USV's Albert Wenger: VC is in a "fiction of high valuations"

The venture capital world is living in a fiction of its own making by delaying down rounds and markdowns, says Union Square Ventures managing partner Albert Wenger.

Why it matters: It's one reason dealmaking has remained muted industrywide.

Details: "Companies raised so much money in 2021 and early 2022 that many of them don't really face a reckoning for a long time," he told Axios' Lucinda Shen on stage at Web Summit last week.

• "Then, investors have an incentive to preserve the fiction of high valuations by doing an unpriced round or a note because they themselves don't want to mark down their positions."
• "There's a lot of incentives in the system to delay the inevitable," he said. "So I do think this hangover is going to take a long time to work its way out of the system."

What's happening: Venture capital firms have dramatically slowed their check-writing pace over the last two years, giving rise to expectations that cash-strapped startups would unleash a flood of down rounds.

• But the down rounds been more of a drip than a flood.
• That's due in part to companies preserving cash-piles accumulated during the pandemic, allowing them to avoid new rounds at a lower valuation.

Of note: The shutdowns, down rounds, and bankruptcies are accelerating.

• Convoy shuttered in October, a company previously valued at $3.8 billion. Last year, Klarna raised at an 85% discount.

What they're saying: "I've invested over the last nine years in 80 companies ... all early-stage companies. We only had two bankruptcies in all those years, because there was so much money that everybody just got refunded," Zach Coelius of Coelius Capital said on stage at the summit.

• "I've had four bankruptcies in the last six months." he said.

Bottom line: Funds founded in 2021 are likely part of an era of lost venture returns. "I believe that there'll be several vintages of venture funds that, at least in aggregate, will have very bad returns," says Wenger.

• "That doesn't mean that there won't be individual funds among that will have good returns, but I do think 2021 will go down as a very bad vintage for venture capital."