Breaking Down Venture Capital’s Out Performance of Public Markets: Perspective from Alumni Ventures

MANCHESTER, NH / ACCESSWIRE / January 18, 2023 / Venture capital (VC) has consistently outperformed public markets over 5, 15, and 25-year periods, according to longitudinal data from Cambridge Associates, the most recent data set being available here. Looking at a ten-year period ending in June 2020, investors who allocated 15% or more of their portfolio to venture investments saw a median annualized return 300 basis points higher compared to those who allocated less than 5% of their capital to venture investments. Institutions with a private investment allocation of 30% or more had a median return 200 basis points higher than the median return of institutions with an allocation of 10% or less over the same period.

Even during a period of strong performance in the public markets, Alumni Ventures, one of the most active venture capital firms in the world (Pitchbook), found that the data supported venture capital investment consistently providing stronger returns. From 2010 to 2016, a significant growth period for the markets as they bounced back from the Great Recession, the average internal rate of return (IRR) for venture capital investments was 21.9%, with the top quartile achieving an IRR of 25.6%. In comparison, the S&P 500 had an average IRR of 12.2% over the same period.

Research from JP Morgan also shows that more recent vintages have seen similar success. Venture capital set multiple records in 2021, in fundraising, deal activity, and exits, showing remarkable resilience during the ongoing pandemic. In deal-making, $330 billion was invested, almost double the previous record, set in 2020. 2021 also saw venture-backed companies completing exits with an aggregate value of $774 billion.

Below, Alumni Ventures breaks down why venture capital has consistently outperformed public markets.

One key reason is the focus on value creation and investor gains in venture markets, notes Alumni Ventures. Venture capital involves investing in innovative, high-growth private companies with long-term equity appreciation potential. While this asset class carries higher risks due to the long-term commitment of cash and potentially high failure rates of early-stage companies, it also offers the potential for outsized returns. Many of the most successful companies of the past 25 years, such as Amazon, Uber, Google, and Facebook, were venture-backed and took years to grow from small offices in their founders' garages to some of the world's most highly valued companies. This value creation often occurs before any kind of exit, such as a merger/acquisition, or IPO, and helps to drive the overall success of venture investments.

Alumni Ventures found that another reason for venture capital's performance is that more companies are staying private longer, or not going public at all. Between 1993 and 2000, the average number of yearly IPOs was 451, but from 2000 to 2016, this number dropped significantly to only 108. This means that the best opportunities for high-growth investments are often not happening at the IPO stage, but rather at the Angel, Seed, and Series A rounds

Venture capitalists tend to invest in portfolio companies over several stages (pre-seed, early-stage, late-stage, and growth equity), providing additional funding only as financial and operating objectives are achieved. This allows venture capitalists to assess the performance of management at critical milestones, cease funding unsuccessful companies, and allocate capital as appropriate to successful ventures.

Early-stage venture capital can be particularly attractive due to the risk profile of early-stage investments, which allows venture capitalists to obtain more meaningful ownership stakes with smaller investment amounts and have a greater impact. It also allows seasoned investors to guide decision-making and growth, helping young companies avoid the pitfalls of inexperience. Data from Cambridge Associates shows that investments made by top-quartile VC firms in early-stage companies produced an average internal rate of return (IRR) of over 25% over the last 25 years, performing about 2.5x as well as the public market equivalents over the same time period.

According to a report by Toptal Finance, the "institutionalization" of entrepreneurship has also led to more pattern-matching in the startup world. This has narrowed the focus of venture capital investment into specific areas such as second-time founders, Ivy League fast tracks, and certain founder profiling biases. This has contributed to a reduction in VC funding, but also helps to increase the quality of investments and the overall success of venture portfolios.

This is where Alumni Ventures' performance numbers have demonstrated success as well. Alumni Ventures has created a successful business model by establishing a network of 18 funds at leading universities known for their entrepreneurial activity. This network consists of more than 600,000 members and allows Alumni Ventures to build relationships with startups and entrepreneurs in their alumni communities, gaining access to investment opportunities that might not be available to other venture capital firms. By casting a wider net for deal flow and building stronger portfolios that include a diverse range of industries, locations, and stages of investment, Alumni Ventures is able to create a balance of risk and reward for investors. Additionally, by leveraging the interconnectivity of their network, Alumni Ventures is able to see more opportunities and create more diverse portfolios, which can potentially lead to greater returns in the venture capital market.

Overall, the data shows that venture capital can provide valuable return enhancement for long-term investors who are willing to hold illiquid assets and are able to identify and access high-quality managers for the companies they have a stake in. While venture capital carries higher risks, the potential for high returns and value creation over time makes it a strong investment option for those looking to diversify their portfolio and balance risk and reward opportunities.

About Alumni Ventures

Alumni Ventures offers accredited individuals access to network-powered venture capital - a key asset class missing from the portfolios of many sophisticated investors.


Andrew Mitchell

SOURCE: Alumni Ventures

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