Venture capitalists face reckoning as funding, deals slow

Venture capitalists are reckoning with their worst quarter in almost a decade as economic uncertainty and lackluster returns have prompted investors to hold back following the startup funding boom in 2021.  

Global funding to startups fell 23% in the the second quarter from the first, to $108.5 billion, according to a recent report from CB Insights. While the US drove almost half of all funding  — $52.9 billion — that was still down 25% from the previous quarter and marked its lowest funding amount since 2020. The report indicates that the drubbing the crypto and public markets have taken in recent weeks is affecting private companies as well.

The number of deals fell 15% globally, a decline that corresponds with a sharp drop in the number of investor exits, which fell 16% in the quarter, as fewer startups are going public than in the previous quarter and fewer are achieving so-called unicorn status with a valuation of more than $1 billion. The number of M&A deals fell by 16%, the lowest in six quarters.

The slowdown in funding is driven by economic concerns and declines in tech stocks, said Sharla Grass, a principal at the VC firm Greycroft. “We are broadly seeing this across the market.”

Venture firms including Sequoia Capital and Lightspeed Venture Partners warned their portfolio companies in May that they should prepare for the end of the good times, after a decade of money flowing at increasing volumes. Sequoia’s investors pointed to a looming, drawn-out recession and called it a “crucible moment” —  a prediction reminiscent to the firm’s “RIP Good Times” memo in 2008. Sequoia told founders to “do the cut exercise,” meaning to look at their spending and find places where they could lower expenses on short notice if needed. 

The tech investing climate has changed dramatically in recent months. After a short period of uncertainty at the beginning of the Covid-19 pandemic, startup investing activity shot upward, fueled by a newly remote world. That frenzy led to unprecedented levels of money funneled into startups in 2021. By early 2022, so many companies were raising funds at valuations of $1 billion or more that a new unicorn was minted about twice a day. In the second quarter, the number of new unicorns dropped by 43% to 85.

The top new unicorns in the second quarter were KuCoin, a global cryptocurrency exchange valued at $10 billion, and Elon Musk’s Boring Co., valued at $5.7 billion.

Venture capital firms aren’t necessarily be short on cash, with the US industry raising $73.8 billion in the first quarter, more money than in any other previously announced three-month period and more than the total for most full years. Even so, big-name investors are being more conservative in funding rounds. The number of so-called mega-rounds, with funding of more than $100 million, fell 31% in the second quarter from the first, the lowest level since 2020.  

“We’re seeing VCs increasingly advising companies seeking funding that if they have sufficient runway, it may be optimal to wait until the market returns to a more predictable,normal state,” Grass said.

Early-stage investments account for a majority of deals so far this year, or 64% globally. Investors want in early before the company has expanded to its full potential to make maximum returns on their investments. 

The report also highlighted the continuing growth in startup activity in Denver, which saw investment jump by 111% during the second quarter. The city emerged as a technology hub during the pandemic, attracting $3.9 billion in funding in 2021 and $2.8 billion in the first half of 2022. Denver-based startups such as HR management platform Velocity Global and energy solutions company Crusoe Energy Systems Inc. received a collective investment of $750 million last quarter.