Despite last year’s slow down, venture debt continues to gain favor amid growing investment in private credit.
Deal value and deal count in the sector have shown an upward trend for most of the past decade, according to the latest venture debt report from PitchBook, which is expected to be published on Friday. The number of deals closed rose from 996 in 2012 to 2,070 in 2019, and increased further to 3,195 in 2021, according to the report. Deal value rose from $6.7 billion in 2012 to $31.2 billion in 2021.
Venture debt is a key part of the private credit universe, which boomed amid low yields and is set to flourish in the rising-rate environment. Over 50 percent of institutional investors have already invested in private credit, according to Coalition Greenwich, and about 40 percent of them are planning to expand their pool of managers in the next three years.
In 2022, however, dealmaking in the venture debt space suffered a setback. Deal count dropped to 2,484, with a 34 percent decline from the first to the fourth quarter. Deal value, however, remained largely stable in 2022 compared to the previous year.
According to the report, both the challenging macro environment and the overdraft of funding commitments in 2021 contributed to the quarterly decline in venture debt activities. “Companies, investors, and lenders all took a step back to reposition themselves and re-evaluate their next steps amid prolonged market volatility,” the report said. “In addition, some lenders may have exhausted fund commitments or overextended themselves during the first half of 2021, leading to a more challenging debt-raising environment for startups.”
However, the report said that despite this temporary hiccup, venture debt activities are expected to pick up steam again, especially over the long term. For startup borrowers, venture debt has become the top choice for those seeking non-dilutive finance, especially as more banks pull back from traditional lending.
According to PitchBook, the floating rates of most venture loans become more attractive to investors as the Federal Reserve continues to raise interest rates. Furthermore, lenders are able to choose from the highest-quality borrowers as capital becomes scarcer in the private market.
“We expect to see a further expansion of the venture debt market during the current liquidity stress and capital supply crunch,” the report concluded. “Indeed, nearly all lenders we have recently spoken with have noted the increased exploration of venture debt by VC-backed companies as an alternative financing option.”
