Venture capital may seem sexier than PE to most investors - until they start looking for cold, hard returns
Because venture capital offers investors a glimpse into ground-breaking technologies and potentially astronomical returns, it’s perceived as the more lucrative alternative to private-equity investment. But a new report indicates a possible wrinkle for those seeking rich, concrete returns.
“Venture capital returns are more volatile than private equity, but the top firms … seem to persistently make the best returns, which appears less and less the case with private equity,” said the Wall Street Journal, which cited recent research by McKinsey and others.
“[But] among venture capital funds as a whole, more of those returns are only paper gains, according to new data from PitchBook,” the report said. When looking at cash returned to investors as a share of money raised when they sell companies, venture-capital funds lag behind private-equity companies.
The trouble is that valuations for innovative tech companies remain highly uncertain, which means fund investors may not get back the full value they assume their investments have. A single reputational hit, like the one Uber felt from a recent self-driving car accident, could send valuations tumbling.
Adding to venture funds’ illiquidity is the tendency of fast-growing companies to delay going public. Such companies, particularly the ones with proprietary innovative technology, are hesitant to wean themselves from private funding because it would mean taking on extra reporting costs, disclosure, and oversight.
“Venture capital funds may thus naturally hold on to their investments for longer than the typical three-to-five-year ownership of private-equity funds,” the Journal said.
But even with that factored in, the amount of unrealized value in venture capital is striking. The unrealized investments among venture funds that are more than 10 years old can reach 40% of their total value. For funds that were established from 2011 onwards, that figure jumps to 85%.
“Venture capital finds more spectacular winners than private equity, but also more total failures,” the report said.
