In 2021, as the world began to come out of the COVID-19 stupor, the U.S. market saw an unprecedented 1,035 IPOs, according to online data provider Stock Analysis. The most highly valued of these involved cryptocurrency exchange Coinbase Global ($250 per share), cloud-based project management platform monday.com ($155 per share) and language learning app Duolingo ($102 per share).
Perhaps the best known of these, Duolingo remains the most popular education app globally, with roughly 300 million users. Like many other technology companies, before its IPO, it received funding from venture capital backers, ranging from Union Square Ventures to Alphabet’s independent growth fund Capital G. Duolingo’s Series A funding, raised by Union Square Ventures in 2011, totaled $3.3 million. When Duolingo went public in July 2021, it achieved an implied valuation of $3.7 billion, with its final share price $17 above its starting target of $85. Duolingo’s path from founding to IPO lasted a decade in a sector where the process often takes 15 years or longer.
Stories like Duolingo’s are behind individual investors’ rising interest in placing their money with venture capital funds that back new technology companies, according to Andrew Krei, co-CIO with Crescent Grove Advisors, an RIA with $4 billion in assets under management. Krei estimates that anywhere from a quarter to a third of the firm’s ultra-high-net-worth clients—those eligible for qualified purchaser designation—have money invested in tech start-ups directly or through venture capital funds. Crescent also invests alongside venture capital managers at the firm level, with nearly 5% of its overall assets dedicated to such investments.
Another RIA firm, Cerity Partners, developed a Private Direct Investment Program in 2021. The program sources opportunities to invest in privately held companies that seek capital for growth-stage and late-stage ventures and buyouts. For these later stages of funding rounds, beginning with Series B, Cerity creates a special purpose vehicle with capital from its clients and invests with a single check in the security or SPV being offered by the sponsor, according to George Hubbard, partner and head of private direct investment with the firm.
“For growth-stage and late-stage companies, we like the improvement in valuation that has occurred over the past 12 months or so,” said Hubbard. He added that the firm currently favors sectors including robotics, aerospace and defense technologies, as long as the companies meet its valuation, risk/reward and other requirements.
Data from London-based research firm Preqin shows that in 2023, over 53% of fund searches by private wealth investors, including family offices and wealth managers, focused on private equity and venture capital. In 2022, before the market hit turbulence, that figure was over 63%.
Allocating money to venture capital funds comes with some serious risks—illiquidity, exits that can take 15 years or longer and a failure rate among start-ups in the fund that can often reach 30%, Krei noted. But even if one company in a fund hits it out of the ballpark with a return of 50x or 100x, “that more than covers all of your losses,” he said. “And that’s ultimately the model.”
The U.S. Venture Capital Index constructed by global investment firm Cambridge Associates shows that as of the third quarter of 2023, pooled horizon returns net to LPs on venture capital investments totaled 15.98 over three years, 16.89 over 10 years and 28.45 over 25 years.
The value-add compared to Cambridge’s modified Public Market Equivalent Constructed Index: Nasdaq Composite Price Index/Composite Total Return was 901 basis points over three years, 199 basis points over 10 years and 1,791 basis points over 25 years. Cambridge Associates based its horizon calculations on data from 2,448 U.S. venture capital funds formed between 1981 and 2023.
Over the past decade, high-net-worth investors’ interest in venture capital targeting tech companies has been considerable, according to Kunal Shah, managing director and head of private market research and model portfolios with alternative investment marketplace iCapital. He noted that investors paused during the past year because both the IPO market in general and tech company valuations specifically took a nosedive. According to Stock Analysis, there were fewer than 200 U.S. IPOs in 2022 and 2023 and 39 year-to-date in 2024. But the venture capital market is rebounding, Shah noted. “And our view is that the venture capital market will continue to recover and will be a better place to invest today than it was a year ago,” he said.
The hitch is that, for now, opportunities in venture capital remain limited primarily to qualified purchasers. Shah said today, he knows one venture capital fund targeting technology start-ups available to qualified clients and one available to accredited investors. Some people in the industry are trying to change that.
Democratizing VC
Since its founding in 2014, Alumni Ventures, a venture capital firm based in Manchester, N.H., raised about $1.25 billion from individual investors, according to Jack Barlow, chief business development officer. Alumni, which focuses on technology companies in sectors ranging from software-as-a-service to AI and robotics, currently holds a portfolio of over 1,300 companies. It is the second most active venture investor in healthcare systems and among the most active in software and technology companies tied to consumer goods and services, according to private markets data provider PitchBook.
Alumni opens its traditional private investment vehicles to accredited investors and qualified purchasers by structuring them as 3(C)1 and 3(C)7 funds, said Barlow. “Most private funds follow the closed-end fund model, which is not traded nor redeemable,” he noted. “We leverage the 3(C)1 closed-end structure to allow us to work with accredited investors in addition to qualified purchasers.”
The requirements to qualify for 3(C)1 funds align with the typical accredited investor designation, rather than qualified client or purchaser—about $1 million in net worth and investment minimums of $25,000 to $50,000. SEC regulations allow this as long as the fund has no more than 100 investors (the number is capped higher for funds with under $10 million).
According to Barlow, Alumni Ventures was founded with the idea of making venture capital investments available to individual investors. However, while the firm initially worked with individual investors directly, it has recently started developing a closer relationship with financial advisors.
“We recently launched a new program to help bring our investment program to the financial advisor community,” he said. “We elected to use the traditional closed-end private solution and now in the process of introducing this program to financial advisers looking to include venture as part of their asset allocation models. We believe our investment program offers a really interesting, diversified solution that can complement existing venture exposure or serve as a core starting allocation to add venture into a portfolio.”
That solution involves investing alongside Alumni in follow-up funding rounds for technology start-ups. At that point, the companies in the fund will have built their business to an extent and will be working on capturing market share, eliminating some risks of investing in seed or Series A funding.
Alumni Ventures also invests in seed rounds, but “there are risks with venture investing and early stage companies,” said Barlow. “Technology shifts, changing customer sentiment, new market entrants and regulatory environment can all impact the growth trajectory of new companies. We wanted to build a solution for wealth management that we believe reduces that early company risk while still providing enough opportunity for valuation increases and exit premiums.”
According to founder Grace Chen, UpMarket, an online alternative investment platform, would also like to develop a relationship with the RIA community. Among the investments UpMarket offers are “pre-IPOs”—opportunities to invest with venture capital managers, primarily in the early stages of funding for technology start-ups. UpMarket aggregates the money and acts as an LP in these ventures. Chen said that most people using UpMarket to access that strategy are qualified purchasers, but some are accredited investors.
UpMarket’s website lists at least two “pre-IPOs” requiring a minimum of $25,000. One involves an investment in Neuralink, a company founded in 2016 that develops brain-machine interfaces to help people with paralysis and severe spinal cord injuries. Another is a fund seeking exposure to 10 to 25 “private, late-stage, high-growth companies” through the secondary market.
Because UpMarket works with broker/dealers to buy out existing venture capital investors during later funding stages, it allows investors the option to exit early while still making money, said Chen. For example, in 2018, UpMarket invested in SpaceX at $18 per share. Over the last seven years, the price has increased to $95 per share—a return of roughly 6x. Nobody knows when or if SpaceX might go public, but “people keep trading because of that secondary liquidity the market can provide,” Chen noted. “Even in the private market, they don’t necessarily have to hold long if the company is performing well and there is enough demand to come in the later stages.”
UpMarket has worked with 10 venture capital firms and three secondary market brokers.
Individual investors who use UpMarket are passionate about technology and invest on their own—without the involvement of RIAs—in companies the investors believe have long-term growth potential, according to Chen. She said that most are savvy enough to understand what they are doing. But about 5% might benefit from more guidance. For instance, some of those who invested in “pre-IPOs” in 2021 were surprised they could not exit at a higher valuation when the technology bubble burst.
“A small percentage of accredited investors are not that sophisticated and don’t understand the risks,” Chen noted. “Some companies may never go to an IPO and then your money is sitting there forever. You can’t withdraw the money, so there may be no liquidity. There is a small percentage of investors who are so new to the pre-IPO concept that they don’t necessarily understand how it works.”
For RIAs, one solution to address the issues of high investment minimums and the level of due diligence venture capital investments require is to aggregate their clients’ money and invest as a firm. That’s a model that Crescent Grove has used—if venture capital funds have a $10 million investment minimum, raising that sum from multiple clients brings down each one’s actual contribution. “It’s an important barrier to entry for a lot of investors because a lot of people just can’t write a check large enough to do that directly,” said Krei. He noted that it also makes it easier to invest with the best-performing venture capital firms in the market, which can often quickly raise money from large institutions.
Kirsten Morin, a partner with alternative asset manager HighVista Strategies who co-leads its venture capital program, said a growing number of advisory groups, including family offices and RIA firms, have shown interest in venture capital fund-of-funds since the tech IPO boom in 2021. HighVista’s offerings include co-mingled funds that focus primarily on early-stage venture capital investments in technology, life sciences and blockchain sectors.
“Venture capital, done right, you still outperform the public markets. And I think a lot of folks took note of that,” Morin said. “We are seeing a lot of folks who haven’t traditionally participated in venture showing far more interest.”
However, the highest caliber venture capital funds typically require investment minimums of $5 million to $10 million. At that price, even many qualified purchasers may be unable to participate. On the other hand, venture capital fund-of-funds tend to offer lower investment thresholds. “Particularly if an RIA is including a bunch of their underlying clients into a fund, a lot of fund-of-funds will consider that aggregated amount rather than requiring each individual to meet their stated minimums,” Morin noted.
What’s the Outlook?
Investor designations and minimum investment requirements are only some of the barriers preventing venture capital from becoming available to accredited and retail investors in a more significant way.
According to Krei, Shah and Morin, one of the biggest obstacles is that the venture capital model is challenging to scale in the same way as private equity or commercial real estate investments. The funding needs of early-stage technology companies tend to be modest. Shah said few of the top venture capital firms raise funds over $1 billion in value. The majority raise less than $500,000 per fund.
At the same time, the most respected venture capital managers get over-subscribed quickly. “The top quartile funds have lines out the door. Even in this environment, they can launch and close a fund in a matter of six to eight weeks,” noted Morin.
Shah added venture capital investments carry some of the highest risks in the alternative asset universe. That risk goes past the high percentage of companies in any fund that never become successful businesses. Even companies that make it can fail to meet valuation expectations during an IPO or a buyout.
Like Chen, Shah pointed to recent years when private investors’ “astronomical valuations” for some venture capital-backed technology companies turned out to be unsustainable in the long term. “You may be in a good business that is growing very well, but if your entry point was at a 2021 level, you are looking at a declining valuation today,” he said.
For example, the social networking forum Reddit debuted on the public market in late March at $34 per share, giving it a valuation of $6.5 billion—a seemingly successful IPO. However, during its last private funding round in 2021, Reddit was valued at $10 billion.
Cambridge Associates’ U.S. Venture Capital Index for the period between the third quarter of 2022 and the third quarter of 2023 was -10.41.
Given that the entire alternative investment universe is shifting toward serving more private wealth investors and launching new types of evergreen vehicles, venture capital will follow suit, predicted Krei.
“But I think venture capital is probably going to be the last thing to get there.”