What are warrants?
Warrants are a type of security that give the holder the right to buy a predetermined portion of company stock at a fixed price until the expiration date. They may – but don’t necessarily – cause dilution, since the company must issue stock if a warrant is exercised.
The predetermined price at which a holder can buy stock is called the exercise price of a warrant. The time period during which the warrant can be exercised is called the expiration date.
Warrants in venture debt deals
Venture debt, or venture lending, is a type of financing for venture equity-backed companies that lack the cash-flow or assets for more common forms of debt financing or that want greater flexibility.
Warrants can be beneficial to both investors and entrepreneurs. Investors may be more likely to invest in a deal with warrants, since it allows an investor to participate in a company’s growth, even after a company repays their investment. Companies may issue them to make the terms of the deal more favorable for them by bringing down the cost of capital.
Advantages and disadvantages for my software company
- Can use warrants to negotiate for lower cost of capital
- Potential additional source of capital if exercised
- Increases dilution if exercised
When discussing a venture debt deal, consider what the most important aspects of the deal are to you. If the interest rate is your top priority, it may be beneficial to leverage the use of warrants for a lower cost of capital deal. Alternatively, if minimizing dilution is your highest priority, issuing warrants may not make sense for your company.
Does Novel use warrants?
Roughly half of Novel’s deals include warrants. While warrants can extend up to 20%, warrant coverage at Novel ranges from 0.25%-1%. The incorporation of warrants in a deal can allow for flexibility on other aspects of a deal, such as the royalty rate or repayment cap.