Venture capitalists started 2022 on pace for the industry to have its largest fundraising year on record, as an unprecedented number of firms hit the market to raise new and, in most cases, larger vehicles.

Indeed, VC funds in the US have already closed on more than $90 billion—about two-thirds of 2021's total—according to PitchBook data through Wednesday.

While the data suggests that general partners are off to the races on another fundraising bonanza, a closer look at the current dynamics reveals a different picture.

Almost all funds, aside from the top 10 to 20 premier firms, are having a much harder time securing their latest vehicles, in large part because limited partners are overwhelmed by the sheer number of funds seeking capital this year, investors say.
 
 

In contrast to fundraising campaigns over recent years, many VC firms, including some whose previous funds were oversubscribed, are having doubts they will be able to close new vehicles at their original target.

In addition, citing the onslaught of fundraising activity, many LPs are aiming to stay in line with their allocation mandates amid changing market conditions.

Pension funds, endowments and other mainstream limited partners operate under strict asset-allocation targets that limit how much venture exposure they can maintain. As a result, many LPs don't have room in their budgets to renew commitments with every one of their VC partners raising larger funds.

In recent years, the net asset value of LPs' venture portfolios has swelled. VC firms have been deploying capital at an increasingly faster pace, but distributions have been very slow to come back to LPs.

"When firms raise larger funds, but asset hold times are longer—an extra two years or so per unicorn—the math stops working," said a limited partner with a state pension fund.

This year, LPs are finding their allocations even more overweight in venture and other private assets due to a denominator effect spurred by lower public asset valuations.

The LP with the state pension fund said that, like other asset owners, his institution is dealing with an allocation imbalance by significantly reducing check sizes to its core GPs and walking away from smaller relationships.

This investor spoke with several major LP peers and reported at least two of them saying their 2022 VC budget may require a 30% reduction.

Another constraint for LPs is their limited capacity to perform due diligence amid a flood of fundraising pitches from VC firms.

"Managers are coming back twice as fast, but the teams don't double in size at the LP, and so there's just not staff for it," said Jay Ripley, a partner and co-head of investments at Global Endowment Management, an outsourced investment firm that manages about $12 billion on behalf of 44 college endowments and private foundations.

These dynamics have prompted some VC firms, including several major names, to push out their fundraising timelines by many more months than originally planned, several investors said.

"They'll do multiple closes until it becomes clear if they are not going to meet their fund target," said Samir Kaji, founder and CEO of Allocate, a platform for investing in venture funds.

The struggling funds include managers who needed only two months to close their previous vehicles and have been delivering an internal rate of return of 40%, according to the LP with the state pension.

One LP advisory firm that is overwhelmed by the fundraising activity has decided not to renew with some of its VC firms, even those with solid track records. The firm declined to be identified because it has yet to inform those firms of its decision.

The median time between US VC fundraises has decreased to 1.6 years from about 2.5 years in the middle of the last decade, PitchBook data shows.

"We've seen relatively minimal penalties for groups coming back to market faster," said Miguel Luiña, head of global venture and growth equity for Hamilton Lane, which advises limited partners and backs venture funds. "But they feel that fundraising pain now. It is going to be a tough slog."

Luiña said that firms now are likely to make their funds last longer by slowing their investment pace. After this year, that cadence could decrease to its historical pace of every two to three years, Luiña said.

US VC funds may have raked in an unprecedented amount of capital in Q1, but that was an aberration, Kaji said. Most of those funds were raised during the red-hot VC market last year.

He expects that VC fundraising levels over the next year or two will be closer to that of 2019 or 2020.

"I would be shocked if we were [to raise] anywhere close to [what we raised in Q1] for the remainder of the year," Kaji said. "It's hard to envision a scenario where we top last year's fundraise."
 

Related read: 2022 Global Fund Performance Report


Featured image by Mykyta Dolmatov/Getty Images

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