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Canadian venture debt reaches a crossroads

Deal flow and deployment have declined in the Canadian venture debt market, but lenders remain optimistic about the sector because of the recent explosion of well-received private debt products.

The Canadian startup scene is similar to the U.S. market, with its focus on tech companies and a robust venture ecosystem. But Canada’s healthcare venture market is in its infancy in comparison with its American neighbor, banks are fighting for a slice of the pie, and deal volume has not been consistent.

Deal flow through the venture space in 2019 is on track to equal or exceed the figures for 2017 and 2018, but venture debt’s numbers are on the wane, according to data from the Canadian Venture Capital and Private Equity Association. VC firms invested more than C$3.6 billion ($2.9 billion; €2.55 billion) in equity during 2018 across 503 deals, compared with C$194 million across 121 deals in venture debt.

Private firms in the sector also have to navigate the looming presence of banks. These are looking to capitalize on tech opportunities, which have spiked over the last 12 to 18 months. Even big American companies, like Silicon Valley Bank, are opening offices in startup hubs such as Toronto.

“To me, a big surprise is the realization by banks that this is an important growth sector they need to develop the capacity to serve,” says Alkarim Jivraj, chief executive at venture debt firm Espresso Capital.

“It’s surprising how almost all of them realized at the same time that they needed to be in this business.”

However, the market is still drawing strong appetite from lenders like Jivraj who predict growth in the sector because of Canada’s exploding private credit market. Although the big banks cast a large shadow, they still leave space for private lenders.

“A lot of this activity is being served by the private credit market all the time,” Jivraj says. “There has been a massive explosion of the private credit sector and I think it will grow. It brings liquidity, different structures, creative structures and innovation.”

Espresso Capital has continued to expand in the market since it arrived on the scene in 2009. The firm typically lends to fast-growing tech companies with between C$2 million and C$40 million of revenue in Canada with loans worth up to C$15 million. The firm has lent to more than 300 companies since its inception and recently moved into the U.S. market.

Intangible assets

FirePower Capital is another player in the space. Founded in 2012, the firm focuses on lending to B2B companies with at least C$2 million in revenue that have a focus on technology and writes tickets of between C$1 million and C$20 million on average.

“Tech is an obvious way to go if you look at new businesses that are growing in Canada,” says Jared Kalish, a partner at the firm. “Any business now is tech-enabled in some way. A lot of tech businesses have good reoccurring sticky revenue, but for the most part, most of their assets are intangible.”

FirePower Capital has also noticed the encroachment of banks, but recognizes their limitations and remains optimistic that the market will pivot in the right direction.

“This type of product [venture debt] has existed for some time,” says Trevor Simpson, a director at the firm. “But everyone has woken up to this offering and it is more accepted.” Kalish predicts that demand for it will only grow.