Debt Market Quarterly Update – Q1 2023

Commentary

The venture debt markets got off to a historically tepid start in 2023. According to Pitchbook, total funding was down more than 60% from the prior quarter and dropped more than 40% from the same period in 2022.

As we review debt as a percentage of the venture equity markets, the Q1 2023 debt total of 3.5B was a paltry 8% of the $44.1B equity financing total (according to EY). This was a sharp decline from Q4 2022 when the debt financing total eclipsed 29% of the total quarterly equity market. During this same period in 2022, total debt financing similarly totaled just 7% of the equity financing totals during the quarter.

The major departure from Q1 2023, however, is that equity financing a year ago topped $80B, nearly twice the total of Q1 2023.  According to Pitchbook, the average deal size across all sectors was just over $9M, a decrease of 30% from the prior quarter. As we look at the sector breakdowns from Q1 2023, the numbers seem to show an even bleaker picture.

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Sector Activity – A Tale of Diverging Markets

Healthcare

In Q1 2023, total debt financing in the healthcare sector fell to historic lows. The sector is currently on pace to raise the lowest amount of total debt financing in more than a decade. Deal count over the first quarter was also off 45% from the historic quarterly average. To date, 2023 has reflected an even more difficult market than the declines seen over the course of 2022. We continue to see tighter credit and greater conservatism among lenders in the space and expect this trend to continue until the market stabilizes.

Venture debt has been difficult to come by so far in 2023. This is to be expected given that lenders tend to be more conservative than equity investors, and the venture equity markets remain challenged. Technology companies raised just $2.9B in venture debt in Q1 2023, representing a 65% decline from the $8.4B raised in Q4 2022.

Some lenders have noted that underwriting standards have become significantly tighter given the current macroeconomic environment. Venture lenders are generally requiring that companies have a lower burn and longer cash runway.

Many lenders are also narrowing their sector focus. For example, some banks and non-banks that were previously willing to look at deals across the technology sector are now looking almost exclusively at SaaS companies.  SaaS has long been one of the most favored business models given its tendency toward high margin recurring revenue. So, it’s not entirely surprising that lenders are honing in on this subsector given the current market backdrop.

Technology

Venture debt has been difficult to come by so far in 2023. This is to be expected given that lenders tend to be more conservative than equity investors, and the venture equity markets remain challenged. Technology companies raised just $2.9B in venture debt in Q1 2023, representing a 65% decline from the $8.4B raised in Q4 2022.

In market conversations, lenders have noted that underwriting standards have become significantly tighter given the current macroeconomic environment. Venture lenders are generally requiring that companies have a lower burn and longer cash runway than was previously required.

Many lenders are also narrowing their sector focus. For example, some banks and non-banks that were previously willing to look at deals across the technology sector are now looking almost exclusively at .  SaaS has long been one of the most favored business models given its tendency toward high margin recurring revenue. So, it’s not entirely surprising that lenders are honing in on this subsector given the current market backdrop.

CAG Market Health Index

Capital Advisors Group has developed a market health index of publicly available market information to provide a broad assessment of the health of the debt finance industry. Historically, default rates remained well below the 10-year trailing US speculative grade debt average default rate of 3.4%*.

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