Get in line, VCs — you’re not the only choice for cash-hungry founders in Europe any more.
As founders get savvier about fundraising options, they’re increasingly looking to raise debt as well as equity financing. And European debt funds are raising larger vehicles to satisfy their appetite.
According to Dealroom, startups are on track to raise €20.4bn in venture debt in 2022, up from €15.9bn last year. That would be nearly three times the amount raised just two years ago — though it's still a fraction of total funding raised by startups, which soared past $100bn in 2021.
Claret Capital’s €297m fund
The latest European debt firm to announce a new fund to back tech companies in the region is Claret Capital. The London-based investor said today that it had closed a third fund of €297m for tech and life sciences companies.
“Total [venture debt] volumes have been growing both for our business and the sector in general for the last 10 years. What’s changed in the last few months is that at a time when equity capital is harder to raise than it was, debt is becoming quite an interesting alternative,” says David Bateman, managing partner of Claret.
At a time when equity capital is harder to raise than it was, debt is becoming quite an interesting alternative
Claret typically writes loans between €1m and €50m for a period of three to five years to VC-backed, revenue-generating (but loss-making) companies. The deals usually include some sort of cut in the upside, like the option to buy equity in the company later, Bateman says.
Other European debt funds announced in the past 12 months include a €300m fund from Revolut and Klarna-backer GP Bullhound and a $200m debut fund from London-based Atempo Growth, backed by Santander and the European Investment Bank, announced in January.
Different kinds of debt funds are emerging as well; Avellinia Capital said earlier this year it had raised the first part of a maiden $150m fund for debt written against financial assets.
Specialist venture debt providers have provided 27% of total lending to European tech companies since 2016 through April 2022, versus 44% from banks and corporates, according to data compiled by GP Bullhound.
Venture debt vs VC funding
Venture debt can be an attractive complement to VC funding because, unlike VC, it doesn’t require giving away ownership in the business (though many debt funds do get the option to take a slice later).
However, debt does come with interest payments and can include other conditions too — certain actions like trading too much overseas can trigger a default.
Startups often use debt financing to fund acquisitions — in 2021, for example, many Amazon aggregators used debt financing to expand their portfolio of brands.
Sonya Iovieno, head of venture and growth at Silicon Valley Bank UK, a leading debt provider, says: “The economic slowdown also presents an opportunity for highly liquid companies, who are well-positioned to go on an acquisition spree.”
She adds the bank has also seen “increasing demand from fintech companies for warehouse loans, which fund their payment flows as well as for the provision of regulatory capital”.
“For companies from Series B onwards, using debt rather than equity to fund their working capital has been an area where we have seen strong demand from founders, as it’s so much cheaper and can grow with the company,” she says. Working capital refers to money that a company can tap into to meet day-to-day financial obligations.
Claret’s Bateman says its policy is that companies can spend cash they raise from Claret “on whatever they would spend equity on”.
“We’re not telling the company it has to spend it on something specific,” he says.
Not all startups that want to raise venture debt will be able to, however. Given the rise in inflation and “geopolitical volatility”, GP Bullhound wrote earlier this year that it expects “lenders to become more selective on business models” and prioritise “borrowers in less cyclical sectors with recurring revenue models and cashflow predictability”.
Claret has backed 29 companies with the debt fund since March 2021. The investor expects to back 50-60 companies in total, including through co-investments. Bateman says that Claret has done four co-investments in this fund already. Co-investments in previous funds include recruitment platform Jobandtalent and insurtech WeFox.
Claret’s investors in the fund include previous Claret backers EIF, British Business Investments, RAG-Stiftung, Certior Capital and KfW Capital. New institutional backers are Allied Irish Banks, Aozora Bank, Banca March, HNA and the Ireland Strategic Investment Fund (ISIF).