The American venture capital world has staged an impressive comeback from the early months of the COVID-19 pandemic. For a moment, there was worry that startups would struggle to raise for quarters, leading to layoffs, slowed hiring and budget cuts.
But as the pandemic accelerated plans to shift operations online, many startups wound up more popular than expected. Those tailwinds helped the venture capital world get back into its own game in a big way, leading to Q3 being an outsized quarter for domestic venture capital activity.
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Today, in a first, we have two editions of The Exchange for you. Get hype.
As The Exchange reported last week, “How much money was raised by U.S.-based startups in Q3 2020? $36.5 billion, according to CBInsights, $37.8 billion according to PitchBook. [The former data provider] calls the number a seven-quarter high, up 22% from the Q3 2019 number and 30% from the Q2 2020 result.”
This lends itself to a question: What’s up with venture debt during all of this?
Venture debt, in various forms, is a type of capital provided to startups that may or may not have raised equity-based funds, like venture capital. One variety comes from institutions like Silicon Valley Bank, which might provide a growing startup with well-known backers an additional fraction of its last raise in debt, allowing the young company to take on more total capital than it otherwise might without greater dilution.
Other forms of venture debt, like revenue-based financing, share startup income streams to repay borrowings. And there are other, more exotic forms of the capital source.
I’ve been curious about the space for a few quarters now. So, when some survey data on the venture debt market from Runway Growth Capital came in, I started collecting my notes into a single entry.
Venture debt has a place in today’s market, but while venture capital is back to setting records, it appears that its less-known sibling won’t manage to match its last few years’ worth of results, according to new PitchBook data. Let’s talk about it.
Venture debt in 2020
Runway Growth is a venture debt player that did $41.5 million in “funded loans” in Q3 2020, it told TechCrunch. That’s for your own reference. Its new survey of 493 entrepreneurs who had raised venture capital and 50 providers of startup capital from the VC and lending worlds noted that 60% of founders felt that “venture debt has become more founder-friendly,” which you might think would imply that more venture debt was being used, overall.
That was my read, at least.
From the same survey, two related data points explain why venture debt has a place in the market: 86% of providers felt that “venture debt was key to extend the company’s runway to reach an important milestone,” while just over a quarter of founders agreed. Regardless of who is right on that point, venture debt has seen impressive growth in recent years.
Via PitchBook, here are updated venture debt metrics for the United States through 2019:
- 2013: 1,610 deals worth $8 billion.
- 2014: 1,986 deals worth $11.6 billion.
- 2015: 2,513 deals worth $17 billion.
- 2016: 2,346 deals worth $14.8 billion.
- 2017: 2,512 deals worth $13.9 billion.
- 2018: 2,673 deals worth $24.3 billion.
- 2019: 3,031 deals worth $27.2 billion.
A rapid ascent into the 2015 era followed by modest declines, with a huge ramp into 2018 and 2019. Those last two years’ worth of data are why you heard so much about venture debt coming into 2020. Hell, The Exchange wrote about the subject a few times off the back of that trend.
More debt, improving margins: How startups are retooling in the COVID-19 era
So what has happened thus far in 2020? Per PitchBook data we received yesterday through October 20th, 2020 the U.S. has seen just $18.6 billion in total venture debt activity from 2,237 rounds. Is that tally lower than you expected? We found it so.
So what?
The Exchange emailed a sheaf of questions to both Runway Growth, Element Finance and Lighter Capital, all venture debt shops, hoping to parse out what’s up with the year’s debt market. Notably David Spreng, Runway Growth’s CEO, indicated to TechCrunch before the data came in from PitchBook that he “suspect[ed] that we are on pace for another record year for venture debt.”
Citing strong demand from SaaS startups, healthcare and life sciences companies, Spreng said that “after a brief pause in March and April, the venture debt market quickly returned to pre-COVID terms, which remain very borrower friendly (low rates, attractive structures).”
That lull was not the only thing happening in the venture debt market this year. Element Finance’s John Gallagher told TechCrunch that “a lot of companies [in its target size range] took PPP funding and decreased cash burn to extend their runway. As PPP runs out, we are seeing a lot of companies looking to raise venture debt.”
It could be that government stimulus managed to lower the market demand for venture debt by replacing it with a different sort of funding. This doesn’t mean that venture debt is less attractive than it was before, per se, but that 2020’s oddities have made the resulting aggregate numbers for the capital varietal different than they would be in another year with a similar economic entry trajectory.
Gallagher added that startups that were not COVID-accelerated are “likely lower on growth and looking to delay an equity raise to more favorable times.” That fits with what the survey implied, from the venture debt provider perspective.
Lighter Capital CEO Melissa Widner echoed the PPP point, saying in an email that “there was a drop in [venture debt] demand in late spring/early summer as companies were applying for PPP,” but that “in August, Lighter [Capital] saw demand for our RBF (revenue-based financing) product resume to pre-COVID levels.”
It’s easy to wonder if that early-year pause Runway Capital mentioned and PPP-related demand cuts were simply too much for the venture debt market to make up in Q3 and Q4, leading to the venture debt market recovering into the new year, but still missing prior highs. The 2020 data should not be a huge surprise — or a knock against venture debt scale — in that case.
And there are some signs of recovery. If we contrast PitchBook venture debt data from the year through April 21, 2020 and our more recent October 20 data we can see the following:
- Venture debt deals and dollars, per day through April 21, 2020: 6.7 deals, ~$90 million.
- Venture debt deals and dollars, per day through October 22, 2020: 7.6 deals, ~$63 million.
Looking at the two data points we have from the year, we can see a general acceleration in deal pace as the year has gone along, though with a smaller average deal size. Which one is more important, deal or dollar volume, we leave to you.
The survey’s data point that founders think that venture debt has become more founder friendly has led to more deals over time, it’s just that 2020 and its particulars have skewed the numbers. Let’s see what 2021 brings.
As venture capital rebounds, what’s going on with venture debt?
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