The Leveraging of Silicon Valley

Abstract

Early-stage firms utilize venture debt in one-third of financing rounds despite their general lack of cash flow and collateral. In our model, we show how venture debt aligns incentives within a firm. We derive a novel theoretical channel in which runway extension through debt increases firm value while potentially lowering closure. Consistent with the model's mechanism, we find that dilution predicts venture debt issuance. Empirically, treatment with venture debt lowers closure hazard by 1.6-4.4% and increases successful exits by 4.3-5.3%. Back-of-the-envelope calculations suggest $41B, or 9.4% of invested capital, remains productive due to venture debt.

Keywords: venture debt, venture lending, early-stage financing, entrepreneurship, start-up capital structure, levered equity, runway extension, moral hazard, optimality of debt, innovation finance

JEL Classification: G24, G32, L26, O3