IVCA Feature: Highlights of the 2024 IVCA Spring Luncheon … ‘State of the Debt Market’’
May 22, 2024
One of the harbingers of spring and summer is the annual Illinois Venture Capital Association (IVCA) Spring Luncheon, which took place on May 8th, 2024, at the downtown Chicago Club. The event was sponsored by advisory and assurance firm Baker Tilly and the law firm Ropes & Gray, and featured the topic “State of the Debt Market.”
Opening remarks were given by the IVCA Executive Director Christie Pruyn, who then introduced the expert panel on the topic … moderator Mark Birkett, Senior Managing Director at Hilco Corporate Finance, who led the discussion with Katie Hockman, Partner and Head of Debt Capital Markets for The Vistria Group; Mark Solovy, Managing Director/Co-Head of Technology Private Credit Credit Investments and Head of Venture Debt at Monroe Capital; and Scott Moen, Principal at Lego Innovation Fund.
Below are some Q&A examples, followed by a couple audience questions …
“GIVEN OUR SUBJECT, CAN YOU PROVIDE PERSPECTIVE ON WHAT YOUR SEEING IN THE MARKETPLACE TODAY?”
Mark Solovy: The markets are pretty competitive right now in the private credit world, and it’s also the same in Private Equity and Venture Capital. I think we’re seeing that there has been a lot of capital raised from all sorts of alternative investment funds over the last few years, and the markets … as far as new M&A activity … have been down, and there has been limited IPOs.
That has created a supply and demand imbalance in the marketplaces and funds like ours and all the funds here get paid to deploy capital, and so what we’re seeing is a demand driven for quality. There are a lot of great deals out there, and there are tons of firms who want to put equity dollars and debt dollars to work on them, and the terms are getting super competitive.
And then there are deals that are not quite there, and those people can generate better terms, but it’s very competitive out there.
Scott Moen: Similarly, the best deals would look like they did in 2019 and 2021, as folks with money to deploy are seeking quality. In our market, the lower stages of Venture Capital, we’re seeing a pull-back from Venture equity and thus it’s bringing in opportunities for Venture credit to step in place of that equity, with terms that reflect the absence of equity capital. So there are better terms both on price and structure for Venture credit.
Katie Hockman: I generally agree, there is a difference between the haves and have nots, although it’s a very strong market for the top ‘A’ companies and top ‘A’ credit. I still think full credit equity firms and lenders are being picky. People are having trouble in their portfolios so they are picking their spots … there are certain situations in industries that are not doing very well so they are staying away from them … it’s not the free-for-all that we saw in 2020. Even though in January of this year we were expecting that, with Q4 2023 being very strong. There is a lot of capital out there, but if you still find lenders being picky, it’s taking a bit longer to get over the finish line.
“MARK, YOU OPERATE HEAVILY IN THE TECH AREA AND IN THE VENTURE CAPITAL WORLD AS WELL, CAN YOU TELL US HOW THOSE DEALS ARE STRUCTURED DIFFERENTLY?”
Solovy: The overall thesis for providing credit for Private Equity and Venture Capital deals is loan-to-value … as a lender that protects us and lowers our risk, and while we’re able to get a lower return than a Private Equity and Venture Capital firm, so we think about that as an overall thesis. When you break down the deals that don’t have traditional cash flow metrics, we think about Annual Recurring Revenue [ARR] … we look at multiple ARR in terms of lending, so we structure it like that.
And then on Venture Capital deals, sometimes we don’t have the ARR metrics, because that is not the best way to measure value, then you try to triangular it to make sure you’re covering the deal properly. It requires a much more creative approach and selectivity as far as structuring the credit provisions. We think closely about how we’re structuring these deals differently.
Because the M&A and IPO market is slower, Venture firms have had less capital in which to back their companies, thus they become more picky. When you have to pick and choose among your portfolio companies, so we have to be very just careful to note that we’re underwriting a particular business versus what we used to do, which was to decide that the Venture Capital firm was prioritizing the backing of a particular company. There is much more risk now.
“SCOTT, CAN YOU TELL US HOW YOU STRUCTURE DEALS, AND HOW ARE YOU UNDERWRITING TRANSACTIONS TODAY VERSUS 12-18 MONTHS AGO?”
Moen: It’s a very similar approach. If you’re talking SPDs [funds that offers exposure to US large-cap stocks] or public offerings or a bank, they are very sponsor focused. If sponsor X puts in Y dollars they become more comfortable providing, for example, 30% of those Y dollars to companies, either funded or unfunded commitment. Where our approach is different is that we’re underwriting the actual companies, and we’re getting less percentages on loan-to-value because it’s not so cash-flow fertile right now. In the equities market the same number of transactions are just not taking place.
“KATIE, ARE THERE ANY THEMES YOU CAN SHARE ACROSS YOUR PORTFOLIO?”
Hockman: Sure. The interest rate is high. When we underwrote our deals and when our lenders underwrote our deals nobody expected the rate to go above five and staying there … so it presented some challenges. Some companies have been able to grow through it, but some require meaningful discussions with the lenders. Now we need more time to work through it and find other growth avenues for the different industries and companies.
In doing a lot of healthcare services, and they have a lot of labor components as an expense items for our companies, and that’s been hurting in the sense of a capital perspective. For our portfolio companies, we support them in making sure they have the liquidity to get through it, and we choose relationship lenders that think about that in the same way … when we hit some bumps in the road who can think things through in the long run and keep building relationships.
Audience questions …
“WHAT ABOUT THE INTANGIBLES REGARDING THE MARKET? FOR EXAMPLE, INTANGIBLE ASSETS, INTELLECTUAL PROPERTY, COMPANY VALUES, PATENTS OR DEBT FINANCING?”
Solovy: In a Venture perspective on an intangible asset like patents, we underwrite to them as having some value, but the value of patents without the team around them to executive the business strategy reduces what you can get for them. I never want to be in a deal situation where I have this great software or technology because on the downside I have these patents to sell that I’m never going to get close to getting my money back. It’s part of it, but not really a big part.
Moen: There are funds focused on that like life sciences, where they have a group that really understand how the patent works and its value, so they can underwrite the pre-revenue that the patents will produce. Speaking for our fund, we are financial focused, so we see patents as frosting on the cake versus an underwrite. However, there are specific arenas where there are lenders will underwrite a value for something very niche as long as a company has expertise as well. So that does exist.
Mark Birkett (Moderator): As a plug for Hilco, we have positions inside the firm that are pre-eminent “valuers” and brokers of intellectual property. As we practice our go-to-market strategy, we’re looking for value on the balance sheet. We can give you a sense of what it is worth, and if you don’t need it you can sell it to raise capital.
“HAVE GPs BEEN ASKING FOR CERTAIN VALUATIONS, AND HOW DOES EQUITY AND DEBT AFFECT THAT VALUATION?”
Hockman: The focus is on cash flow, internally and externally. I think that sets where the debt is, and the focus on long term value, so income analysis is important in valuation. On the leverage side, it’s a bit subdued in comparison to two years ago. There is usually plenty of equity or capital behind them so it doesn’t come into the debate all that often anymore.
Panelists remarks edited for length. For upcoming IVCA events, click here.