‘A devastating impact’: SVB’s collapse leaves start-ups with a funding hole

In late 2020, Silicon Valley Bank Vice President Armando Argueta issued a warning to any startup entrepreneur considering loans from smaller established lenders.

“Many players come and go in the venture debt market, so make sure the person you talk to is a long-term player. When a bank one day decides that it is no longer interested in lending risk debt, it can destroy your business,” he wrote in a post on SVB’s website.

Since SVB’s collapse earlier this month, the founders are learning the hard way how true these words are. The bank was the pioneer and mainstay of a venture debt market that gave start-ups an alternative source of funding, without having to sacrifice equity stakes or swallow a much lower valuation.

Across the US, SVB was responsible for about a tenth of all venture debt issued in the year so far. But on its home turf in California, the bank was behind more than 60 percent of all deals this year, according to data from Preqin.

Founders and investors fear the demise of the technology sector̵[ads1]7;s favorite bank will translate into lower valuations and hasten corporate collapses amid an already tough funding environment, according to more than a dozen interviewed by the Financial Times.

SVB’s collapse “will have a devastating impact on the ecosystem,” said Alessandro Chesser, chief executive of the start-up dynasty, which creates trusts.

“Larger companies that rely on venture debt are in a lot of trouble right now. Unless things turn around quickly, we’re going to see a lot of high-value startups go out of business,” Chesser added.

Venture debt is typically issued to companies that have already raised at least two or three rounds of equity capital, with prior backing from venture capitalists who lend confidence to lenders.

Private tech companies have been relying on debt in greater numbers than in the past, as rising interest rates reduce the amount of equity financing available to startups.

A report published this week by GP Bullhound, a technology investment and advisory firm, found that debt issuance by European technology companies doubled to €30.5 billion last year compared to 2021.

Debt was around 30 percent of all venture capital raised in European technology in 2022, according to figures from Dealroom, compared with around 16 percent in the previous six years. Cleantech and fintech companies were among the biggest borrowers.

Olya Klueppel, head of credit at GP Bullhound, said the increase reflected equity investors’ retreat from technology as well as acquired companies looking to take advantage of falling valuations. “Terms have changed quite significantly in favor of lenders,” she said.

In the US, the venture debt market provided a lifeline last year as the pool of available venture capital shrank. Total debt issuance was $32 billion, in line with 2021, although venture capital fell sharply from $345 billion in 2021 to $238 billion, according to data from PitchBook.

Access to venture debt has also been a way for startups like Allie Egan’s to buy a little extra time or put money in the bank for a rainy day.

“We took on the venture debt line as an additional option, and we want to keep it because the name of the game right now is uncertainty. The more you can protect, the better,” said Egan, founder of digital health company Veracity Selfcare.

With SVB in the hands of the government and currently being auctioned off by regulators, the founders are anxious that the supply of debt will dry up and existing loans may even come under pressure.

“There definitely won’t be the same level of subprime debt available – you can go to [neobank] Mercury and others, but the conditions are worse and is it safer?” Egan said. “It’s sad – the environment is going to change drastically, it’s going to make it harder to innovate.”

SVB found favor with startups thanks to its close relationship with its venture capital backers and by being “extremely competitive” on pricing, GP Bullhound’s Klueppel said.

“The big draw also for many of the technology companies that went to SVB was because they offered a bank-like facility where they could withdraw money over a very long period of time,” she added.

There is now uncertainty for start-ups who arranged these facilities with SVB, but who never cut back on them.

“We have inquiries from companies thinking about what will happen in the next couple of months, whether these facilities will still be available and whether it is possible to refinance these facilities,” Klueppel said. “Boards are looking for options to diversify.”

These concerns exist both in the UK, where SVB UK has been sold to HSBC, and in the US, where the sale process is ongoing.

For SVB, which bankrolled start-up companies and their venture capital backers, lending to founders at relatively low prices was a viable business – not least because it often required companies to park their deposits in the bank in return.

One venture capitalist told the FT that he advised his portfolio companies to start their banking relationships with more mainstream institutions such as JPMorgan. That way, when they got to the stage where they wanted risky debt, they could use the promise of bigger deposits to trade better terms with SVB.

In exchange for debt issued at rates that were more generous compared to peers, SVB often took warrants that could be converted into shares when a company exited, benefiting from closer ties to both the start-up and their venture backers.

But without these conditions, it is less clear how much value SVB’s US loan book of $6.7 billion has. Much of this lending is to start-up companies with “modest or negative cash flows and/or no established overview of profitable operations”, according to the company’s annual report.

The bank lent to venture-backed companies and expected loans to be repaid when they raised new capital or managed to go public. But neither are outcomes guaranteed in the current market.

The loan book has yet to find a buyer despite the Federal Deposit Insurance Corporation expanding its auction and widening the pool of participants. Even if a buyer is found, few customers of SVB in the US or Europe expect business to continue as before.

Without an infusion of debt, companies will be increasingly dependent on risk-averse backers, said Maëlle Gavet, CEO of Techstars, one of the world’s largest investors in early-stage startups.

“You’re asking for more, and in the market we’ve experienced in the last eight months, with valuations going down and venture capitalists being quite cautious when it comes to their investments, the VCs will be in an even stronger position,” she warned.