The chart below shows that when interest rates are low, more unicorns are created because it is cheaper for startups to access capital, allowing them to scale faster and reach a billion-dollar valuation.
When interest rates are higher for longer, fewer unicorns are created because financing costs are more expensive, and it becomes more difficult for companies to expand.
This is not surprising. In fact, this is the entire idea from the Fed with raising interest rates: to make borrowing more expensive and slow economic activity.
The bottom line is that venture capital is unattractive in a higher-for-longer environment because startup firms are characterized by having no earnings, no revenues, and no cash flows, and, therefore, less ability to pay the debt-servicing costs that are associated with expanding the business.
In short, companies with low interest coverage ratios struggle when interest rates are higher for longer.
Source: Ilya Strebulaev, Venture Capital Initiative, Stanford Graduate School of Business, Apollo Chief Economist
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