After the record highs that valuations reached across all funding stages following turbulent markets in 2020 and 2021, many VC firms have begun marking down their portfolios, reports affiliate title Venture Capital Journal. Roughly three quarters of limited partners across the world surveyed recently expect down rounds in their venture capital portfolios over the next year or so, according to Coller Capital’s Summer 2023 Global Private Equity Barometer report.
The outlook is most grim in North America, where 85 percent of LPs expect lower valuations, compared with 72 percent of European LPs and 59 percent of Asia-Pacific LPs. Just 6 percent of North American LPs expect to see fewer down rounds versus 13 percent in Europe and 24 percent in Asia-Pacific.
The full extent of markdowns may be hidden from view depending on how many companies decide to hold their valuations at cost by finding other sources of capital, including venture debt, in order to avoid the risk of a down round.
“That’s kind of one of the dirty little secrets of venture – holding values can be deceptive,” Erik Lassila, CEO and managing partner of Menlo Park-based fund of funds Peakview Capital told VCJ. “Different firms take different approaches to their holding values. There definitely are going to be companies out there that are being held at cost right now and things are going to start getting trickier.”
The results of Coller’s report are based on responses from 110 institutional investors in private equity funds polled between mid-February and the end of March. In addition to down round expectations, the survey covered other topics relevant to VC such as LP expectations for the secondaries market and allocations to emerging managers. (Coller uses private equity as a “generic term covering venture capital, growth, buyout and mezzanine investments.”)
Sixty percent of respondents were asset managers, public pension funds and insurance companies, with the remaining 40 percent made up of corporate pension funds, endowments, government-owned organizations, family offices and corporations.
A boom in secondaries
There has been increasing discussion around the secondaries market for a few years now, heightened recently by the economic downturn that has left many LPs’ portfolios overallocated to private assets. More than four in five (83 percent) of the respondents to Coller’s survey indicated that they would be using the secondaries market to rebalance their portfolios, up from 77 percent who said so in the Winter 2020-21 survey. Access to liquidity is the second-largest reason why LPs may look to secondaries in the next year, with 77 percent of respondents indicating so.
Lassila says the current lack of liquidity is a big worry to some LPs, despite some signs of life in the public markets. “The IPO market looks like it could be picking up a little bit, but it’s just not a time in history where you have a lot of major acquisitions, major IPOs, so there’s just that lack of liquidity,” he told VCJ. “A lot of investors can get concerned about when they can get cash out to reinvest in other things. Secondaries I think will become a very active market.”
The number of M&A transactions spiked during 2020 and 2021, reaching a high of 3,039 in Q4 2021 and falling to 2,062 in Q4 2022, according to the CB Insights State of Venture 2022 report. The changes are similar in IPOs and SPAC transactions, with IPOs falling roughly 26 percent in the same time frame and SPAC deals falling by roughly two-thirds.
The disparity in median valuations quarter-on-quarter only widens as companies raise later rounds.
The median Series A pre-money valuation reached a high of $49.4 million in Q1 2022 and fell to $37 million in Q4 2022 before ticking up slightly to $40 million in Q1 2023, according to the Carta First Cut State of Private Markets Q1 2023 report. The report shows a dramatically larger decline for Series D and later rounds, where the median pre-money valuation peaked at $1.75 billion in Q2 2022 before plummeting nearly 86 percent to $251 million in Q1 2023.
On a more positive note, LPs say they plan to commit to more funds led by new managers in the coming months. More than half (52 percent) of the respondents to Coller’s survey said they would be making their first commitment to a new venture manager within the next year or two. It is unclear whether the question posed to LPs refers to emerging managers or to more seasoned managers the LPs previously haven’t committed to.