The late-stage, venture-backed asset class ended the first quarter strongly, and that momentum could well carry into the second quarter.
The three key indicators of M&A exits, IPOs and venture funding were all positive in the first quarter and pointed to the continued strength of the entire VC ecosystem. The market is continuing to follow the upward trend that began in mid-2016.
M&A is strong
In terms of M&A activity, the market remains robust. In the first quarter, almost $16 billion in M&A exits for venture-backed tech companies took place. Annualized, that is well above the $50 billion figure that typically signals a strong market. If activity keeps up at the current pace, 2017 could be the second most active M&A year in VC history.
To be sure, the first quarter was up significantly from a year ago, when M&A exits were down sharply due to the modest correction in the asset class. However, the valuations acquirers were willing to pay suggests pent-up demand for quality companies and the willingness to pay a premium.
AppDynamics is a telling example. It was supposed to be the first tech IPO of the year. It priced at $1.7 billion, but was acquired for $3.7 billion on the eve of its IPO, more than twice what it would have fetched in the public offering.
IPO market steady
The seven IPOs that took place in the first quarter are within the quarterly average for 2016. This now represents the new normal in terms of number of IPOs.
The most notable IPO successes were Snap and MuleSoft. Post-IPO, their shares are holding up well. Their performance over the next few months may determine whether others will line up to do a public offering.
That said, there has been no revival in the IPO market back to the days of old. There are now six to eight IPOs a quarter, down from 15 to 25 just a few years ago and shy of the historic average of 10 to 12 technology IPOs per quarter.
In our view, this is part of a long-term shift away from being a publicly traded company. The trend started even before Sarbanes-Oxley, Dodd-Frank and other regulations made it difficult to be a listed firm. Twenty years ago, there were over 8,000 publicly traded companies. Today, there are about 4,300.
The good news for companies in the private tech growth asset class is that there is no need to rush into an IPO.
As Uber, Airbnb, Palantir, Pinterest and others have demonstrated, there is no shortage of capital for high-growth private companies. Institutional investors are very willing to provide capital to these firms because they can earn double- or triple-digit returns, the kind of returns investors can’t get in publicly traded firms today.
We also suspect there are other factors at play, including the rise of program trading. When computers drive investment decisions, long-term investing takes a back seat. How does a CEO make the case to an algorithm?
In fact, IPOs are still important. They just aren’t as important as they used to be.
During the first quarter, investors deployed over $18 billion in capital, which would put 2017 annualized investing on the same track as 2016.
While angel and early-stage investing took a hit after a period of hype, the private tech growth asset class continues to attract capital at a significant pace. In the first quarter, 16 companies raised $100 million or more. Airbnb, SoFi, Instacart and WeWork led the group.
The continued financing of rounds of $100 million or more confirms what we have been seeing for the past five years. High-growth companies are staying private as long as they can because it is beneficial to their growth and ultimately their shareholders. Thirty years ago, these companies would have gone public. Today, they can do it on their own timeline.
For investors seeking to deploy capital to this asset class, the indicators are pointing in the right direction. Anything can happen, but the market is looking good from where we are sitting.
Sven Weber is managing director of SharesPost Investment Management in Menlo Park, California.
Photo of financing life cycle courtesy of vaeenma/iStock/Getty Images