LP Perspectives 2022: Investors put a positive spin on it… mostly

Institutional investors have a lot to cheer about in regard to their venture portfolios lately.

The US IPO market is crushing it and valuations are on an upward climb, with no ceiling in sight.

What makes venture activity all the more extraordinary is that the dealmaking and exits are taking place amid a pandemic.

Early concerns about venture capital under the threat of the coronavirus were exemplified by the mega-fund Sequoia Capital, which sent a memo to its portfolio companies advising them that they should rein in spending, cut jobs and adapt to a new economic reality under covid-19.

Meanwhile, LPs have had to adapt to a new virtual environment, as ESG and DE&I have shot up the priority list.

But at the same time, impact investing and climate tech are drawing increasing interest in the shadow of social unrest. And the pandemic has paved the way for an accelerated push of innovation in e-commerce, healthtech and other venture-backed industries.

Here, Venture Capital Journal’s LP Perspectives 2022 Study gauges the expectations, hopes and fears of the LP community against a complex and fast-moving backdrop.

A capital outlook

Most investors plan to increase or maintain the amount of capital allocated to various asset classes over the next 12 months. What is interesting is that with venture, LPs have said the pace of re-ups is increasing, and they are being asked to support side funds and newly created vehicles. It is uncertain yet if their outlook is an indication of whether they think re-ups will continue their torrid pace. Regardless, venture capital LPs have a rosy outlook, with about 90 percent of institutional investors intending to maintain or increase their footprint into VC over the next 12 months. Only 11 percent say they will invest less capital.

Setting a target

A total of 16 percent of investors say they are over-allocated to venture. That is exceeded only by private equity, in which 23 percent say they are over-allocated in that asset class. However, 41 percent say they are under-allocated to venture. In last year’s survey, only 23 percent of LPs said they are under-allocated to VC. A total of 43 percent say they are on target.

It’s all about performance

Venture capital LPs are smiling. Nearly 95 percent of investors reveal that their investments have met or exceeded performance benchmarks in the last 12 months. That is better than any other asset class measured in the study. Only 5.4 percent give VC a failing grade in saying that venture performance falls below performance.

Rosy outlook

Venture LPs are a positive lot, as 40 percent expect the good times of blockbuster IPOs to continue. That is more than any other asset class. However, 11 percent of LPs have looked into their crystal balls and say that venture performance will fall below their benchmarks over the next 12 months, which is more on a par with the other asset classes too.

Staying up late worrying

Covid-19 remains a concern, ranking as the second biggest factor impacting venture performance over the next 12 months, according to LPs. But it was extreme market valuations that stood as the biggest worry. A total of 67 percent say that extreme market valuations will have the greatest impact on venture performance. Natural disasters were viewed as the least disruptive factor in the next year. Tied in second place for the least disruptive were social unrest and currency variances at 7 percent each.

Setting the terms

When conducting due diligence, management fees at 50 percent is the LPA term that causes the most consternation with GPs when LPs are conducting due diligence. Second place belongs to unsatisfactory or no key-person clause, at 49 percent, as the term that LPs and GPs most disagree on. The least disruptive term that LPs and GPs discuss when conducting diligence has to do with board representation policy.

No ‘I’ in ‘team’

It’s uncertain how LPs feel about solo GPs, though anecdotally they appear to be on the rise for micro VC funds. As it just so happens, team size plays a significant part of an investor’s due diligence in a GP partnership. More than 91 percent say team size forms a major part of the due diligence process. Meanwhile, 15 percent say evidence of diversity and inclusion is not covered in due diligence.

Not warming on climate tech

A total of 39 percent of LPs say that GPs are now taking the risks of climate change seriously in their investment actions. However, that figure is slightly less than the 41 percent in last year’s study – an indication that climate tech is overhyped, or that the industry needs to see exits.

ESG revolution

A solid 74 percent of LPs believe that a strong ESG policy will lead to better long-term returns in their private markets portfolios. As a result, we expect to see more funds develop such policies as the ESG revolution continues to build momentum.