U.S. VC Fundraising Trends In Q1’16: Cause For Alarm Or Business As Usual?
At Sapphire Ventures we do quite a bit of internal analysis on trends in venture capital fundraising. After all, we’re a limited partner in early-stage VC funds, and we like to understand how capital flows may affect the VC climate.
So obviously we had an opinion when the Wall Street Journal recently announced that $13 billion has gone into venture funds in the first quarter of 2016, the highest total since 2000 (and then Pitchbook announced via their quarterly report that nearly $17 billion was raised in the first quarter). While this recent quarterly fundraising total is relatively large, the amount is not necessarily indicative that all funds are having an easy time fundraising. The high total amount for the quarter may be more indicative of the timing of fund closes versus a clear shift in market sentiment in the fundraising market.
Three distinct fundraising cycles since the 1980s
To better understand the various fundraising cycles since the early 1980s, we referred to Thomson Reuters’ extensive data set, which illustrates three distinct cycles:
1) Massive amounts of capital being raised in the late 1990s and early 2000s;
2) A rise in venture fundraising leading up to the crash of 2008;
3) And a general increase in fundraising activity since 2010. The 2015 fundraising year marked a slight dip overall from the year prior, which raised some questions as to whether fundraising would slow down. Given the activity in the first quarter of 2016, that does not seem to be the case.
Follow-on funds secure higher amounts of capital than new funds
Across these fundraising cycles, there are some consistent characteristics, in particular with follow-on funds, defined as the second (or later) fund raised by a firm. In terms of the number of follow-on funds raised per year, this number has held relatively stable at around 60-70 percent of all funds raised in a particular vintage. Moreover, in terms of the amount of capital raised per year by follow-on funds, this number has crept up to near 90 percent since the late 1990s.
As Hunter Walk mentioned in 2014, “venture funds are like startups that play out in slow motion”. It usually takes a few fund cycles to determine the strong funds versus those that under-perform.
New firms enter the venture ecosystem each year in an attempt to become the next top-tier venture firm and at some point these firms will face a re-up opportunity with LPs, potentially with little data to illustrate a long track record. When these funds do become top-tier managers, it would seem that these funds can command fundraising timing, partly driven by their historically strong performance (as was seen with several top firms in the first quarter).
Smaller funds have become more abundant in recent years
The graph above highlights that a higher number of smaller funds have been raised in recent years, especially among seed-stage funds. While some of these smaller funds may go on to raise larger funds over time, others will not raise additional LP funding. And based on the sheer number of smaller funds that have been raised in recent years, the upcoming attrition rate may actually be somewhat substantial. Actually, we may already be witnessing this attrition as in 2015 there were 262 funds that raised, down from 318 in the prior year.
On the other hand, we may not be witnessing an attrition rate just yet. Since 2009, the general trend of number of funds being raised has been steadily rising with 2014 as a peak. While down from 2014, 2015 can be viewed as the year in which the second highest number of funds raised since 2001.
In terms of total dollars raised, 2014 and 2015 look similar to 2005 and 2006, which arguably was a time when there was an overcapitalization of funds in the venture market, and just prior to a large correction in the market.
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