

Loans are perhaps the most common and widely available source of non-dilutive funding for startups and early-stage businesses. Banks, credit unions, online lenders, private investors, venture capital firms, and angel investors can offer them.

There are typically two types of loans

Short-term loans

Short-term loans can be used to finance a business’s operations over a set period, typically up to 12 months. They offer quick access to capital and are less risky for the lender than longer-term loans, making them an attractive option for businesses needing working capital.

However, short-term loans also come with their own set of drawbacks. For one, they can be expensive, with really high-interest rates. They can also be challenging to qualify for, particularly if your business is in its early stages. And finally, if you cannot repay the loan on schedule, you could face steep penalties and fees.

Despite these drawbacks, short-term loans remain a popular and valuable source of non-dilutive funding for businesses of all sizes. Online lenders have also made it more accessible for small companies or entrepreneurs to access short-term loans.

If you’re considering this option, make sure you do your research and compare different lenders to find the best deal for your needs.

Long-term loans

Long-term loans can provide financing for larger projects or investments over a more extended period. These loans tend to come with lower interest rates and more flexible repayment terms than short-term loans, making them an attractive option for businesses looking to make large purchases or investments.

For example, a business may use a long-term loan to finance the purchase of property or equipment, fund expansion efforts, or cover costs associated with research and development projects.

Nonetheless, long-term loans can be hard to come by. The criteria are usually demanding and may not work in favour of small companies just starting out. Generally speaking, these types of loans tend to go to companies that have been around for two or more years and have a healthy income stream.

Venture debt

Usually only available to venture-backed companies, venture debt is a type of debt financing obtained by early-stage companies and startups. Both banks and non-bank lenders can provide it. It’s also often offered by venture capitalists (VCs) as an additional service to equity funding.

Similar to other methods of debt financing, it prevents further dilution of equity stakes. It’s also not dependent on collateral or your company’s cash flow. Instead, lenders prioritise the potential growth of your business and your ability to raise further investment capital.

In some cases, lenders are compensated with the company’s warrants on common equity due to the high-risk nature of venture debt. If your company grows, the warrant is highly advantageous for the lender as its value increases.

If you are interested in keeping hold of your company’s equity, you can learn more about venture debt using Silicon Valley Bank’s extensive guide.

Crowdfunding

VC firms and angel investors are notoriously difficult to engage, let alone raise capital from, especially in the current climate. By expanding your fundraising activities to include individual investors, you exponentially open up your business to thousands of potential backers – individuals that may otherwise have been inaccessible.

Done right, crowdfunding also creates a network of advocates for your business who are highly engaged — ideal for running trials and giving feedback. It’s worth noting crowdfunding works best for direct-to-consumer businesses where investors become customers. The likes of Revolut, Monzo, Moneybox, Brewdog and Chilango have raised equity and debt from the crowd.

However, crowdfunding needs to be managed well. The difference between raising £100k from one angel and raising £100k from 200 crowdfunders is you have many more people to keep happy. If you can, you should provide timely quarterly updates, offer discount codes and build an online community that you can use to speak to customers.

We’re here to help. Over 1000 UK companies claim have trusted EmpowerRD’s R&D platform and specialists to help them build optimised, compliant R&D tax claims. 

Book a call with one of our team to see how we can help you.