Venture Debt & Startup Shutdowns: What Experts Predict

The Rising Role of Venture Debt in Startup Challenges

The recent failure of accounting startup Bench illustrates a growing trend: companies are being forced to shut down when their lenders demand repayment of loans. Similarly, in late 2023, Convoy, a digital freight company, encountered financial difficulties, ultimately leading venture lending firm Hercules Capital to take control in an effort to recoup investments.

Shareholder Losses and Increased Scrutiny

Divvy Homes, recently sold to Brookfield Properties for approximately $1 billion, reportedly left some shareholders without any return on their investment, as reported by TechCrunch. The extent of lender influence in this sale remains unclear, yet the company had previously secured $735 million in loans from institutions like Barclays and Goldman Sachs in 2021.

A Wave of Startup Failures

Following a period of extensive funding in 2020 and 2021 – characterized by less rigorous due diligence – a number of underperforming startups have already ceased operations. However, current data indicates that the situation hasn’t stabilized, and further failures are anticipated throughout 2025.

Venture Debt's Significant Investment

A record $41 billion was invested in venture debt across 2,339 deals in 2021, according to Silicon Valley Bank, suggesting venture debt will continue to be a factor in the startup landscape.

Lenders Increasingly Asserting Control

“Many companies are nearing the limit of their financial resources,” states David Spreng, founder and CEO of venture debt provider Runway Growth Capital. He believes lenders are increasingly encouraging startups to seek acquisitions as a means of minimizing potential losses.

John Markell, a managing partner at venture debt advisory firm Armentum Partners, estimates that almost all lenders currently have struggling companies within their investment portfolios.

The Double-Edged Sword of Debt

While debt financing can enable rapidly expanding startups to meet their capital needs without relinquishing equity to venture capitalists, it also introduces increased risk. Excessive debt relative to a startup’s revenue or cash reserves can trigger a forced sale at a significantly reduced valuation.

Alternatively, lenders may initiate foreclosure proceedings to seize assets securing the loan, aiming to recover at least a portion of their investment.

Strategies for Startups Facing Debt Challenges

Startups can potentially avoid lender intervention by securing additional funding from existing or new venture capital investors through equity purchases. Many venture debt agreements include stipulations regarding liquidity and working capital ratios; falling below these thresholds could prompt lender action.

However, investors are currently hesitant to continue funding startups exhibiting insufficient growth to justify the inflated valuations attained in 2020 and 2021.

Predictions of Further Consolidation

“Currently, a substantial number of companies are facing difficulties,” Markell observes. “A significant number of ‘unicorns’ are unlikely to remain in business for much longer.”

Spreng anticipates that numerous startups will be compelled to sell at low prices or shut down entirely this year. Despite this, most lenders still prefer to see startups acquired, even through fire sales.

Implications for Investors

In forced acquisitions driven by lenders, equity investors typically receive a limited share of the proceeds, and often don’t even recover their initial investment, according to Markell. Venture capitalists acknowledge that investment losses are an inherent risk.

Spreng notes that many of these transactions are kept confidential due to the unfavorable outcomes for venture investors; few are eager to publicize losses.

Debt holders generally have priority in repayment, making them less susceptible to complete capital loss.

Continued Appeal of Venture Debt

Despite the associated risks, the attractiveness of venture debt remains strong. Data from PitchBook reveals that new venture debt issuance reached a 10-year high of $53.3 billion in 2024.

A considerable portion of this capital was allocated to Artificial Intelligence companies, including CoreWeave, which secured $7.5 billion in debt financing, and OpenAI, which obtained a $4 billion line of credit.