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Posted Oct 3, 2022

Venture capital valuations in 2022

John Rackerby

Commercial real estate executive survey Capital raising in 2022

It’s no question that venture capital valuations in 2022 are surrounded by uncertainty as a result of the current economic climate. Public markets are down double digits and recent IPO growth stocks have been significantly hit. At the same time, there continues to be news of grandiose exits which provides a glimmer of hope for the industry. Questions remain: How are venture capital fund managers factoring current market and economic volatility into their valuations? Should investment managers adapt new approaches to underwriting valuations? And what are the best practices surrounding underwriting considering the current state of valuations?

Juniper Square recently hosted an intimate roundtable discussion on the valuation landscape with guest speakers from KPMG and Kroll. Takeaways from the conversation included an emphasis on consistent and sustained communication with external partners. Additional key insights from the invite-only event have been outlined below:

A need to assess how managers conduct evaluations

Over the past decade, institutional investors have increased their allocation to venture capital. As their allocations have increased, so have their sophistication and expectations. This increased level of sophistication has led to more probing questions around the valuation process. Touchpoints between investors and fund managers have increased and investors expect more transparency and clarity around what the valuation of a given portfolio is.

Institutional Investors have also started hosting their own investment committee meetings to aggregate and analyze how their managers are valuing portfolios. This leads to further transparency but also leads to managers being benchmarked against each other and assess the controls and procedures that a manager has in place.

Benefiting from times of volatility

The current market volatility is paving way for complex conversations between deal teams and valuations professionals. Monetization on investments is not likely to occur at the same cadence as firms have come to expect over the past decade. Moreover, this has given deal teams the ability to provide a qualitative overlay to answer the question: “what is actually happening with this business and how do we get to an answer that makes sense?”

Investment activity will likely continue as dry powder is readily available in the market. On the exit side, alternative exit strategies will continually be explored. Deal teams also continue to take a more fundamental perspective to valuation as monetization is expected over an extended time horizon.

Consistency of valuations across funds and methodology

It is still crucial to ensure that valuations are reflective of what is actually occurring in the underlying company and in the market. Overhauling valuation policies/methodologies in times of economic upheaval is not generally the best practice, but rather continuing to apply existing policies while reflecting the current environment is necessary as market conditions evolve. A holistic approach to valuation, taking into account quantitative and qualitative inputs, is especially important in times of volatility.

Most managers are taking a more sophisticated approach to looking at transactions—leveraging multiple methodologies to come to a well-supported fair value thesis in order to withstand heightened scrutiny.

Getting in front of material valuations and comparing to underwriting assumptions is key to determining the direction valuations are headed. Teams that are most successful have robust processes set up throughout the year as well as regular communication with their auditor. Getting auditors involved early ensures that the methodology in use is sound and that teams are set up for success.

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