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Lenders offer cheap deals to Silicon Valley to compete with flood of venture capital

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Venture capital investment updates

Banks and other lenders have cut prices and loosened their terms to make debt more attractive to Silicon Valley start-ups, as they try to compete with flush venture capitalists.

“We’re all looking for the loan demand that’s left, so to speak,” said Marc Cadieux, chief credit officer at Silicon Valley Bank, the largest lender to tech start-ups.

The lesser-known cousins of venture capital firms, venture debt providers typically offer loans to cash burning start-ups while purchasing warrants that can convert into lucrative shares years into the future.

Venture debt providers lend about $10bn per year, according to a 2019 survey of the industry — a small but ubiquitous slice of the broader market for private tech financing. 

Start-ups typically seek out the loans after their first or second big rounds of venture funding, allowing them to raise capital without reducing the stakes of founders and employees. For banks, such as Silicon Valley Bank, the loans also create inroads to potentially lucrative clients.

But this year, a flood of cheap financing has hit Silicon Valley, as venture capitalists and other investors compete to take stakes in the most promising private companies.

Some venture debt funds have even dropped the “material adverse change” clauses in the contracts they offer to start-ups, which are designed to protect their capital from major catastrophes.

Expected annual returns for non-bank venture lenders

By July this year, venture capitalists nearly matched their investment totals from all of last year, according to CB Insights data, while also settling for smaller stakes in hot start-ups.

As a result, banks and venture debt funds have begun fighting harder for deals in the most desirable companies. 

Hutch Corbett, managing partner of the debt advisory firm Armentum Partners, said some clients had backed away from large debt deals after receiving attractive offers for share sales.

“If the equity is really cheap, you should take it,” Corbett said. “That’s often our advice.”

Lenders have eased up on their demands for warrants and extended the length of interest-only periods — typical features of venture debt agreements, according to lenders and start-ups. The size of offers has also increased, as deep-pocketed credit investors such as Ares Management and Owl Rock Capital push deeper into tech. 

Some investors have also settled for looser covenants to win deals, said Vik Gupta, a partner at the advisory firm Spinta Capital. “If you want 12 per cent paper, you can’t run away when things change.”

Meanwhile, Silicon Valley Bank and other tech-focused banks have come under pressure from new competitors. JPMorgan has recently expanded its lending to private tech companies, while the commercial banking start-up Brex has also begun making loan offers, said people briefed on the deals.

Cadieux said the new entrants had offered lower prices in an attempt to win business.

“It doesn’t look terribly sustainable when rates get this thin,” he said, adding that SVB did not experience “meaningful differences” in terms during recent deals.

Others said the market had begun shifting. “All the important terms” have recently become looser, said Scott Orn, chief operating officer of Kruze Consulting, a company that advises start-ups on their finances.

“It’s hard to put money out right now with the equity markets on fire,” Orn said. “This is 1999 kind of stuff.”

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