Venture leasing: The unsung hero for hardware startups struggling to raise capital

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Global funding in February 2023 fell 63% from the previous year, with only $18 billion in investments. For robotics startups, it didn’t get any better: 2022 was the second-worst year for funding in the past five years, and 2023 numbers are heading in the same direction.

This behavior from investors in the face of uncertainty and austerity is justified, especially when hardware companies burn cash faster than SaaS does. So, founders of robotics startups and other equipment-heavy businesses are left wondering whether they’ll be able to close their next funding round or if they’ll have to resort to acquisition.

But there’s a happy medium between costly debt loans and VC funding that works particularly well for hardware startups: venture leasing.

Hardware startups are better suited than software companies for this kind of financing because they have tangible assets, balancing the high-risk nature of the industry with a liability.

As the CEO of a robotics startup that recently got a $10 million venture leasing deal, I’ll outline the advantages of this type of agreement for hardware companies and how to land a win-win deal when closing a round isn’t an option.

Why are venture leasing deals compatible with hardware startups?

As opposed to a few developers here and there in SaaS, hardware companies require intensive research and development (R&D), capital expenditures (CapEx) and manual labor to manufacture their products. So, it’s no surprise that the latter’s cash burn rate is more than two and a half times higher than the former.

Hardware startups are constantly trying to avoid dilution when raising funds due to their capital-heavy operations. Therefore, venture leasing can be a relief for founders as it gives them the money they need up front without compromising their company’s equity.

Rather than taking a piece of a company’s shares or equity, venture leasing takes the business’ physical assets as a liability to secure the loan — making it easier for startups to obtain it. It’s also a lower-risk investment and allows the company to keep 100% of their ownership.

These deals work like a car lease, where the bank technically owns the car (the manufactured product) while the startup pays a monthly installment to keep it and, in most cases, operate it however they want. Lenders are often more flexible with their agreement terms than other funders.

Beyond avoiding dilution, leasing theoretically takes a company’s equipment from its capital assets, allowing for more efficient margins in terms of profitability.

The added plus: Boosting equipment as a service

With venture leasing, a startup can lease assets such as equipment, real estate or even intellectual property from a specialized leasing company. They receive the assets in return for a monthly lease payment over a fixed term, typically shorter than traditional financing.

Hardware companies already require extra services because they manufacture equipment that runs on software, remote operations teams and maintenance. These additional conditions make acquiring hardware a costlier investment for any company looking to automate processes.

Therefore, venture leasing encourages companies to stop focusing on one-off sales and instead offer their product as a service. A deal of this kind might be the push founders need to evolve their startup’s business model and become more profitable.

On top of making hardware more affordable, offering it as a service means manufacturing companies will add monthly payments from subscriptions to their revenue stream. This extra income can help offset any debt or interest fees from the venture lease deal, so the startup’s earnings can be reinvested in manufacturing, R&D and scaling operations, among other things.

Where’s the catch in venture leasing deals?

The recent fall of Silicon Valley Bank means venture debt is out of the question for startups recently eyeing the option amidst a rocky VC market. However, just because a capital-intensive company needs funding, it doesn’t have to accept the first financing offer it receives, especially if the terms are inflexible.

Venture leasing deals come good and bad, so beware of these factors that might make financing in the long term unsustainable for startups:

• Exclusivity clauses prevent you from working with other lenders or suppliers, narrowing down financing and manufacturing sources.
• Clauses limiting asset improvements, asset movement from one place to another or freedom in renegotiating current contracts.
• Highly disproportionate residual value and security deposits.
• Sky-high interest fees that you won’t be able to offset with your startup’s current revenue.
• Triggering a tax event due to a reduction of capital assets. So, it’s a must to run venture leasing agreements by an accountant before seeing it through.

In the case of the robotic startup that I founded, the leasing company owns our manufactured robots but we still control how the bots operate. This flexibility allows us to secure contracts for our equipment without any restrictions and continue paying our leasing without stretching ourselves thin.

To avoid these negative clauses, you must demonstrate positive unit economics, product-market fit (PMF) to continue developing the product and competent cash flow management.

Finding your venture leasing match

Many hardware startups out there can’t seem to get from revenue generation to profitability despite having a solid customer base. Scaling growth can get companies out of that rough patch, but it’s challenging to do so without hurting working capital. Venture leasing can give founders a hand, provided they find the correct match.

This advice from fellow startup founders, experienced financial analysts and our own finance team showed me the way to the right venture leasing deal:

• Identify your startup’s financial needs: Startups must determine their real capital needs and find the most inexpensive ways to finance them. Seeking funding to scale operations isn’t the same as financing assets, which are more liquid, can be sold and even used as a liability. Venture leasing can work for you if you’re building drones and need money for CapEx.
• Don’t go through the process alone: This isn’t groundbreaking but serves as a helpful reminder: A financial adviser makes all the difference between a right and wrong deal. I stumbled upon venture leasing while in the process of closing a Series A round thanks to our financial adviser. We received extra funding for the heavy lifting, and we allocated it toward CapEx. This way, the revenue we generated could cover the scaling costs.
• Treat venture leasing deals like a partnership: Make sure to find a lifetime supporter that is interested in your growth and backs your scaling efforts — similar to when looking for a VC funder. Remember your company’s expansion and success is a positive reflection on the leasing provider and also helps them become a reputable player in the industry.

Ultimately, venture leasing should leave both parties satisfied while also meeting your needs without restricting your startup’s goals. In times of financial strain, or even just for an additional push with your finances, this deal gives you more room to breathe in a tight funding market.

Hardware companies shouldn’t feel limited to VC funds to finance their high-risk, high-growth operations. Options like venture leasing can support startups scaling efforts and welcome new revenue streams while keeping equity for themselves.