News

Borrowing binge-Venture investors start lending a hand, and startups take on debt.

Your mother had it right: money doesn’t grow on trees. Today’s entrepreneurs–whether they’re desperately trying to raise scraps of seed funding from petrified venture capitalists or to coax new checks from existing investors in exchange for ceding even more of their dwindling equity–know that all too well.

By Julie Landry Redherring.com

Startups are facing a funding crisis the likes of which they have never seen before. And so they’ve begun doing what was once quite rare for fledgling technology companies: taking on debt. Equipment leases, of course, have long been a part of the business, but tough times have resulted in equipment makers scaling back their leasing programs dramatically. Now the idea of taking on a typical-term loan–and the burden of interest payments–is no longer so far-fetched.

In many cases, banks and venture debt funds are stepping into the capital vacuum created by the retreat of equipment makers, as well as the disappearance of Comdisco Ventures, a large venture lender whose parent company declared bankruptcy in July 2001. Fund-raising for venture lenders is getting easier, too, as institutional investors are increasingly drawn to the interest payments–cold hard cash–that the funds receive from borrowers.

In June 2002, the VC firm Terra Nova Capital Partners hired two executives from Sand Hill Capital, a prolific bridge-loan outfit, to help it raise a $100 million debt fund called Montage Capital, which will provide bridge loans and asset-based lending to venture-backed companies. In October, MVC Capital hired the remaining employees of Sand Hill so it could begin offering loans to later-stage startups.

Pinnacle Ventures, a new VC firm, has also raised a new debt fund. Likewise established lenders, like Lighthouse Capital Partners and Costella Kirsch, were reportedly raising new funds at press time. And divisions of banks like Comerica and Silicon Valley Bancshares continue to extend credit and equipment loans to startups.

It’s by no means a new idea. Transamerica Technology Finance, for example, has been in the business since 1996, extending equipment leases to the likes of chip maker Transmeta and a $5.5 million equipment finance line and revolving credit facility to software developer Callidus Software. (In October, Callidus announced a $4 million working capital line and $1.5 million term loan it had received from Silicon Valley Bank.) Since 1994, competitor Western Technology Investment has raised more than $1 billion in three funds. It recently served as lead manager of a $10 million syndicated loan for IDEC Pharmaceuticals, a Red Herring 100 company.

Unlike equity financing, credit and loans for working capital or equipment are usually extended without requiring a real stake in the company, which means founders and management can avoid diluting their ownership. A grant of warrants can be part of the deal, but it usually amounts to an option to purchase less than 10 percent of the company’s shares.

Still, the bar remains high for startups. Most venture lenders focus on those companies backed by top-tier VCs that stick by their companies in times of need. Costella Kirsch’s deals, for example, include $2 million extended to Infinera, an ambitious optical components startup backed by Accel Partners, Benchmark Capital, Kleiner Perkins Caufield & Byers, and Venrock Associates, among others.

Pinnacle, for its part, will work exclusively with companies backed by its 14 venture-firm partners. CEO Ken Pelowski refuses to identify them, but they likely include Redpoint Ventures–a Pinnacle backer–and its cohorts, like Institutional Venture Partners. The firm raised $100 million for its fund in July, with another $100 million planned by early this year. It has so far extended two three-year loans to unnamed companies.

"Early-stage venture capital firms usually follow their investments at least through a second or third round, which minimizes our risk," says Mr. Pelowski. Even Comerica, which every month extends multimillion-dollar lines of credit to several startups, filters deals by taking referrals from early-stage VCs, says Steven Hobman, manager of the bank’s Mid-Atlantic North Technology and Life Sciences Division. In October, Comerica’s deals ranged from a $2.5 million revolving line of credit for medical-device manufacturer TriVirix International to a $20 million line of credit for network-equipment maker Netgear.

The money isn’t necessarily there for the taking. Venture Credit, a New York outfit that hoped to offer credit to private and public companies with less than $50 million in annual revenue, went out of business in late 2002 after failing to rustle up a fund, says Johnston Northrop, a former chief investment officer. Sometimes, even venture lenders have trouble finding cash.

Write to Julie Landry.

http://www.herring.com/mag/issue121/5733.html

News Catrgory Sponspor:


Dorsey & Whitney - An International business law firm, applying a business perspective to clients' needs in Missoula, Montana and beyond.

Leave a Comment

You must be logged in to post a comment.