SVB's collapse completely screwed things up for companies with bad credit

• The SVB collapse is going to make it a lot more expensive for companies with bad credit to raise capital.
• The spread on junk-rated bonds relative to US Treasuries has surged to the widest level since December 30.
• SVB's fall also eliminates a key source of funding for start-ups that would typically be denied by traditional banks.

The dust has yet to settle from the sudden collapse of Silicon Valley Bank, but one thing is for sure: the chaotic event has made it a lot more expensive for companies with bad credit to raise capital.

Since the FDIC took over SVB Financial on Friday, credit spreads on junk-rated bonds relative to US Treasuries have widened by 64 basis points to their highest level since December 30, soaring above 1,100 basis points.

That means junk-rated companies that seek to raise funds by selling bonds in the coming weeks will have to pay more to borrow, as investors seek higher compensation for the risk they're taking on in the wake of the biggest banking crisis since 2008.

But it's not just junk-rated companies that will face higher fund-raising costs. Credit spreads for investment grade companies have also risen in recent days as investors reprice risk across the spectrum of corporate credit quality.

The spillover effect of higher fundraising costs is also set to impact countless small startups that relied on Silicon Valley Bank to offer loans and extend lines of credit to companies that lacked profits, and sometimes even revenue.

The knock-on effect means tech mergers could soar 20% this year due to "a much tighter financing environment post SVB," Wedbush analyst Dan Ives said in a recent note.

"The reliance on the VC community and private funding world will be even more important with traditional financing means through the banking system much more stringent looking ahead," Ives said.

And for the smaller companies that don't get bought out or find new sources of affordable financing, bankruptcy could be imminent as higher financing costs puts pressure on profits, according to Ninety One portfolio manager Iain Cunningham.

"We are now beginning to see early signs of businesses that built their operating models around the false equilibrium [of near-zero interest rates] begin to struggle," Cunningham said in a Monday note. That's leading to more zombie companies, or companies that rely on low financing costs to fund their business, that could ultimately default.

"There are the things we can't see yet, which have a habit of floating to the surface as the rising cost of money and slowing growth begin to place pressure on cash flows," Cunningham said.

The fundraising environment could get even more difficult if the Federal Reserve moves forward with another interest rate hike at its FOMC meeting next week.

Financing costs have already soared considerably since the first rate hike of this cycle began in March 2022, and more rate hikes will only pile on to the burden. The market currently expects the Fed to hike interest rates by 25 basis points next week.

To blunt the rise in financing costs, companies need to take action, according Embarc Advisors' Jay Jung.

"Startups need to change their mindset and adapt to the new expensive capital environment. Reduce cash burn and identify opportunities to achieve more with less. Monitor metrics closely as we are not in a growth at all costs regime," Jung told Insider.