WHAT WE'RE SEEING
01 A Solid Outlook for the Tech Capital Markets
02 Is the Death Spiral a Myth?
03 The Download Quiz: U.S. vs. European Venture Capital Trends
/ 01
MARKET PERSPECTIVES
A Solid Outlook for the Tech Capital Markets in 2025
How will investor sentiment, the new Trump administration and disruptive technology influence the tech capital markets in 2025? Orrick’s Albert Vanderlaan hosts a conversation with Chris Weekes, Managing Director at TD Cowen.
3 Takeaways
- IPO activity is expected to increase given the lack of activity and backlog of IPO-ready companies. “The pipeline is growing,” Weekes says. “Our campaigns are ongoing, and we are speaking to a lot of private equity sponsors… that have a bit more pressure to find exit and return capital to their LPs.”
Weekes expects the capital markets to continue to rebound and the IPO market to return to a more normal state in the second half of 2025, resulting in about 120 to 130 IPOs by year’s end.
- The regulatory scheme will look different. Expect some short-term volatility as the new Trump administration rolls out policy changes. However, the prospect of deregulation, paired with return of capital, is already accelerating activity in the tech, aerospace and defense and finance sectors, Weekes says.
There’s another important factor at play – in the absence of federal regulation, the states are likely to act, Vanderlaan says.
- Disruptive technology will be a driver. New technologies such as AI, and its convergence with other sectors such as energy and infrastructure, will continue to drive growth – and the retail sector is playing a part, Weekes says.
Capital infusion into data center and energy infrastructure to support growth in the AI and tech sector more broadly is expected to increase in 2025 as the intersection of energy and tech continues to coalesce, Vanderlaan says.
/ 02
A CLOSER LOOK
Is the Death Spiral a Myth?*
(...too Convertible? That is the Question...)
Times are tough, and you need capital. Maybe your product or services roll-out is off schedule. Maybe expenses have soared or your business needs a little more capex – or time – to generate positive momentum. Maybe everything is going well, but your existing debt is approaching maturity and refinancing at current rates just isn’t feasible. Whatever the reason, your public company needs funding, and you don’t feel like you can access traditional debt or even private credit markets. Then, an investor knocks on your door with an offer – a twist on the old “equity line of credit” structure where an issuer has the right to periodically place its shares with an investor at a market discount.
The names vary – a “pre-funded advance,” “pre-advance loan” or a “convertible debenture,” among others – but the construct is largely the same. The investor advances capital in exchange for a short-term note (12-24 months) that is freely convertible into tradeable, listed equity at a discount to the trading price at the time of conversion, subject to a “floor price.” Unconverted principal is payable in cash at maturity. The note may be issued at a discount, could be secured and typically includes events of default and other provisions that might trigger repayment obligations or penalties. It can be issued one-off or under an agreement allowing for additional advances at the request of the issuer, up to a committed amount.
The direct benefits are apparent – the company will receive immediate cash that it can “repay” by issuing equity, ideally never having to come out of pocket. As are key downsides – with a conversion price that always scales down at some discount to market, a stock price decline could let the investor draw increasingly dilutive amounts of equity while barely putting a dent in the outstanding balance of the note. Ongoing sales of those shares (and/or prospective shorting activity) can put further pressure on the company’s stock price, potentially resulting in a “death spiral” effect that it cannot recover from.
So, are the benefits worth the risks? To investigate, Orrick’s Mark Mushkin reviewed the stock price performance of 65 unique issuers** who entered into similar instruments (some multiple times) over 100+ transactions from mid-2019 through late 2024.
The results were fairly stark. While a handful experienced some short-term gains, on average, these issuers saw stock price declines of ~10% after five days, ~35% after three months, nearly 60% after six months and between 75% to 80% after one year.
In addition, of the issuers we looked at, more than 45 received a non-compliance notice from their listing exchange within an average of ~six months, 60%+ of which related to a failure to maintain a $1.00 minimum bid price, and 20%+ for other equity-linked reasons (min. stockholders’ equity; min. market value of listed securities), with 12 of the issuers we reviewed still short of six months post-issuance. In addition, of the 42 issuers for whom we have 12 months of post-issuance data, only one was trading up at 12 months (though a few had ups and downs along the way) and of the 12 issuers for whom we only have six months of data, only two were trading up at six months.
There are, as always, some caveats. By the time a company answers that fateful knock, these facilities may represent capital of last resort and the stock price declines we noted may be as much a function of a company’s performance as any downward pressure from the convertible security. At the same time, while their stock price suffered, many of these issuers seem to have bought more of that priceless resource – time.*** Of the entities we looked at, about two thirds are still trading on an exchange, the rest having either moved to OTC, been acquired or filed for insolvency. In addition, several issuers were able to secure multiple such advances, suggesting a slow (if steady) decline.
One clear takeaway? While companies may have turned to these instruments in the hope of using the capital to operate their way out of their doldrums, we did not find evidence of those outcomes – only five of our set are trading higher today than at the time of issuance. On the whole, even if these instruments did not speed the companies’ decline, they do not seem to have helped reverse it, either. That is not to say this could never work. A company facing liquidity issues must consider all options, and it is possible a savvy operator who just needs a bit more runway to their next milestone or deal could use an instrument like this to bridge the gap and put itself back on the path to success. But… as with all things – buyer beware. The details of the terms matter, so be sure to review closely with your counsel. And if it seems too good to be true? It very well might be.
*All figures based on rough lawyer math and stock price movements as of October 31, 2024. This analysis generally focuses on a particular type of converts – “future-priced” securities convertible at any time at the investor’s option at a discount to then-current market prices, as well as comparable structures that create a similar dynamic – which present unique concerns compared to more traditional convertible instruments with a fixed conversion price or conversion limits set at closing.
**To determine our issuers, we first identified a group of instruments with these features that were issued over the past 3+ years, then looked to each issuer’s stock price performance from its first such issuance on. There are likely a number of similar transactions (and issuers) we missed, but for trend purposes, there was enough consistency in the outcomes that we felt comfortable with the initial sample set.
***It is possible, however, that this dynamic could change in the future given the recent reforms adopted by the listing exchanges to expedite the delisting process for continuously non-compliant issuers.
A Closer Look will be a regular feature in The Download – as Mark Mushkin shares insights into the rapidly evolving ways issuers attract and raise capital. You can find his first post here: Do I Need to Make Money to Go Public?
/ 03
THE DOWNLOAD QUIZ
Which sector received the largest share of European venture capital funding as compared to the U.S.?
A) Fintech
B) AI
C) Sustainability
D) Deep Tech
Check the answer here.
