Venture capital's old guard is under pressure by smaller, specialized competitors that are increasingly creating the first institutional relationships with entrepreneurs.
Entrepreneurs do not need as much capital as they once did, leaving brand-name venture capital managers investing later in the company's evolution, industry sources said. The good news that is the companies are more mature; the bad news is that the old guard no longer has the power that comes with being the first institutional backer.
"The early stage market ($15 million or less) is changing rapidly," said Paul Hsiao, co-founder and general partner at venture capital manager Canvas Ventures, which raised its first fund in 2013. "New names will rise to threaten the top five to 10 (venture capital firms)."
Micro funds are receiving record investments, albeit from a small base, Mr. Hsiao noted, and are becoming the first source of institutional funding for new companies.
Venture capital has provided an annualized internal rate of return of 14.6% for the five years ended Dec. 31; 9.64% for the 10 years; and 7.08% for the 15 years, according to Cambridge Associates.
Vintage year performance varies widely from a median net IRR of 5.2% for 2006 vintage funds to a high of 18.3% for 2011 vintage funds, according to London-based alternative investment research firm Preqin.
Funds raised between 2001 and 2006 had median IRR of less than 5%, Preqin data shows. It does not break out performance of micro funds.
Micro funds, raising $50 million or less, are set to raise a record amount of capital, according to the 3Q 2017 PitchBook-NVCA Venture Monitor, released Oct. 10 by Washington-based National Venture Capital Association and Seattle-based data research firm PitchBook. Some $273 million was raised by micro funds in the first nine months of this year, compared with $308 million in all of 2016.
These micro funds are making the first investments in what's called a seed round. Seed rounds are also coming later in a new company's life, right around two-and-a-half years, nearly a year later than in 2012. The rounds also are larger: up to a median of $1 million for the first time in a decade, according to PitchBook-NVCA data.
Series A, or early stage financing, the next round of financing after the seed stage, which is typically where traditional venture capital firms tend to come in, is much larger. And the traditional firms are still well established there.
According to PitchBook-NVCA data, median Series A deal size in the nine months ended Sept. 30 was $6.1 million, surpassing the $6 million median late-stage transaction size in 2010.
The firm that invests first has the power relationship with the company founders to influence pricing and the company's direction, Mr. Hsiao said.