Valuations, Distributions Explain Why VC Fundraising Uptick Isn't Imminent

Despite optimism that regulatory restraints may be eased in the coming year, low valuations and disappointing distributions to limited partners are expected to constrain VC fundraising in the coming year as they did in 2024.

Sophisticated investors will continue to focus on the relative benefits of various asset classes in the context of the broader economy. As returns to public equities continue to outperform venture, and as more liquid options remain available, they will impact venture funding. JL

Yuliya Chernova reports in the Wall Street Journal:

The pension funds, endowments and others that bankroll VCs as limited partners are expecting another dry year, despite optimism for a rise in IPOs and acquisitions. Global fundraising by venture firms in 2024 is below last year’s totals, and a steep drop from 2020 and 2021. Fundraising will likely stay flat in 2025. The main reason is that LPs have been struggling with a lack of distributions, while managing commitments to venture capital made in the peak market years. The extended illiquidity in venture is weighing on its attractiveness as an asset class, especially in light of more liquid, high-growth options. Venture returns underperformed stocks in the 1 to 3-year periods as of midyear 2024. The venture yield for U.S. funds is predicted to be 6% this year, compared with 17% in 2019. "Many startups are running a couple of years behind their IPO schedule."

The pension funds, endowments and others that bankroll venture capital dealmakers are eager to get cash back from their investments. They might need to wait another year. 

Limited partners are expecting another dry year, despite renewed optimism for a rise in public listings and acquisitions. Less money on hand would also result in less willingness by LPs to commit to new venture funds. In such a scenario, funds would likely continue deploying capital into startups at a sluggish pace.

Global fundraising by venture firms is trending toward about $101 billion in 2024, slightly below last year’s totals, and a steep drop from the levels in 2020 and 2021, according to research firm Preqin. Fundraising will likely stay roughly flat in 2025, per Preqin’s forecast.

“It may take until the end of 2025—and most likely into 2026—before optimism from investors converts into greater commitments” to venture funds, Preqin analysts wrote in a recent report. 

Research and investment firm Cambridge Associates echoed the prediction. “We anticipate a more modest fundraising pace, similar to 2023 and 2024” in the coming year, said Theresa Hajer, head of U.S. venture capital research at Cambridge Associates. “It will continue to be very difficult for new managers,” she added.

The main reason for such cautious predictions is that LPs have been struggling with a lack of distributions, while managing previous commitments to venture capital made in the peak market years, around 2020 and 2021.

 

Distributions from U.S. venture funds, on a net basis to LPs, are likely to come in at around $20 billion in 2024, roughly on par with last year’s totals, and well below the amounts in the prior four years, according to Cambridge Associates. 

Some investors hope the strong public market during 2024 and the prospect of a friendlier regulatory environment in the U.S. after President-elect Donald Trump takes office will spur IPOs and startup acquisitions in 2025. Eventually such exits will result in more cash getting to LPs. That will take time. 

“We are looking at 2026, which is not tomorrow,” said Beezer Clarkson, partner at Sapphire Partners, where she invests in venture funds, about the likely time when distributions might start to flow in a more meaningful way. 

The extended period of illiquidity in venture capital is weighing on the attractiveness of it as an asset class, especially in light of more liquid, high-growth investment options, whether that is cryptocurrency or public stocks. 

“A lot of the conversations now are about what is the illiquidity risk premium that’s right for venture?” Clarkson said.  

Venture capital yield, or the percent of the total value of venture funds distributed per year, has been trending well below historical averages. Cambridge Associates expects the venture yield for U.S. funds to be about 6% this year, compared with 17% in the prepandemic year of 2019, for example. 

Even in the best-case scenario, a large increase in IPOs next year would still take a while to send freed-up cash to LPs.  Photo: Liu Yanan/Zuma Press

In addition, venture returns globally underperformed stocks in the 1-year to 3-year periods as of midyear 2024 on a net basis, according to Cambridge. Venture returns were at negative 1% in the one-year period, compared to 20% returns calculated on a public market equivalent basis for a global index of stocks, per Cambridge.  Venture is still ahead of stocks over the longer term.

Even in the best-case scenario, a large increase in IPOs next year would still take a while to send freed-up cash to LPs. 

A company that registers to go public in January, for example, would stay in registration for a few months. After going public, insider investors would be restricted from selling their shares for another six months. And only after that would venture funds be free to distribute shares to LPs. Often those distributions take a while to get disbursed.

At the same time, few believe the IPO market would suddenly gush with new listings. 

That is because many of the largest potential candidates don’t appear to be in a rush to go public. Some of these mega companies, be it Databricks or Stripe, completed large secondary transactions, likely delaying their IPO plans.

 

There is also a large backlog of late-stage venture-backed companies that aren’t ready to go public, in part because expectations by public investors have changed and their prior market valuations won’t be cleared in a public listing until they grow even more. 

“Many companies are running a couple of years behind their IPO schedule,” said Andy McLoughlin, managing partner at venture firm Uncork Capital. “My guess is we’ll see the bulk of the action happening in 2026,” McLoughlin said. 

As companies and boards contemplate an optimal public listing time, LPs are still waiting. 

“LPs need to buckle in,” Cambridge’s Hajer said. “We are not out of the woods yet.”

That isn’t to say venture capital will have lost luster completely. Many LPs realize it is a cyclical business. 

“You will have sophisticated LPs who look at VC as a strategic part of their portfolio,” said Cameron Joyce, global head of research insights at Preqin. “Many of them will be OK with the fact that distributions and capital velocity are slowing,” he said.