HSBC expands venture debt fund into New Zealand - how does it compare to venture capital?

Funding the next unicorn. Image / 123rf

Venture capital has been the main way that New Zealand start-ups have raised capital. In Dragon’s Den-style, you give up a slice of ownership in your company in return for an investment - as when Tracksuit raised $22 million last week in a round led by two US firms, who took a 28 per cent stake.

But now HSBC has expanded its US$150m ($240m) venture debt fund from Australia into New Zealand as well. It’s pitched as the first venture debt fund offered here by a bank.

There are also dedicated venture debt funds and BNZ earlier launched its Contracted Receivables Financing for software-as-a-service - SaaS or cloud software start-ups - to borrow against future income from signed contracts. BNZ also has revenue-based financing that offers term debt of up to 33 per cent of recurring revenue of a minimum $0.5m and “Project Scale-Up” for tech businesses with a minimum of $5m in revenue. MyHR and Figured are among the takers.

Start-ups worldwide, including New Zealand, enjoyed a cheap-money venture capital boom between 2020 and 2022. But as interest rates rose, it became harder and harder to raise funds - and when deals did happen, founders often had to accept a lower valuation, which meant giving up a bigger stake in their company (witness Movac’s hard-bargaining with Tauranga start-up LawVu).

Venture debt, on the other hand, is non-dilutive. But while you don’t have to fork over an ownership stake, you do have to pay higher interest than a standard business loan given that start-ups are, by their nature, a riskier bet.

The bank won’t look at your property or other tangible assets as collateral, but it will be interested in the value of your intellectual property and your customer pipeline.

HSBC Australia-New Zealand tech sector lead Alan Watters told the Herald that, from his perch, he was seeing relatively healthy seed and Series A or even Series B venture funding, “but from Series C onwards, a lot of the capital has dried up”.

Seed funding is typically a friends-and-family round that brings in a few tens of thousands of dollars - or hundreds of thousands if you’re lucky. But for a Series C - a firm’s third major funding round - an eight-figure sum is usually sought. And that’s the territory of HSBC’s new venture debt fund.

It will loan anywhere from $10m to $50m, Watters said, with an average of around $15m to $20m.

HSBC will be looking for Series C-league revenue, which Watters puts at around $20m ARR (annualised revenue rate, or when a start-up takes its latest month’s income then extrapolates it to a year).

A firm does not have to be in the black, but it does have to display a clear path to profitability within 12 to 18 months, Watters said.

In headier times, some start-ups have merrily lost buckets of money as they prioritise growth over profit - with the ultimate aim not of getting to cashflow positive so much as achieving a big trade sale or an IPO. HSBC is not interested in any start-ups banking on those outcomes, Watters said. (On the venture capital side of the fence, there’s also been a swing towards focusing on the bottom line.)

HSBC Australia-New Zealand MD Steve Hughes pitched that HSBC, which operates in 62 markets, could also offer international banking services to Kiwi start-ups. Setting up bank accounts in foreign territories has traditionally been a pain point for our early-stage firms (and there was grief in April last year when what was regarded as one of the more accommodating options in the US, Silicon Valley Bank, collapsed. (HSBC bought Silicon Valley’s UK business for £1.)

Hughes also stressed he wasn’t out to dethrone venture capital. Venture debt was designed as a complement, which could suit some later-stage start-ups and help them extend their “runway”.

HSBC’s venture debt was only recently launched in Australia (where it’s also being billed as a market first, at least from a bank), but Watters pointed to two start-up deals completed during 2023 while his firm was still in the due diligence process for its new fund. HSBC arranged a US$15m venture debt facility for an insurance fintech called CoverGenuis and US$20m for hospitality management app SiteMinder.

What VCs make of venture debt

“Greater diversity of funding products for founders is always a good thing,” said Lovina McMurchy, a former partner with local venture capital firm Movac who has joined a Wellington start-up called Kry10 - where she recently wrangled a $6m Series A raise that drew in US, Australian and Kiwi venture capital.

“In these days of low valuations, if you have a path to profitability in 12-18 months it’s a good option to take debt instead of more dilution - but you do need to make sure you can stay within the covenants of the debt, which can sometimes be restrictive.”

McMurchy also pointed out that if you’re at the Series C stage, and 12 to 18 months from profitability, you don’t have to worry about any gap at the higher end of the VC scale because “you’re large enough to tap global markets for venture capital”.

That’s something we’ve seen with the likes of Waikato- and Auckland-based smart cow firm Halter, which raised $85m in a Series C round last year led by Silicon Valley-based Bessemer Venture Partners, or Christchurch’s Partly, which in late 2022 bagged $37m from London-based VC Octopus, among others.

Punakaiki Fund and Climate Venture Capital Fund director Lance Wiggs said there were already some local players in the venture debt space. “But the gap remaining for NZ venture funding is very large, and there are plenty of tech companies in NZ who would be looking for debt. Obviously, the numbers are a little challenging in a higher interest rate environment so it would be good to see the product details.”

HSBC’s Hughes said rates would be set on a case-by-case basis but would be above a standard business loan but below dedicated venture debt funds.

Watters was due to fly this week to New York, where his itinerary would include one of the regular Flat White Meet-ups arranged by Kiwi entrepreneur (and NZME director) Guy Horrocks, in which New Zealanders in the US get together to pool knowledge about cracking North America.

“That’s a simple example of how we’re going to support [start-ups] on the ground, in markets. It’s not just about the banking.”

Chris Keall is an Auckland-based member of the Herald’s business team. He joined the Herald in 2018 and is the technology editor and a senior business writer.