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Venture capital

Awash in capital, venture industry seeing fewer exits

Dharmesh Thakker, general partner at Battery Ventu
Dharmesh Thakker, general partner at Battery Ventures says a ‘liquidity crunch is on the horizon.’

The venture capital industry is being squeezed by a growing liquidity crunch, industry sources said.

Even though venture capital firms are awash in capital, the pace of exits is slowing.

The 3Q 2017 PitchBook-NVCA Venture Monitor — released Oct. 10 by the Washington-based National Venture Capital Association and Seattle-based data research firm PitchBook — indicated that if the pace of U.S. venture capital investment holds, 2017 will have the most capital invested in a decade.

By the end of the third quarter, $21.5 billion was invested with more than 1,699 companies, bringing 2017's total so far to $61.4 billion in 5,948 investments.

"If a portfolio company receives a $3 billion investment, can you still call the company a startup? Or is it a public company pretending to be a startup?" asked Dharmesh Thakker, general partner at Menlow Park, Calif.-based venture capital firm Battery Ventures. "Anything more than $100 million should be considered a public company that wants to be private."

But companies are staying private longer than ever before, with most capital tied up in the biggest companies. In the quarter ended Sept. 30, 40% of the $19 billion in venture capital was invested in mega deals — transactions of $100 million or more, according to the MoneyTree Report from PwC and CB Insights.

"That (percentage) is a big chunk compared to any of the other quarters," said Tom Ciccolella, U.S. venture capital leader at PricewaterhouseCoopers LLP.

For the year-earlier quarter, mega deals made up 27% of total quarterly funding.

There were 26 venture capital investments of $100 million or more in the quarter ended Sept. 30 vs. 15 in the year-earlier quarter, MoneyTree data show.

As a result of the mega deals, particularly the super-sized amount of capital being invested in unicorns — companies valued at $1 billion or more — venture capital firms are investing more capital in fewer deals.

"A liquidity crunch is on the horizon," said Battery Ventures' Mr. Thakker.

At the same time, the value of exit activity is on pace to be the lowest since 2013, according to PitchBook-NVCA data.

Partly due to the pile of capital — $92 billion in dry powder — aiming to make venture capital investments, the total number and value of exits have fallen dramatically, Mr. Thakker said. That's because companies have the money to stay private longer, delaying exits.

The pace of venture-backed exits so far in 2017 — 530 as of the third quarter — could translate into 707 exits for the calendar year. That's down from 839 total exits in all of 2016, PitchBook-NVCA data indicate.

"As a result, more and more (venture capital) funds are writing larger checks to get better absolute dollar returns," Mr. Thakker said. And the continuing flow of venture capital investments from institutions shows they approve of that concentration.

Median venture capital fund size in first nine months was 87% higher than funds raised in all of 2015. At the current pace, 2017 could be the fourth-consecutive year with more than $30 billion in fund commitments, PitchBook-NVCA's report predicted.

"There is a lot of value in the private system today," said PwC's Mr. Ciccolella, However, he does not see a bubble forming.

Investors are coping by trying to sell a portion of their holdings in secondary markets, but not exiting entirely, sources said.

"At some level people want to be liquid," Mr. Ciccolella said.

A partial exit at least is coming from private equity and growth equity firms, which are stepping in to invest in venture capital-backed companies, he said.

Indeed, some $5.22 billion in exits, amounting to 18% of the $36.4 billion exit value in the nine months ended Sept. 30, came from private equity buyouts — the highest exit value from buyout transactions ever recorded by PitchBook.