07 November 2023
Debt continues to be an important funding source in both the media and tech sectors, despite recent interest rate rises, as even expensive debt remains cheaper than equity financing. However, borrowers face new challenges in terms of obtaining and servicing debt, as credit tightens and overall borrowing costs head towards double digits in many cases.
Media and tech borrowing more – but prudently
When asked about their current level of debt compared to six months ago, 46% of our 200 respondents said they have a little more now, but only 10% have a lot more debt. This suggests prudent, restrained levels of investment and working capital growth, as financing levels have not increased dramatically.
Meanwhile, 67% of respondents said it is difficult to raise funding in the current climate. Raising finance is never easy – it will always involve months of work, adviser input and unpredictable twists and turns. However, there can be no doubt that the current backdrop of low economic growth is likely to add to the perception of difficulty and may constrain the eco-system as companies are cautious about raising and investing capital.
When choosing between debt and equity, companies will need to consider several factors, essentially balancing risk and reward. Debt is typically the cheapest form of financing, but both borrowers and lenders will always consider affordability, which in turn will limit the amount available. Equity is more expensive than debt in principle, as equity investors expect high returns. However, they can often be more creative in their structuring and put forward higher amounts than the debt markets.
High street banks playing a key role
Our survey found that media and tech businesses draw on funding from a wide range of sources. 36% of respondents currently have debt with the high street banks, such as Barclays, Lloyds, NatWest (including Coutts) and HSBC.
These banks still have a key role to play in the high-growth, early-stage tech ecosystem, and this is highlighted by the various programmes and initiatives they offer to help businesses grow and scale, including: Barclays Eagle Labs; Coutts Interactive Entertainment Accelerator; Lloyd’s Bank and Channel 4’s collaborative initiative, Black in Business; and NatWest Accelerator.
Emerging debt providers to consider
In the secondary lender category, private credit is an emerging debt source for mid market businesses to consider. Direct lending typically offers more tailored loans and deals executed quickly, which is particularly useful when portfolio companies pursue a buy-and-build strategy via making add-on acquisitions, where financial backers can move quickly and can be flexible with regards to the amount of debt required. However, against the benefits of flexibility and speed of execution these investors offer, companies must balance higher interest rates.
Research and development a key area to deploy investment
For the majority of respondents, the capital gained will be spent on strengthening their existing business and its organic growth, rather than acquisitions. Research and development – a key source of competitive advantage and increased margins – is a theme for 47% of respondents, while 42% will invest in digital platforms and architecture, and 42% in sales and marketing. Increased cost of capital has driven a slowdown in deal activity across all industries, and this is reflected in media and technology too, with only 22% of companies planning to use their capital for acquisitions.
What’s next for media and tech borrowers?
The increased certainty that comes with interest rates levelling out will help instil more confidence in both lenders and investors. That positive sentiment will, however, be balanced by ongoing weak economic growth of the UK economy and affordability pressure on consumers. All companies embarking on a fund-raising process should be prepared to field probing questions about their business and prospects.
Media and technology companies may want to consider approaching a wider-than-usual field of players to obtain funding. In the current uncertain climate, there is increased potential for a divergence of opinion between lenders and investors, with some taking a bullish view and others a bearish one, even when being presented with the same facts and data around an opportunity.
Every debt deal will encounter complexities but capital is out there and companies that navigate this well will find backers that suit them.
'We’re increasingly seeing a "flight to quality" effect, where lenders and investors compete aggressively for opportunities they view as high quality, while being increasingly sceptical of those they view as marginal. Preparation is therefore key, depending on which market is being approached. Lenders expect to see the business presented as a "safe" and stable bet, whereas equity investors will expect good visibility on an ambitious upside.'
Greg Moreton, Debt advisory
'In addition to debt providers, private equity (PE) is a complimentary source of capital to consider. 28% of the survey respondents were PE-backed already, and this is not surprising since software is one of the most active PE sectors, as it is drawn to the annual recurring revenues, strong margins and good growth prospects typically associated with these firms.
As an emerging area, for companies in the generative AI space, there’s evidence that PE investors will be attracted to the revenue profiles of hosting and platforms in what we call the ‘producing’ end of the gen. AI value chain.
Also, PE will be drawn to applications and services at the ‘adoption’ end of the chain as commercial services is also one of the most active PE sectors.'
Jasper Van Heesch, PE