How Startups Can Combine Equity and Debt for Smart Growth

Why Indian Startups Are Rethinking Pure Equity Strategies

Startup funding in India has dramatically shifted since 2021. From a peak of $42 billion in funding, 2024 saw just $12 billion raised across Indian startups. This 70% decline has forced founders to reconsider their capital strategies beyond traditional venture capital rounds.

Pure equity financing, whilst providing risk-free capital, comes with hidden costs. Every funding round dilutes founder ownership and reduces long-term upside potential. Consider this progression: after a seed round, founders typically retain 80% ownership.

Following Series A with 20% dilution, this drops to 64%. Another Series B round reduces ownership to approximately 51%. This equity and debt financing startup approach helps founders maintain greater control whilst accessing necessary growth capital.

The alternative lies in hybrid funding for startups that combines equity for innovation with debt for predictable business needs. This startup debt equity mix strategy has gained traction as venture debt markets in India reached ₹10,000 crore in 2023, growing 35% year-on-year.

Understanding Debt Options for Indian Startups

Venture debt serves as a complement to equity rounds, typically providing 10-30% of the last equity raise amount. In 2023, the average venture debt deal size reached $4 million for startups with approximately $76 million in prior equity funding. This option works best for companies with institutional investor backing and demonstrable revenue traction.

Secured asset-backed loans have become popular among manufacturing, EV, and pharmaceutical startups. Companies like Tenshi Pharmaceuticals raised over ₹856 crore in debt financing for R&D and scale-up operations, avoiding significant equity dilution whilst maintaining growth momentum.

Digital Business Loans and Working Capital Solutions

The RBI reported 31% growth in MSME credit during 2024, largely driven by digital lending platforms. Business Loans by Airtel Finance represent this new wave of accessible startup financing, offering up to ₹75 lakh with minimal documentation and quick approval processes.

Working capital lines and revenue-linked structures provide flexible financing based on cash flow patterns. These solutions work particularly well for D2C brands, SaaS companies, and marketplaces with predictable monthly collections.

Calculating the Right Equity-Debt Mix

The Debt-to-Equity (D/E) ratio serves as your primary compass for balanced financing:

D/E Ratio = Total Debt ÷ Shareholders’ Equity

• Low leverage (D/E < 0.5x): Very safe but potentially missing growth opportunities
• Moderate leverage (0.5-1.5x): Balanced approach suitable for stable growth-stage companies
• High leverage (>1.5x): Aggressive strategy requiring predictable cash flows

The Debt Service Coverage Ratio (DSCR) measures your ability to service debt obligations:

DSCR = EBITDA ÷ Annual Debt Service (Interest + Principal)

Lenders typically require DSCR ≥ 1.2-1.5 for comfort. For example, with ₹1.8 crore EBITDA and ₹1.2 crore annual debt service, your DSCR of 1.5 indicates healthy repayment capacity.

Practical Capital Structure Example

Consider a 3-year-old fintech SaaS startup requiring ₹10 crore for expansion:

Current Position:

• Previous equity raised: ₹20 crore
• Pre-money valuation: ₹80 crore
• Monthly revenue: ₹3 crore with positive unit economics

Funding Options Comparison:

This equity and debt financing startup example demonstrates how hybrid funding for startups reduces dilution from 11.1% to 7% whilst maintaining manageable debt service obligations. The resulting D/E ratio of 0.15x remains well within conservative limits.

Strategic Application of Different Funding Sources

Smart founders align funding sources with specific business needs:

Equity Applications:

• Product development and R&D initiatives.
• Market expansion into unproven territories.
• Long-term technology investments with uncertain payback periods.

Debt Applications:

• Working capital for inventory and operations.
• Marketing campaigns with trackable ROI.
• Equipment purchases and technology upgrades.
• Bridge financing between equity rounds.

For immediate equipment needs, solutions like device financing through EMI structures can convert large capital expenditures into manageable monthly payments. This startup debt equity mix approach preserves cash flow whilst accessing necessary technology infrastructure.

Readiness Assessment for Debt Financing

Before pursuing debt options, evaluate your startup’s readiness:

Financial Health Indicators:

• Stable or growing monthly revenues.
• Unit economics approaching break-even.
• Predictable collection cycles.
• Clean GST and income tax compliance.

Credit Profile Requirements:

• Founder CIBIL score above 700.
• Business credit history (if available).
• Proper financial statements and documentation.
• Strong business fundamentals and governance.

Implementation Strategy for Hybrid Financing

The optimal startup debt equity mix evolves with business maturity. Early-stage companies (pre-revenue or irregular cash flows) should rely primarily on equity financing. As revenue predictability increases, gradually introduce debt components for specific operational needs.

Consider runway extension through debt when approaching the next equity round. If your current cash provides 12 months of runway with a ₹50 lakh monthly burn, adding ₹3 crore debt (interest-only for 12 months at 15%) extends the runway by approximately 6 months whilst preserving equity for better valuation timing.

Building Lender Relationships

Successful debt financing requires demonstrating operational discipline and financial transparency. Maintain accurate financial records, regular management reporting, and clear business metrics. This foundation supports both immediate financing needs, such as securing a business loan with Airtel Finance, and future capital requirements as your business scales.

The shift towards equity and debt financing startup strategies reflects broader market maturity in Indian entrepreneurship. Founders who master this hybrid funding for startups approach position themselves for sustainable growth whilst retaining greater control over their vision and long-term value creation.

Smart capital allocation combines the innovation-enabling power of equity with the discipline-building characteristics of debt. This startup debt equity mix strategy has become essential for navigating today’s funding environment whilst building lasting value for all stakeholders.

FAQs

1. What is the ideal debt-to-equity ratio for early-stage startups using hybrid funding approaches?

Early-stage startups should maintain D/E ratios below 0.5x initially. This conservative approach allows testing debt service capabilities whilst preserving financial flexibility for unexpected challenges or opportunities.

2. How does combining equity and debt financing affect startup valuation in subsequent funding rounds?

Moderate debt levels often signal operational discipline to investors, potentially supporting higher valuations. However, excessive debt can reduce enterprise value and complicate due diligence processes.

3. What are the typical eligibility requirements for startup debt financing in India?

Most lenders require a minimum ₹25 lakh annual revenue, 18+ months of operational history, founder CIBIL scores above 650, and demonstrated cash flow predictability through bank statements.

4. Can startups use debt financing for working capital without affecting their equity fundraising timeline?

Yes, working capital debt typically doesn’t impact equity timelines. Many startups use bridge debt to extend runway whilst optimising equity round timing and valuation.

5. What happens if a startup cannot service debt obligations during challenging periods?

Debt restructuring options include payment holidays, tenure extensions, or converting debt to equity. Maintaining transparent communication with lenders often leads to mutually beneficial solutions.