There were two bright spots for US venture capital firms in an otherwise dismal third quarter: valuations for late-stage companies came down and funds were able to raise even more capital.
Q3 overall was lackluster, with deal-making and exits declining for the third straight quarter, according to PitchBook and the NVCA, which provided preliminary top-line figures before they issue their official quarterly report next week.
“Deal activity across all stages is showing more signs of distress, recording the third consecutive decline in completed deals,” PitchBook/NVCA said in a statement. The estimated deal count for Q3 (3,076) is down about 35 percent from the quarterly record high in Q1 of this year and is the lowest quarterly count since Q4 2020.
On a similar note, the total amount invested ($43 billion) declined for the third straight quarter and was the smallest amount since Q2 2020 ($37.4 billion), the height of the pandemic. The Q3 total was less than half of the all-time high of $92.5 billion that US venture firms invested in Q4 of 2021.
Silverton Partners, an early-stage investor based in Austin, has seen its deal pace decline about 60 percent from last year, managing partner Morgan Flager told Venture Capital Journal in a recent interview. “In the first three or four months of the year, we got closer to the finish line and then people were expecting 2021 pricing because it didn’t feel that far away from 2021.”
Entrepreneurs appear willing to hold off on raising new rounds if they can afford to. “A lot of people are hearing the numbers and seeing where pricing might come out and they’re deciding to wait,” Flager said. “But I expect both those things to change as we get into the tail-end of this year [and] certainly in 2023.”
VCs themselves aren’t in any hurry to invest if they feel like they would be overpaying. “There’s so much deal flow right now and so much uncertainty in the market, [many investors feel] there’s just no pressure. Even if it’s a great deal, it’s sort of like ‘there will be another great deal,’” Sara Brand, founding general partner at True Wealth Ventures, told VCJ in a recent interview.
The decline in deal making isn’t surprising given the ongoing drought for exits. Just $14 billion in exit value was generated from an estimated 302 exits in Q3, marking the third consecutive quarterly decline.
“These figures are in line with exit activity expectations around 2014 and well off the highs seen in 2021 — $266.8 billion in exit value was generated in Q2 that year,” PitchBook/NVCA said. “With the expectation that the current slow environment will remain, this year’s total exit value is in danger of falling below $100 billion for the first time since 2016.”
Surprisingly, start-up valuations remain relatively high. The median pre-money valuation for an early-stage deal hit a record high of $55 million as of September 30, up from $44 million last year and $27 million in 2020. Even seed-stage deals are pricier, coming in at a median of $10.5 million in Q3, up from $9 million last year and $7 million in 2020.
The only stage where VCs saw relief was at the late stage, where the median pre-money valuation declined from $100 million in 2021 to $91 million as of September 30. Still, the median remains much higher than it was in 2020 ($60 million) and 2019 ($52 million).
VCs are patiently waiting for start-ups to burn through their cash. “[Founders] have the luxury of waiting only as long as you have cash in the bank,” said Flager of Silverton. “If you have six to nine months or 12 months of cash left and you don’t like what you hear now, you can wait six months and try again. But six or nine months from now when you hear that, it’s not really an option to wait another nine months and try again.”
Flager doesn’t expect founder expectations to adjust quickly. “A lot of founders raised a lot of money in 2021 and that gave them a decent amount of runway,” he said. “A lot of folks have [also] tightened their belts in the first eight months of this year to even further prolong that runway. For some people that were planning to raise this year, the tightening gets them into next year.”
High prices have VCs hanging onto an increasingly large pile of cash. With just three quarters completed, US VC fundraising hit an annual high of $150.9 billion, eclipsing the 2021 record of $147.2 billion. Notably, the number of funds raised totaled just 593, down 48 percent from 1,139 last year. The last time US firms raised fewer than 700 funds in one year was 2017.