Debt isn’t always a dirty word in the world of startups.
Yesterday I heard John Hoesley from Silicon Valley Bank give a brief presentation on venture debt as a funding mechanism for startups at a capital connections event hosted by BioOhio. He mentioned that SVB has seen an uptick in its venture debt business over the last few years as venture capital dollars have become more scarce and companies have turned to alternative sources of funding.
NXT Capital’s Venture Finance Group recently estimated that venture debt makes up 8 percent of capital flow into venture-backed companies. And a number of companies that have gone public relatively recently have raised venture debt at some point in their life cycle, including Acceleron Pharma and Bind Therapeutics in the life science realm.
For the right companies, it can be a minimally dilutive way to extend a company’s cash runway, Hoesley said. But the “right companies” are not those short on cash.
“The right time to raise money from a bank is when you don’t need it,” Hoesley said. “When you want to hit the venture debt is right after you get your round together or concurrently with the round.”
Banks or funds will typically issue $1 million to $10 million to a company that’s just raised a VC round and is planning to burn through its cash in 18-24 months, he said. That provides additional runway so the company could potentially raise a next round at a higher valuation.
“We’ve got a long history with a lot of the (VC firms), so we have a pretty good idea who’s going to write a check for a second round of financing for a company, versus who is likely to just pull up stakes and leave a company high and dry,” Hoesley said.
A Deep-dive Into Specialty Pharma
A specialty drug is a class of prescription medications used to treat complex, chronic or rare medical conditions. Although this classification was originally intended to define the treatment of rare, also termed “orphan” diseases, affecting fewer than 200,000 people in the US, more recently, specialty drugs have emerged as the cornerstone of treatment for chronic and complex diseases such as cancer, autoimmune conditions, diabetes, hepatitis C, and HIV/AIDS.
Of course, there are potential downfalls. Bruce Booth of Atlas Venture explains in this post how venture debt can make “the good times better and the bad times worse.” Another VC, Fred Wilson, has written on his blog that he dislikes venture debt altogether for early-stage companies.
But Hoesley said SBV is used to working through issues with companies and investors if things go downhill. “The vast majority of companies that we work with have things that go wrong,” he said. “There are very few that go up and to the right, and trials came through perfectly and the FDA had no questions.”
If you’re fundraising and considering venture debt, here are a few additional resources on this form of alternative funding for life science startups:
- Manuel Henriquez, CEO of Hercules Technology Growth Capital, talked to BloomburgTV about when venture debt is appropriate, and about other life science companies that have used it recently.
- Patrick Gordon, co-founder of venture lending firm Leader Ventures, wrote a deep dive on the history of venture debt and when it might be a good option.
- Zack Mansfield at Square 1 Bank wrote a post on different types of venture debt on his blog, Runway to Exit.
[Image credit: Flickr user Tax Credits]
