Investors take the reins with structured deals
As markets and valuations have fallen and interest rates have risen, structured shares have become more prevalent in the world of startup finance, frequently used by cash-strapped investors and companies as an alternative to a traditional capital increase. Many of these deals are structured with restrictive terms that haven’t been used in years.
Structured equity, which often includes both equity and debt components, includes convertibles, debt with warrants, and preferred stocks with or without warrants. It can be used to finance organic growth, finance acquisitions or reduce leverage.
In a recent example of how structured equity is featured in funding rounds, business travel startup TripActions, which is planning an IPO, raised $304 million at a higher-than-current valuation. of his previous cycle. The investment, which valued TripActions at $9.2 billion, included $150 million in structured financing provided by Coatue, apparently from the company’s new structured equity fund.
Chad Norman, senior portfolio manager at Avenue Capital Group, said he sees many more insider-led funding rounds starting in the form of convertible debt, allowing companies to expand their liquidity avenues without raising capital.
According to Norman, many of these transactions include liquidation preferences and conversion discounts that grant noteholders the right to convert the loan with a 25% to 30% reduction in the purchase price in the next funding round. .
Preferences, as they are known in the industry, give noteholders in the event of a liquidity event the right to be reimbursed before ordinary shareholders receive anything. In recent transactions he is aware of, investors are more frequently requesting multiple liquidation preferences that entitle investors to a return of at least twice their investments in a sale, Norman said.
Today, investors are much less concerned about valuations. Instead, they focus on securing conditions that guarantee their yields, he added.
Fitness equipment company Tonal Systems, for example, twice offered liquidation preference to investors who funded its latest round over the summer, The Wall Street Journal reported.
The growing use of structured finance in transactions is another sign that the pendulum has swung in favor of investors after the end of a long bull market in which founders, who often received more funding offers than they needed, could cap investors’ returns or impose other terms.
Many investors have already sensed the change and are taking advantage of it.
Earlier this year, a number of investors, including Viking Global Investors, JP Morgan and fintech-focused investor Portage, reportedly marketed structured equity funds targeting cash-strapped startups. TPG, Insight Partners, Blackstone and Sixth Street are also among investors making structured equity investments, according to two people familiar with the matter.
The use of structured finance in new fundraisings could be to the detriment of ordinary shareholders, including employees, and investors in previous fundraisings.
“If you did that in Series A or Series B, you would expect investors in later cycles to have the same rights, and that would be very punitive for early-stage investors and certainly for founders,” he said. said Vinny Pujji, a managing partner. at Left Lane Capital.
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