Lenders Binge on Convertible Debt, Smashing Records

European Lenders Feast on Convertible Debt Amid Funding Crunch.

In a striking turn of events, European lenders have embraced convertible debt deals with a voracious appetite, setting a new record high of $2.5 billion in 2023, according to data from Dealroom seen by Reuters. This surge in venture debt deal value, a staggering leap from the $1.7 billion tallied in 2022, has been fueled by the dearth of equity funding availability that has gripped the startup ecosystem.

As equity fundraising plummeted from the dizzying heights of $130 billion in 2021 to a mere $62 billion in 2023, as reported by PitchBook, startups have been forced to seek alternative avenues of financing. Convertible debt has emerged as a lifeline, allowing founders to defer the dreaded valuation repricing to a later date and avoid the ignominy of a down round.

However, this newfound love affair with convertible debt is not without its perils. European lenders, sensing an opportunity to exert greater control and reap bigger rewards, are increasingly demanding complex deal terms that tilt the scales in their favor. Digital bank Bunq’s CEO, Ali Niknam, has sounded a cautionary note, warning founders of the colossal risks associated with these arrangements.

Niknam’s words carry weight, as founders risk surrendering substantial equity stakes to lenders should their companies fail to meet predetermined targets. Moreover, the deals can be structured in such a way as to exert immense pressure on startups to either go public or raise additional funding rounds from investors, leaving founders with little room to maneuver.

The allure of convertible debt also comes with a hidden sting – the specter of high interest rates that accrue over time, compounding the financial burden on startups struggling to find their footing in an increasingly turbulent landscape.

As the euphoria surrounding convertible debt deals reaches fever pitch, founders would be wise to heed Niknam’s words and tread carefully. The path to success is fraught with pitfalls, and the promise of short-term relief could very well pave the way for long-term anguish.