Private equity and venture capital in the USA

Written on 1 Feb 2018

When considering the state of the global VC market, we often use the US as a benchmark (or perhaps the most active market) in order to provide an indication of trends: whether general investment activity or specific legal terms popular amongst the most prolific institutional investors.

Many of the Q4/Annual Reviews have recently been published – most of which are available online if you are interested in the detail – but there are a handful of interesting take-aways for European businesses seeking funding (either locally or from the US) or for US investors considering trans-Atlantic investments.

Challenging the status quo: The first is that mainstream VCs no longer have just their direct competitors to worry about when sourcing deals.  Corporate investments/CVCs have become mainstream and often are willing to pay higher valuations than traditional VCs.  Additionally, private equity investors have started to encroach on the later stage/growth capital section of the market forcing VCs either into earlier stage investments (typically higher risk) or forcing higher valuations.  There’s a third challenger – ICOs – discussed further below.

ICOs: There is so much press about ICOs that they deserved their own heading.  The perception in the investment community is that whilst there have been some big successes (at least in terms of investments raised), the jury remains out on their longer term sustainability as regulators tighten up their approach and unfortunately fraud is exposed impacting relatively immature investors.  ICOs were extremely prevalent in the tech sector in 2017 where currently anything “blockchain” is one of the hottest targets for investors, along with Artificial Intelligence and Augmented Reality.  But blockchain technology, on which the tokens issued as part of ICOs rely, is not (yet) mainstream and so start-up and growth businesses who are not in the tech space will continue to seek their funding through more traditional channels.  It will be interesting to review the 2018 trends in a year’s time to see how ICOs mature to take a more established place in the start-up ecosystem.  

Unicorns and exits: The number of exits in the US were down in 2017 and one factor behind that could be the higher valuations which have focussed around the group of so-called unicorns which have forced VCs to look for other forms of liquidity.  In particular, secondary deals have been on the increase enabling some of the earlier investors, and sometimes employees, to cash-out prior to a full exit.  IPOs for VC backed companies remain sluggish which offer up opportunities to investors interested in later stage funding or corporate buyers seeking to buy and build.

Venture debt: This is an increasingly popular form of financing for businesses post-A or B round which allows valuations to be boosted through enabling a more developed product to be produced without diluting the earlier stage investors/founders.  The popularity of venture debt appears relatively flat in 2017, but could become more mainstream in 2018 particularly if later stage funding and particularly exits struggle to keep up with the backlog of emerging businesses seeking liquidity.

Tax: Finally, the US tax changes are likely to have an impact on investments, investors and companies seeking growth from both sides of the Atlantic.  The originally proclaimed “tax return on a postcard” concept has been well and truly buried as global tax advisors seek to assess what changes in structure are needed, whether off-shore jurisdictions remain viable and ultimately how the changes will influence investment decisions.  At the time of writing, there is more to be assessed and the message has to be to take tax advice if you are investing overseas from the US or seeking investment from a US investor.

2018 is predicted to be a strong year in the US and fund raisings continue to be active and increasing in value.  Capital needs to be deployed and investors are keen for returns to be healthy and quick.  However, with increased competition from other non-traditional investors, VCs have their work cut out for them – which from a start-up or growth company’s perspective means an opportunity to negotiate on terms and select the right investor who can support the growth of their business.

Steve Wilson
UK Partner & Resident Head of Osborne Clarke’s New York office
Vice-chair Private Equity & Venture Capital Committee of the American Bar Association’s Business Section