Did VC Activity Reach a Tipping Point in Q3?

DP:
Yep, all's good. So Alan, the numbers say things are cooling off. Are they?
AW:Dave, things are cooling off, but I think it's because we're comparing it to a record year in 2021. 2021 was a record year for deal activity, fundraising, exits, and anything less than that, you'd think it'd be a year that things were cooling off. I think where you get a little bit concerned is that when you look at the deal numbers for Q3 of 2022, we've now experienced three consecutive quarters of declining deal numbers. So is this a tipping point? Are going to see the market continue on a downward spiral. I think we'll only know after the next quarter or two whether the tipping point has been achieved.

But right now, we have achieved three consecutive quarters of declining deal numbers. Exits are way down. Way down. I think we achieved through the first three quarters of 2022, I think we had $85 billion of VC backed exits compared to almost 800 billion in 2021. Big decline. The IPO market has come to a grinding halt. The SPAC market has come to a grinding halt. So I don't think the picture is as rosy as prior quarters that we've spoken, but still, even with what I've said about the declines, 2022 is still going to be the second best year in the last 10 years in terms of VC investment.
DP:So it's less going from hot to cold and more going from red hot to hot?
AW:Exactly. Numbers are still really good. Nothing to be concerned about, but the direction of the curve I think is starting to disturb people.
DP:Now, I know this is a tough question to answer, but that's why we have you here, to answer the tough questions. But what effect, if any, do you think the recent midterm elections have had on the markets?
AW:Well, I think the economy has been a major issue in terms of the midterms. We continue to see record levels of inflation. We continue to see interest rates ticking up. There's going to be a slow down. I think the fact that interest rates have ticked up have caused the public markets to continue to show some erosion. The private markets are following suit. When you look at valuations in VC deals, the valuations are trending down, they are coming down. They were at exorbitant levels. So probably a correction isn't the worst thing in the world, but a lot of what goes on in the economy does impact the VC market and will continue to.
DP:Yeah, and I think one of the areas, let's talk tech for a second. I mean, we've seen a lot of layoffs at the big tech companies. FTX has been all over the news this week. Tech was always kind of an anchor for the VC market. How is that going to play out?
AW:Well, I think you're going to see a lot of those employees at Twitter at Meta, now at FTX of course. They're going to be gobbled up by other tech companies. There has been a shortage of tech talent in this country for a long, long time. And now I think you'll see these people join other organizations. I think these other organizations now have the ability to grab a lot of tech talent. And if they have to go out and raise additional venture capital do that, will have the opportunity because there's going to be 30, 40, 50,000 IT people on the street that weren't available six months ago. And I think it's just going to see people going from one tech organization to another. I don't think you're going to see entrepreneurship falter at all. I guarantee a lot of those people who are being displaced from Meta, Facebook, or from Twitter, they're entrepreneurs, they're going to start their own businesses. You're going to see new companies come out of that. So it's going to be an interesting time.

But also, the other part of it is that this is the first time since 2007, 2008, that you have seen mass layoffs in the tech space. And hey, look, Mark Zuckerberg, he said it publicly, a lot of the increase in headcount at Meta was his fault. We thought they would be able to build out products faster, quicker, and be more effective than they were. And now he realized. He built up the headcount, now he's got to fix it.
DP:So what are you looking for in quarter four and Q1 of 2023? What are you keeping your eye on?
AW:You know what? I think I'm keeping my eye on, it's going to be deal numbers, both dollars and deal counts because if you look at the market, three consecutive quarters of declining numbers, the IPO market and the SPAC market have really come to a grinding halt. I think we had three SPACs in Q3 and five IPOs. I mean, it really has come to a grinding halt.

But the other thing we haven't discussed is fundraising continues. 2020 is going to be the biggest year for fundraising by venture capital firms ever. They've raised over $150 billion. So if you think about that amount of capital that has to be deployed, and so you have all this dry powder, venture capital firms, GPs, either they invest the money or they have to give it back to the LPs with a piece of their management fees. That hasn't happened since 2001, 2002. So I think you're going to see... They still have to invest that capital. That's what they're in the business of doing. So it should be interesting to see if they can deploy the capital in Q4 and beyond. There certainly is enough money to fund entrepreneurship. There's a lot of dry powder sitting out there. I've heard numbers up to a trillion dollars of venture capital waiting to find a home. So it's supply and demand.
DP:Any final thoughts as we close the book on Q3?
AW:No, I think Q4 is going to be an interesting quarter to follow. It's the last quarter of the year. It's going to finish out the year. Look, it's not going to be a record year, maybe except for capital formation, but it's still a great year in its own right. And hopefully the downward spiral will begin to take an upward trend. But we'll talk again in January and see what happens.
DP:Yep. We'll keep our fingers crossed. Well, always a pleasure speaking with you, Alan. And thank you for listening to the EisnerAmper podcast series. Visit eisneramper.com for more information on this and a host of other topics. And join us for our next podcast when we get down to business.

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