Hundreds of new VC firms flooded the market over the last 10 years, investing more than $730 billion, nearly doubling the prior decade amount of $400 billion. This growth has been primarily driven by an explosion in technology and its ever-growing presence, from mobile computing to industry digitalisation. Riding the wave of these growth trends venture-backed start-ups closed 2019 with $114 billion in raised capital – the second-largest amount of investment in history, only behind the staggering $140 billion brought in 2018.

Although many predicted that the industry would not be able to sustain such record-breaking pace in the long run, no one could have thought that the new decade would begin a new era for VC firms and a much less promising one at that. The rapid spread of the COVID-19 pandemic has brought the world to a standstill, and VC firms are no exception. Wrapping up the 1st quarter of 2020, KPMG report reductions in both the total deal value and deal count, as well as the fall in all types of venture activity, with the early VC financing seeing the sharpest decline. The firm further suggests that despite the “dry powder” accumulated over the strong performing 2018 and 2019, this quarter’s downturn is likely to be just “the calm before the storm”.

Following the demand shock, valuations have already begun falling for many industry players, and are likely to continue doing so in the near future. Sifted report that the estimates range from 10-40%, depending on the stage of the company, with the later-stage start-ups being hit the hardest as they most closely reflect the public markets. As valuations drop, exit options become more difficult and an investor may be unwilling to continue to fund these companies, and will, therefore, reduce their portfolio company headcount to minimise losses. Instead, VC funds will shift their attention to the most lucrative opportunities at hand, which are the portfolio businesses that are closest to exit and have the highest valuations. As a result, the investment pace will slow, leaving many Seed and A-stage companies underfunded. This will be further exacerbated by the travel restrictions, which eliminate the possibility of face-to-face meetings and thorough due diligence. Any investments that remain will be in the digitally enabled sectors most favoured by both the structural and cyclical changes such as EdTech and BioTech.

The above projections do beg the question of whether the situation is as gloomy as market analysts lead us to believe or investors can remain on board of their ships for at least a short while. In fact, as many VCs divert their attention to their current portfolios, this leaves a market ripe for the taking. As history shows, systemic crises act as major innovation catalysts, creating an environment for entrepreneurs to develop new products, services and business models. For example, many industry giants such as Uber and Airbnb were started in 2008/9. Hence, even amidst such troubled times, instead of just flocking to “pandemic-safe” businesses, VC funds should play long term, and continue searching for the next Airbnb, both domestically and internationally, leaving no sectors off the table. Those funds that have just recently completed fundraising and have few companies in their portfolio will be in an especially advantageous position. Nevertheless, investors will need to develop new valuation metrics such as flexibility of supply chains and customer retention practices to identify sustainable businesses, for whom this pandemic will just be a blip on the curve in the long run.

FLI regularly advises Venture and Corporate Venture Capital-intensive firms on international investments and coordinate due diligence, valuations, negotiations, employment, and integration, amongst others. As a truly transnational group, FLI benefits from local subject-matter expertise and truly valued service.