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The reason for maximizing a SR&ED loan is to re-invest this capital in R&D or sales and marketing to take your company to your next level. By growing your company faster you have a greater chance of beating the competition and becoming more profitable. The size of your SR&ED loan depends heavily on two factors; accrued SR&ED and the loan to value of the desired facility.
Most lenders modulate the size of the credit facility based on the accrued SR&ED. This means that the more SR&ED-eligible work you do, the greater your SR&ED claim which leads to an increased credit facility. The Loan to Value (LTV) would also vary between lenders. LTV is the ratio of the amount borrowed to the value of the SR&ED credits accrued. Lenders, on average, loan 75% of the accrued SR&ED credits to have a buffer in case the claim is reviewed and return is reduced by the CRA, but the ratio can vary based on how long you’ve been filing for, results of previous reviews, and who is preparing your SR&ED claim.
Today we will look at 3 ways can maximize your SR&ED loan to get your company to where it deserves to be.
1. Improve your earnings
Many technology companies burn a significant amount of cash. Although many of these companies have revenue, their expenses far outweigh it so there is a loss at the end of every month. Tolerating this loss is made possible by equity and debt investments. Most tech companies are continually raising capital. Additionally, startups tend to hit a few bumps in the road where raising equity becomes difficult, painful or impossible. And so they find themselves left with a limited number of choices if the monthly burn is significant or even worse, not improving. One can hope that revenue will increase, but it is not as certain as reducing expenses. And so, most companies do the one thing that is guaranteed to have an immediate effect, lay off staff, or cancel services and subscriptions. Once expenses are reduced to the point where there is no loss each month, founders need to focus on customer service and revenue growth. As a lender, I want to see a company that is fiscally responsible. By getting to cash-flow break-even, or close to it, I have comfort that the leadership effectively manages the business and, as a result, I will increase the LTV of the credit facility. If the average LTV is 75%, for a fiscally responsible company, the LTV can go to 100% or even 150% of the accrued tax credit. This allows companies to not only reinvest the money they spent on R&D but also invest R&D money that they’re yet to spend.
2. Take a look at your balance sheet
As learned in Accounting 101, a balance sheet is made up of assets, liabilities and equity. The fastest way to increase a credit facility is to raise more equity and use SR&ED financing to reduce the dilution. All venture debt lenders get comfort from seeing additional equity on the balance sheet. There are many banks that will not lend to companies unless there is an institutional venture capital round with known parties. For SR&ED lenders, this criterion is less important since borrowers could be smaller companies but it is still relevant. The key is that lenders do not want to take an equity-like risk as their returns are capped at whatever interest rate they charge. Therefore, lenders will want to see that someone believes in the company’s success and is taking on a majority of the risk. As lenders, we also like to see that the company has sufficient capital to continue to operate. With the equity investment, some SR&ED lenders will lend up to an entire year in advance. This often translates into a 200% LTV.
Increasing assets or decreasing liabilities is another way to improve the LTV but it’s rather limited. Increasing the assets is usually done via increasing the accounts receivable and the main way to do this is to sell more. Improving liabilities is even more difficult. However, some companies take on more “friendly” debt such as government repayable loans which increases your cash and liabilities but is good for lenders as these grants often are subordinate to their loans.
3. Borrow more frequently
The most common way to maximize the amount of your credit facility is to borrow on a quarterly basis. Your quarterly disbursement is based on the SR&ED you accrued in the prior quarter. Almost all SR&ED lenders provide this service. The beauty of this mechanism is that the loan basically funds your R&D and helps you manage your cashflow. One of the biggest challenges with the SR&ED program is that the refund is received months, sometimes years after the expenses have been incurred. By borrowing on a quarterly basis, the cash expense is more closely matched with the cash received. This loan provides you with the smoothest cash flow so you can delay raising equity.
Does your startup need extra cash to grow or get over a cash crunch? We can help you, contact us now to discuss how non-dilutive venture debt can help scale your company’s operations