HomeIndiaTech startups find one of their last sources of funding shrinking

Tech startups find one of their last sources of funding shrinking

By Sarah McBride, Abhinav Ramnarayan, Jill R. Shah, and Agatha Cantrill

A key form of funding that startups rely on is shrinking, hurting startups that are already starved for capital.

The stock of risky debt, a type of loan younger companies borrow to help pay bills, plunged to $3.5bn in the US in the first quarter, according to PitchBook, the lowest level since 2017. more expensive for companies, and one of the biggest venture lenders, Silicon Valley Bank, faced a run on the bank that forced government regulators to seize and sell it.

First Citizens BancShares Inc., the buyer of Silicon Valley Bank, says its appetite for venture financing hasn’t changed. In a conference call Wednesday, the company’s president said First Citizens is now better positioned to serve venture-backed companies. But many of the economy’s biggest lenders are less willing to take risks as economic growth slows.


Businesses pushed risky lending to record levels last year as revenues came under pressure and other forms of financing dried up. Venture capitalists pulled back sharply on equity investments in the second half of 2022, pressured by rising interest rates and falling market values ​​across the tech industry. By the first quarter of 2023, venture firms invested $79 billion in startups, less than half the $178 billion a year earlier, according to PitchBook.

Raising capital in the public markets is also more difficult: There were only $2.5 billion in initial public offerings in the US in the first quarter, the lowest for the first three months of the year since 2016, according to data compiled by Bloomberg. .

Less debt and equity for young companies will likely mean more companies fail, said John Haltiwanger, an economist at the University of Maryland. Startups are often unprofitable and instead focused on growth, needing a steady trickle of money to keep operating.

“These companies are highly dependent on financing,” Haltiwanger said. “If that funding dries up, they’re in trouble.”

Reduced access to finance for start-ups has broader implications for the economy. New businesses account for the lion’s share of job creation in the US, Haltiwanger said. Five million of these businesses were created last year in the US, according to the Census Bureau.

Debt along with equity

A question mark for many tech industry watchers is the prospect of Silicon Valley Bank’s venture debt business. A First Citizens spokesman said SVB’s approach to that loan has not changed.

“SVB continues to provide risky debt, along with all other previously offered credit lines,” the spokesperson told Bloomberg. “The focus and appetite for lending to life sciences and technology companies and to investors hasn’t changed.”

Startups typically raise funds from risky debt while raising capital. A company could raise $20 million of equity in a first round of financing, and Silicon Valley Bank could have offered a $4 million or $5 million line of credit along with that money, said Kai Tse, co-founder of Structural Capital, which makes loans to late-stage startups. It could have charged around 1 percentage point above the prime rate, while requiring customers to maintain their accounts with the bank, helping to increase SVB deposits and potential fee income.

Other lenders specialized in corporations that were a bit older. In general, the hope was that the credit line would be paid off when the company was sold, said Billy Libby, chief executive of Upper90, which provides credit and capital to early-stage companies.

While this form of financing has been around for decades, it took on additional importance last year, when the Federal Reserve began tightening rates at the fastest pace in decades to control inflation. With equity investors pulling out, risky debt lines in younger, largely cash-negative companies are unlikely to be able to recover, Libby said.

“That propelled companies that shouldn’t have lived as long as they did,” Libby said. You’re going to see a reckoning.

That’s the fear of many venture capitalists and start-ups. Publicly traded tech companies lost almost a third of their value in the US last year, and even with 2023 earnings they are still below their peaks. In the first four months of 2023, US tech companies announced about 114,000 job cuts, on track to surpass the industry record 168,395 announced for all of 2001 this year, according to Challenger, Gray & Christmas.

‘Meet the Companies’

For some private start-ups, the recession and bank reorganization could make it difficult to obtain loans from regular lenders, particularly those with no track record of dealing with Silicon Valley gamers. Many lenders tend to be increasingly demanding with the companies they finance.

“When you’re in a bull market, it seems like an easy deal,” said Tse of Structural Capital. To price risk correctly, “you have to know the companies, you have to spend time with them, you have to have skills that regular commercial bankers don’t have.”

It’s unclear how bad the slowdown in tech lending will be. There are still banks and other companies that provide financing. But many lenders are inspired by raising equity funds, where valuations typically don’t change or are lower, said Ted Wilson, a former vice president of Silicon Valley Bank who joined Stifel Bank in March. That makes it harder for businesses to get loans, he said.

“There are often insider rounds, follow-up rounds, flat rounds,” Wilson said, referring to deals that don’t increase a startup’s valuation or include new investors. “Those are not as attractive from a credit perspective.”

‘shaking process’

In Europe, some lenders are trying to increase their market share as rivals cut back, said Matthias Kresser, a partner at YPOG, a Berlin-based law firm that advises German tech companies and venture firms. At Germany’s Cherry Ventures, which provides seed funding to startups, partner Christian Meermann said at the weekend that SVB was collapsing, he heard from venture debt funds looking to win more business.

If start-ups find themselves with less access to credit, the economy could ultimately benefit, said Steve Davis, an economist at the University of Chicago Booth School of Business and a senior fellow at the Hoover Institution. Capital can flow into better start-ups, and the worst ideas may not make money.

“The reorganization process is an important force or mechanism through which the economy figures out what is working and what is not working,” Davis said.

But in the short term, the tighter financing conditions could be painful for VC-backed companies as they struggle to finance their day-to-day operations.

“There is going to be a funding crisis in this sector,” said Steve Brotman, founder and managing partner of Alpha Partners, which invests alongside venture capital firms in growth companies. “It’s going to remove a lot of the excesses from the system.”

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