The venture capital industry is bracing itself for a prime investing opportunity as the ongoing coronavirus crisis looks set to squeeze deal valuations.
VC dealmaking kept up its strong momentum in Q1 according to the latest data from PitchBook, although the impending economic downturn due to the COVID-19 pandemic will inevitably slow activity through the rest of the year.
The latest PitchBook-NVCA Venture Monitor said the early stage sector saw strong capital investment in Q1, continuing a decade-long rise that seems primed to subside due to the fallout from COVID-19.
Venture deal activity saw $34.2bn invested across 2,298 deals in the first quarter, with valuations remaining elevated and median early-stage deal value reaching an all-time high in Q1.
Many of the VC market dynamics that have supported large deals sizes, such as more mature startups and high capital availability, persist in the market today, but widespread market volatility will weigh on dealmaking, the report said, shifting terms in favor of investors for the first time in years.
But it added that the VC market’s increasing reliance on large exits to return capital to investors would be tested during the remainder of the year, after COVID-19 uncertainty brought the long-running bull market to an end in March.
VC exit activity had already gotten off to a slower start in Q1 compared to last year’s record-breaking activity, but still posted a robust quarterly total with $19.3bn exited across 183 deals, PitchBook said.
Large exits still had an active first quarter, with 10 deals over $500m completed, while in a reversal from the last couple of years, acquisitions made up the majority of capital exited during Q1 2020, ousting IPOs from their throne for the first time since 2016.
The public market volatility stemming from the ongoing COVID-19 crisis put a damper on VC-backed IPOs in March,however, which is expected to remain through the rest of the year given how closely the IPO window for private businesses is linked to the conditions in the public market.
The report said, “On the performance side, VC funds have posted the best horizon IRR of any private market strategy in recent periods through mid-2019, but performance has been decreasing.
“As difficulties related to coronavirus linger, this downward trend could be sustained and will likely dampen the aggressive portfolio markups that have been behind much of the strength in recent short-term aggregate fund performance.
“When it comes to nontraditional investors, a distressed venture market could provide opportunity to private equity funds that are able to infuse portfolio companies with equity to sustain a downturn and emerge ready for growth when the economy rebounds.”
NVCA president and CEO Bobby Franklin said, “The last few weeks have been a whirlwind for the country, including the startup ecosystem.
“With the economy at a standstill, maintaining operations, sales, and headcount at companies is the priority, but it is understandably proving challenging with most of the population sheltered in place.
“Startups will see some options for federal relief from the CARES Act, while others will look to alternative means for cutting costs and capital infusion.
“The reality is that it will be a tough road ahead in 2020, but as we’ve seen in past downturns, resilience is in the fabric of this industry. Some of the most successful venture-backed companies were born in difficult times.”
Venture capital funds had raised $21bn across 62 vehicles by the end of Q1 this year, with capital increasingly concentrated in larger vehicles.
PitchBook said that nearly a dozen VC mega-funds of $500m or larger have closed so far in 2020, demonstrating the distinct paradigm shift over the past decade, in which VC has moved from a niche slice of private markets to the $100bn-a-year-plus capital investment achieved over the past two years.
Four $1bn-plus funds closed in Q1, accounting for almost half of the quarter’s capital raised, with the largestof the quarter being Tiger Global’s $3.8bn fund.
PitchBook said, “Perhaps where the slowing economy will be felt the most is with first-time fundraising – just nine first-time funds have closed so far in 2020, compared to more than 49 raised each of the last three full years.
“First-time managers and smaller GPs that need to engage new investors are likely to struggle due to travel restrictions and similar impediments.
“Relative to other private market strategies, smaller VC firms will be particularly susceptible because their size and high-risk strategy provides little financial buffer.”
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