- Private market risks could emanate from the recent failure of some US banks
- A challenging capital raising environment for PE/VC could be exacerbated by the current fallout
- Valuations may face downward pressure as companies vie for scarce capital
- Near-term challenges highlight the importance of manager selection
Figure 1: SVB’s significance in the PE/VC industry
Source: SVB Company Filings, DBS
As at 31 Dec 2022
Fallout highlights private market risks. While regulators have stepped in to protect deposits of the failed bank, the fallout of SVB nonetheless highlights several issues in private markets:
- An already challenging capital raising environment: Rising rates in 2022 pushed up costs of capital, and the US venture market has already been seeing a dearth in capital supply. According to Pitchbook, more than twice the amount of capital is being demanded by VC-backed companies than is supplied. SVB proved to be a casualty of this environment – While cash burn of venture and growth-stage depositors depleted the bank’s deposits, challenges in PE/VC fundraising meant that cash was not replaced inflows from new investments.
- It could become more challenging going forward: The collapse could further exacerbate this capital demand-supply gap, as its existing borrowers seek replacement credit lines, while anxious investors shun emerging, cash-burning companies. Furthermore, with the VC ecosystem now under the spotlight, challenges are likely to be compounded through exposure to even higher funding costs for VC-backed companies and their investors as lenders price in greater risks in emerging tech. Ultimately an inability to obtain cash could lead to higher incidence of failure amongst start-ups.
- Tempering of PE performance given reliance on valuation multiples to drive value: Although more established, cash-generating companies could be better equipped to ride out a funding crunch, their valuations may nonetheless be impacted. Increased demand for funding suggests that investors can and should be selective in building portfolios of high-quality companies. However, as buyers become increasingly selective and as companies vie for scarce capital, lofty company valuations of yesteryear could be few and far between. For private markets that have been relying increasingly on valuation expansion as a driver of returns, this could result in tempering of performance.
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