Tendencies in venture capital transactions in the US market – overview

Publication date: February 22, 2023

Only in 2021, the value of venture capital investments in the USA amounted to approx. USD 344 billion, almost twice as much as the year before. The year 2022 also looks very interesting, according to PichBook, although the pace slowed down slightly compared to 2021, the value of investments still exceeded the $200 billion mark, making 2022 the second highest year in the history of venture capital investments.

In 2022, companies in the early phase of the venture cycle, supported by business angels, and companies in the seed phase did quite well, despite the fact that the market was struggling with inflation and rising interest rates.

The phase of business angel support and the seed phase recorded an increase in the case of business valuation before entering the market (pre-money valuation). The median valuation of the pre-money business angel phase increased by 9.7% to $4.9 million, and in the case of the seed phase valuation, it was an increase of 16.7% to $10.5 million (in 2021-2022). In both cases, these numbers broke the record of previous years, reaching the highest valuations since 2012. This was mainly due to the proliferation of micro-funds, as well as the shift of investors’ attention to start-ups. In addition, the VVC[1] value creation rate increased by 43.1% from $3.2 million to $4.6 million, these calculations pointing to a favourable price market for the seed stage because startups were able to increase their valuation at a faster rate than in previous years.

The early stages of venture capital showed an upward trend from 2021 to 2022. It was not until deeper analysis that the first quarter was the most active as opposed to the fourth which was in lethargy. Looking at the data from the four quarters of 2022, we can see a continuous decline in the median pre-money valuation. For the first quarter, the median pre-money valuation was $60 million, which was the highest result in over a decade. For the fourth quarter, the median was only $40 million, down 33.3% from the first quarter. It is worth noting that despite such a decline, quarterly pre-money valuation in 2022 was greater than those of 2021. Startups in 2022 were slightly more resilient to sudden market turmoil than their counterparts at a later stage. Early-stage firms benefited from record-high capital raised during the 2021 pandemic recovery. On the other hand, the early-stage situation eased somewhat as investors were more cautious about allocating their capital and followed a on cutting expenses. The increase in the median valuation fell from 3.35x in the first quarter to 1.95x in the fourth quarter, which was considered the lowest result since 2020. Analysts believe that if the venture exit market remains stagnant, a weakening quarterly trend can be expected in the coming months.

Businesses at a later stage fared much worse than those at an earlier stage. Transaction activity for this stage dropped significantly in the last quarter of the year as many companies struggled with major market turmoil. Later stage venture capital deals dropped to $13.5 billion, while total deals fell by as much as 28%. The reason for this was the withdrawal of non-traditional investors from the market due to deteriorating economic conditions. Non-traditional investors are an important part of the venture capital cycle and have provided large capital inflows in recent years. As a result of the decrease in the number of non-traditional investors, the area of financing gaps has been widened for late-stage startups, which usually find it much harder to raise capital than early-stage companies. As a result, the pre-money valuation for the late-stage venture fell to $60 million in the fourth quarter, which is 25% lower than the median recorded in the fourth quarter of 2021 ($80 million). Despite this, analysts began to see an increase in equity holdings towards the end of 2022. While the growth multiplier for late-stage startups fell to 1.60x (the lowest in 10 quarters), analysts also saw a 36% decline in median of VVC to approximately $22.2 million in 2022, very accurately illustrating the declining impact lower supply of capital for late-stage ventures. They also expect the frozen paths to capital for late-stage startups to continue to drive down pre-money valuations if things do not change.

PitchBook analysts have also introduced their own risk growth stage methodologies to isolate companies that offer a different risk profile than those offered by traditional companies. With this, they found that the median annual pre-money venture-growth valuation fell 17.1% to $290 million, but it’s worth noting that this statistic was heavily supported by first-quarter data, offsetting the fourth-quarter drop ( down to $132 million). Additionally, pressure from external developments has seen VVC growth decline, with firms only managing to add 38% between rounds on an annualized basis to their valuation. Analysts therefore believe that risk growth valuations may decrease even further in 2023 as the market at this stage is dependent on the capital of non-traditional investors, which translates into a shortage of capital for venture-growth companies.

The last decade has seen a very large increase in non-traditional investors at all stages of venture capital and that they have a significant impact on pre-money valuation in this industry. Such investors are extremely important for later-stage startups. As a result, in 2022 alone, non-traditional investors accounted for 74% of the total value of venture capital transactions ($177 billion), which is almost eight times more than the value of transactions in 2012 ($22.4 billion). It is worth noting that despite such an increase, the share of such investors continued to decrease throughout the year in response to market turmoil. Such investors are usually the first to withdraw from venture capital due to the low liquidity and risk associated with them. As a result, in late-stage deals involving non-traditional investors, median pre-money valuations decreased by 13% (to $100 million) in 2022. Venture-growth deal valuations also declined, and whereas in the foreseeable future does not improve, analysts believe valuations will continue to decline for later-stage deals and for venture-growth deals that are heavily associated with non-traditional investors. Interestingly, looking at early stage transactions related to a non-traditional investor, there is a noticeable increase from USD 51.3 million in 2021 to USD 65 million in 2022 and an increase in the median value of the transaction by 10% compared to previous stages. This is due to the fact that startups at the initial stages of the cycle are not very dependent on changes in the market due to the greater distance from the exit perspective.

The biggest problem in 2022 was the lack of exits, and exit valuations themselves suffered greatly. The median exit valuation fell to $214 million, and the average fell to $604 million, the lowest value in five years. As a result of the rapid changes in the market, companies were unable to maintain adequate growth expectations. As a result, private sector companies would not be able to find the right solution to provide adequate liquidity or investors to help maintain their huge valuations. Acquisitions have also fallen, despite the fact that they are much more resilient than public exit routes. The median exit valuation fell to $65 million in 2022, which is only a 3.5% decrease compared to a decrease of 70.6% for the median exit valuation. The annual increase in the valuation of public exits alone decreased to 1.05x in 2022, which limits investors as to the room for manoeuvre. Analysts believe that with such statistics, we can expect several wave effects such as: lower levels of recycled cash distributions, lagging venture capital fund performance, and a wave of down rounds.

Data in the case of activities related to biotechnology and pharmacology are very interesting. Early-stage and seed phase in these sectors saw median transaction value increase by $25.2 million across 2021 and 2022. In addition, all stages in 2022 for this sector showed an upward trend except for the late stage for whose pre-money valuation took a hit and saw its median fall from $80 million to $63 million between 2021 and 2022. In addition, early and late-stage venture capital median growth declined slightly.

In conclusion, analysts believe that the US venture capital market is much friendlier to investors in 2022 than the venture capital situation in 2021. Using the Venture Capital Dealing Index, they found that equity deals are becoming more structured because more and more investors want to reduce their investment risk as a result of a market downturn. However, as we can see, the valuation multiples of public companies have been decreasing throughout 2022, in addition some investors have started to take a much more conservative approach to the valuation of equity stakes. Most often, this practice was used to evaluate startups at the later stages of venture capital. Despite this, the data collected by PitchBook shows an upward trend in 2022 for venture-growth startups.

Source: based on PitchBook data

[1] Velocity of value creation is the annual increase in pre-money valuation between two financing rounds, measured in US dollars.