Gold-hill-venture-lending

9-804-083REV:MAY5,2005________________________________________________________________________________________________________________ProfessorsFeldaHardymonandJoshLernerandSeniorResearchAssociateAnnLeamonpreparedthiscase.HBScasesaredevelopedsolelyasthebasisforclassdiscussion.Casesarenotintendedtoserveasendorsements,sourcesofprimarydata,orillustrationsofeffectiveorineffectivemanagement.Copyright©2004PresidentandFellowsofHarvardCollege.Toordercopiesorrequestpermissiontoreproducematerials,call1-800-545-7685,writeHarvardBusinessSchoolPublishing,Boston,MA02163,orgoto—electronic,mechanical,photocopying,recording,orotherwise—withoutthepermissionofHarvardBusinessSchool.FELDAHARDYMONJOSHLERNERANNLEAMONGoldHillVentureLendingIwouldhatetogivebirthtoachildthatbitesme.—KenWilcox,CEO,SiliconValleyBankWithouttheSVBpartnership,we’renotworsethananyotherventuredebtfund.Butwithit,we’remuchbetter.—DavidFischer,partner,GoldHillItwashardtogetinspiredaboutFebruaryintheNortheast,musedDavidFischer,apartnerandco-founderofGoldHillVentureLending(GoldHill),ashestaredoutatthefrozenlandscapebeyondthewindowofthejetlandingattheHarrisburg,Pennsylvaniaairportforyetanotherfund-raisingmeeting.Hewastryingtoraise$200millionforafirst-timeventuredebtfundassociatedwithSiliconValleyBank(SVB),amajortechnologylender,butafterninemonthsofgruelingeffortandrejection—politerejectionbutrejectionnonetheless—Fischerfeltalmostaslifelessastheice-coveredgrassesbeyondtherunway.Hewasstartingtofearthatthedifficultmarketof2003mightnotbereadyforthisproject,buthehopedthatthechangesinthefund’sstructurewouldmakeitmoreappealingtopotentialinvestors.Theideaofanaffiliatedfundseemedtooffersignificantsynergiestoallparties.SVBownedashareofGoldHill’smanagementcompanyandalsowasalimitedpartnerinthefund.Its$20millioncommitmentwasthelargestthusfar.GoldHillwouldshareSVB’sdealflow,backoffice,salesforce,database,andits20-yearhistorywithentrepreneurs,venturefirms,andindividualventureinvestors.ItwouldhavetheoptiontodoanyappropriatedealthatcametoSVB—asubstantialdealstreamgiventhatSVBbankedover60%oftheventure-backedstart-upsinNorthAmerica.Evenintherecentdownturnamongventure-backedcompanies,venturedebthadperformedwell.SVB’sinternalrateofreturn(IRR)between1996and2002,frompositionsin437companies,was19.48%overall,with9.42%fromloans,withanetlossratioof3.5%.1DuringtheircareerswithSVB,GoldHill’steamofFischer,SeanLynden,FrankTower,andTimWatersonhadbeenassociatedwithdealsthat1Thenetlossratioisdefinedasloansthathadbeenwrittenoffasuncollectibleasapercentageofthetotalvalueofventureloansmade,andappliesonlytotheventuredebtportfolio.SVB’snon-performingloansoverall(thosemorethan90daysoverdue,andthoseforwhichtherewasnoreasonableexpectationthatprincipalandinterestwouldbepaid)fortheyearendingDecember31,2002,were1%oftotalgrossloans,and0.5%oftotalassets.804-083GoldHillVentureLending2producedhalfofthebank’swarrant2income,whichhadcomefrom30%ofthecompaniesthattookventuredebt.GoldHill’spartnersplannedtosyndicatewithSVBbutalsotomaketheirownloans,inwhichtheywouldintroducethebank.Becausereturnsfromventuredebtcamethroughbothinterestandwarrants,GoldHillwouldreceiveasteadystreamofincomefrominterestpayments,withanequity-likeupsidefromthewarrants.Aswithanyventure-typeinvestment,receivingincomefromthewarrantsrequiredfundingtherightcompanies.TherelationshipwithSVB,whichhadstrongtiestotheventurecommunity,wouldhelp,asSVBknewthedealsthatwereinprocessandtheventurecapitaliststhatwerecreatingthem.Fischerandhispartnersalsohadlong-standingrelationshipswiththeventurecommunity.Ithad,Fischerthoughtashewentthroughthejetway,seemedlikesuchanobviouslygoodidea.Heknewthatfund-raisingforafirst-timefundwouldbetoughandthatthecompetitionwouldbestiff.Ashewasstrugglingtoraisehis$200million,LighthouseCapitalhadcloseditsfifthfundat$366million.Pinnaclehadclosedon$100millioninJuly2002andwasaimingtoraiseasecond$100millionbeforeitcloseditsfund.Maybe,Fischermused,therewasnomoreroomforanotherventuredebtfund,especiallyonewithabanksponsor.Itseemedthatthosepotentialinvestorsintriguedbyventuredebtwerewaryofthefund’sconnectionwithSVB,andthoseintriguedbytheinstitutionalsponsorshipfoundventuredebtdistasteful.Alotwasridingonthismeeting,headmittedtohimselfinthetaxi.Heandhispartnershadrecentlydiscussedraisingasmallerfund—inadditiontoSVB’s$20million,whichmightgoto$25million,theyhadanother$10millioninsolidcommitmentsandcouldeasilyreach$50million.Perhapsinthiswaryenvironment,theyshouldgowiththe$50millionandprovethemodel.Then,withatrackrecordofsolidreturns,theycouldraisemoremoney,counteringobjectionswithexperience.YetFischerthoughtthatventuredebtreallyhadaplaceinthismarket,forcompanies,venturecapitalists,andinvestorsalike.Hewantedtoclosethe$200million.Hejusthadtoallaytheinvestors’concerns.VentureLending3Theprocessoffundinganewventureforcedtheentrepreneurtotradeownershipforcash.Anentrepreneurhadagoodideaandnomoney.Theriskiert