The US venture investment community exited 2015 with a question mark in terms of where venture investing was headed for the first quarter of 2016. We had consensus that it wasn’t going to be as exciting as the first quarter of 2015, where Washington set a record for a single quarter of venture investing. That left us somewhere between having a decent quarter or jumping off a cliff and seeing little or no venture investment. Apparently venture investors have stepped away from the ledge and are continuing to invest, although at a more reasonable level.
We saw 27 deals1 completed in the first quarter of 2016, resulting in a total venture investment of $294 million in Washington-based companies. While the number of deals was down from the 33 deals completed in the last quarter of 2015, the total dollars invested increased by 39% over the last quarter of last year. The headline isn’t that the first quarter of 2016 was mixed, but rather that the first quarter of 2016 wasn’t a disaster — like many thought it would be.
Looking ahead to the rest of 2016, there are a number of positive factors for venture investing, some negative factors and one uncertain overhang.
On the positive side, venture funds have raised a lot of money over the past year to invest in start-up companies. In the Northwest, Madrona closed a $300 million fund last summer, and it was recently reported that Maveron has registered a new fund that will be seeking investor dollars this year.
That means that there is venture capital money sitting on the sidelines looking for good companies to invest in. While the time horizon for a fund is typically 7 to 10 years, getting that money to work earlier, at the appropriate valuation, is better than having it sit on the sidelines at today’s anemic interest rates.
The broader equity markets have snuck back and are generally within only a few percentage points of their all-time highs. This isn’t surprising given that interest rates remain low, inflation remains minimal and unemployment is almost nonexistent.
On the negative side of the equation, China’s economy remains a concern, as do other parts of the global economy — and so, investors are worried that further slowdowns in the global economy could cause the US economy to stumble.
Also, energy prices remain bothersome because of the dramatic drop in the price of oil and its continued volatility. Parts of the US economy that were benefiting from higher oil prices are struggling as the broader economy adjusts to the new “normal” of lower energy prices.
On a side note, lower energy prices put more money in the pockets of US consumers, and given how consumer spending drives a large part of the US economy, we are seeing the benefits of that spending in home and car sales, which are on pace for a record year.
Considering all of the above, we would otherwise expect the equity markets to be looking for emerging new companies to go public and offer investors new options of where to invest. This should then spur venture investing in support of start-ups and high-growth companies to feed the IPO pipeline.
One not insignificant factor that is creating uncertainty with this scenario is the large number of “unicorns” (private companies with market capitalizations in excess of $1 billion) waiting on the sidelines. These companies have often taken significant private investor dollars, including nontraditional venture investors such as mutual funds and others that helped drive their sky-high valuations.
We have seen many of these valuations tumble since those private investments were made, which has caused the venture marketplace to pause and ponder what happens next with these companies. The valuation uncertainties these unicorns create is causing venture investors to pause while they try to decide whether further declines in unicorn valuations are coming, what the impacts of those potential declines might be to the broader start-up community and when the appropriate time to invest will be.
While we’ve seen much of the current economic and venture investment activity before, the overhang from the unicorn valuation uncertainty is new, and it is unclear how this will ultimately work itself out.
We have a strong start-up ecosystem in the greater Seattle area, and there are a good number of very interesting emerging companies and technologies that are worth investing in.
If the equity markets open and the appetite for technology company IPOs returns, we have a number of Washington-based companies that should be able to take advantage of the opportunity to go public. But until the broader equity markets and the venture community can understand how this unicorn hangover gets resolved, we can expect venture investment to continue to be cautious.
1 All venture investment dollars and counts were provided by Dow Jones Venture Source.
Celebrating 30 years of ingenuity in America
Now in its 30th year, the EY Entrepreneur Of The Year Program recognizes entrepreneurs who demonstrate excellent and extraordinary success in areas such as financial performance, innovation, commitment to their businesses and communities. The award celebrates those who are building and leading successful, growing and dynamic businesses, recognizing them through regional, national and global awards programs in more than 145 cities in more than 60 countries. For more information on the Pacific Northwest regional program or to purchase tickets for the awards gala on June 17, 2016, please visit ey.com/us/eoy/pnw.