Venture Debt Survey Reveals Hot, Competitive Startup Environment

Kruze argues that its analysis, which is based on responses from companies responsible for 85% of US venture lending dollars, is the largest and most comprehensive undertaken to date. Responses should therefore contribute to a deeper understanding of this market phenomenon.

Asked why startups take on venture debt, 91% said they do so after initial rounds of venture fund-raising to “increase the runway to make the company more valuable at the next round.” This is one of the key survey findings - startups mainly use this capital source to achieve value-creation milestones and goals before seeking a second round of venture-capital funding.

The report also provides fresh information on the size of the US venture debt market. According to traditional estimates, venture debt accounts for 5% to 10% of the overall venture capital market. Kruze agrees - and lenders clearly responded that they expect the market to grow. In fact, they predict a record-breaking year, given the fact that the venture debt market was $8.4 billion in 2018, up from $6.5 billion in 2017. That's nearly 30% growth year on year. Forecasts say American corporate venture debt will grow to $10.1 billion in 2019, which will be double the 2016 market.

The key points on the perception of venture debt trends by startups involved in the survey are:

More than 70% of respondents believe that venture debt deals are getting bigger. No one believes that they are reducing in 2019.

Most startups apply a rule of thumb of 20% to 40% debt-to-equity when implementing a deal.

39.1% think that interest rates are the same as last year, and the same percentage think they are lower. Accordingly, the survey predicts a better-than-50% chance that interest rates will remain the same or lower in 2019.

Asked whether interest-only repayment periods get shorter, stay the same, or lengthen, most respondents (56.5%) answered that they are longer compared to 2018. This indicates that the venture debt market is “extremely hot,” since lenders shorten interest-only periods when they consider loans risky.

Fifty-seven percent use only part of their credit lines, and only 28.6% withdraw all available funds. This is a clear sign that most startups have plenty of equity and that they don't necessarily need debt capital.

Fewer than 10% of survey respondents believe that warrant coverage is going up, which leads to the conclusion that the sector is highly competitive.

The survey revealed some significant misconceptions on venture debt

Entrepreneurs are generally in favor of venture borrowing since it allows them to raise funds without selling off equity. Still, the survey found that startup founders are not very familiar with the pros and cons of this asset class. When venture debt professionals were asked to rate the venture debt knowledge of startup founders and venture capitalists on a scale of 1 to 10, they rated entrepreneurs 4.7/10 and VCs 6.7/10.

Also, borrowers are not sure about the right time to take on debt. For debt providers, a loan is less risky when companies have enough capital. In contrast, borrowers generally tend to raise credit only when they become tight on liquidity.