Number of VC deals falls for fourth consecutive quarter: report

Caution continues to dominate VC market as investors focus on proven companies amid global macroeconomic upheaval, says a joint report by KPMG and CB Insights

Continued investor concerns over startup valuations, macroeconomic upheavals, the ramifications of Brexit, and an uncertain exit environment for portfolio companies translated into another down quarter for investment deals in venture capital (VC)-backed companies.

According to Venture Pulse, the quarterly global report on VC trends published jointly by KPMG International and CB Insights, Q2 2016 saw $27.4 billion invested across 1,886 deals globally, representing a slight increase in total funding over Q1 2016 but a fourth-straight quarter of investor pull-back in activity. 

The total number of deals declined an additional 6% from Q1 2016, after reaching a high in Q2 2015.

 

The trends visible across major venture hubs were decidedly mixed. North America and Asia saw funding climb slightly across fewer deals, while Europe saw total investment drop 20% as deal count rose. Europe continued to show robust early and seed stage activity.

“It’s a challenging time for VC investors,” said Brian Hughes National Co-Lead Partner, KPMG Venture Capital Practice, and a partner for KPMG in the US. “There’s a lot going on, with uncertainty dominant in every market. Many investors are holding back to see how these uncertainties shake out, while others are focusing on companies they see as having a solid foundation and growth plan – like Uber, Snapchat and Didi Chuxing.”

Anand Sanwal, CEO of C Insights, commented: “The story of this quarter is the continued decline in deal activity. Unless you’re 1 of 5 companies for which there is insatiable investor appetite, it is becoming tougher to raise money from VCs and the assorted cast of characters who’ve entered the investment fray, i.e., hedge funds, mutual funds, sovereigns, corporations, etc. Expect to see lots of companies talking about profitability and taking on cost-cutting measures in the coming quarters.”

In addition to presenting key global findings for Q2 2016, the Venture Pulse quarterly report series examines the state of venture capital investment on a regional basis, including key trends and analyses for Asia, North America and Europe.

Big deals get fewer

Large mega-round activity (deals over $100 million) continued to slip, with 35 in Q2 2016 compared to 40 in Q1 2016 and 73 in Q3 2015. Traditional VCs as well as crossover investors such as mutual funds and hedge funds have continued to be more conservative in their commitments to such large deals.

Asian companies outpaced their North American counterparts for the second straight quarter in these large financings, with 17 mega-rounds compared to North America’s 14. Both figures represent a decline from the previous quarter. Comparatively, Europe saw one more mega-round than in Q1 2016, although with only 4 mega-rounds in total, the region lags its counterparts substantially.

North America and Asia see funding climb but deals slip; Asia sees a sharp pullback in funding and deals

Regionally, North America still leads global venture capital activity by a considerable margin. With $17.1 billion invested in the second quarter of the year, funding rose 10% over the $15.5 billion of funding raised in Q1. However, this financing total is skewed heavily by the $5 billion-plus injected into Uber and Snapchat alone. The removal of those outliers shows a very different financing trend.

Despite the growth of funding in North America, deal count fell to 1,117, down 8% from Q1 2016. Q2’s quarterly deal total represents a 24% year-over-year decline, as well as North America’s lowest deal activity levels since Q1 2012. Seed activity remained relatively depressed, with the%age of seed deals remaining at 28%, down from 33% in Q3 2015.

Asia experienced a similar trend of increased funding across a declining number of deals. In Q2 2016, Asia saw $7.4 billion invested across 343 deals. This compares to $7.2 billion invested across 389 deals in Q1 2016, and is a far cry from the $14.7 billion and 453 deals seen in Q3 2015. Seed deal share rose to a five-quarter high of 39% as seed-stage deals held steady in absolute terms while the number of other deal stages declined.

Among major markets, Europe was alone in seeing the number of deals grow, up 5% to 385 for the quarter. However, this was accompanied by a funding decline of 20% to $2.8 billion. After dropping sharply in Q1 2016, seed-stage deal share jumped back to 49% of all European deals, widening the gap versus other regions.

Sreedhar Prasad, Partner, E-Commerce and Startups, KPMG in India said, “The Indian investment market is still optimistic with strong interests by the investor community. We see increasing interests in the Online business for financial services products, healthcare, Consumer goods and specialized verticals in Ecommerce.” He further added, “Uniqueness of the business proposition and multiple revenue streams from the same product/platform are of higher interest today. However the decision to go ahead with investments in Series A/ Bootstrap is taking more time than earlier which is a cause of concern for start-ups, who typically require money quickly to scale up. One strong positive trend is the rise of family houses and investment arms of Indian business houses who are actively looking in to funding the start up space in sectors which are adjacent to their core businesses. ''

Unicorn creation 

Q2 2016 saw the unicorn birth rate climb for the first time in three quarters, but still featured less than one-third of the number of unicorns birthed during the Q3 2015 peak. Of Q2’s seven new unicorns, five were in North America, with just two in Asia and none in Europe or elsewhere. Among the quarter’s new unicorns were Zoox, SMS Assist and Human Longevity.

“The long-term impact of Brexit won’t be clear for a while – which will create even more uncertainty in the market,” says Arik Speier, Head of Technology, KPMG Somekh Chaikin in Israel. “This will likely keep investors cautious. While we will likely continue to see follow-on investments in unicorns that have substantial business and a clear path to profitability, some others may not be able to raise future rounds or will, alternatively, experience deep cuts in their valuations and down rounds.”

Corporate investment

A more enduring trend has been that of strong corporate and corporate venture capital (CVC) investment into VC-backed companies, with Q2 2016 corporate VC participation tying last quarter’s high of 26%. Once again, Asia saw the heaviest involvement from corporations, with 34% of deals there involving corporations. By comparison, North America and Europe saw 25% and 23% participation rates – both 5 quarter highs despite lagging behind Asia.

Anand Sanwal of CB Insights said: “While the deal levels look poor especially relative to the ebullience we saw in Q3 2015, if you look at this quarter’s numbers against a longer timeframe, we’re still at very healthy funding and deal levels. In other words, the sky is not falling but the forecast is definitely uncertain. One piece of good news we are seeing is the consistency of corporations. They were the first investors many expected to cut and run should times get tough. It looks like they’re continuing to stay committed which is a good thing for startups and their investors.”

Q2 highlights of VC world 

* Q2 funding saw a 5-quarter low in mega-round deals (those over $100 million in size) - 35 in total versus 40 in Q1 2016 and 63 in Q2 of 2015.

* Global deal activity fell to 1,886 deals, the lowest volume of deals since Q2 2013 – and down 6% from the 2,008 deals seen in Q1 2016. Financing ticked up 3% to $27.4 billion, mostly buoyed by $1 billion-plus rounds to “decacorns” such as Uber, Snapchat and Didi Chuxing. Decacorns refer to private investor-backed companies with a private market valuation of greater than $10 billion.

* The decacorn megarounds also lifted funding figures in North America and Asia – up 10% to $17.1 billion and 3% to $7.4 billion quarter to quarter, respectively. However, both regions saw noticeable declines in deal activity, with North America down 8% from Q1 while Asia fell 12%. Europe trended in the opposite direction, with deals climbing 5% but funding dropping 20% between Q1 and Q2.

* After a marked decline in seed-stage deal activity to start 2016, Q2 saw seed share bounce back from 31% to 35% of all deals, driven by especially strong seed investment activity in Asia and Europe.

* At seven, the number of new VC-backed unicorn companies that were born in Q2 is up from the five born in Q1 2016, but still well below the Q3 2015 peak when 25 unicorns were birthed.

* After median late-stage deal size in Asia ballooned to $150 million in Q4 2015 and crashed below $75 million in Q1 2016, the region saw late-stage deal size bounce back to $100 million in Q2 2016.