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[Updated 1:01pm, 5/19/2017 to correct the dry powder figure in the first paragraph, which was erroneously given as $41 billion.]

On the heels of a decade-high year in VC fundraising, 2017 remains strong. In PitchBooks’s latest funding report, we found that U.S. VCs raised 58 funds in the first quarter, to the tune of $7.9 billion. Add this to the $121 billion in dry powder that is already waiting to be deployed to the world’s most promising startups.

Despite a shortage in VC-backed exits, investors continue to place bets on VC as it remains one of the asset classes where they can benefit from outsized performance. The allure of finding the next Silicon Valley unicorn such as Uber, Slack, or AirBnB is a powerful motivator. On a historical basis, VC funds have consistently outperformed all other fund types over three-year and five-year horizons – PE, debt funds, fund of funds, according to our data. In 2014 and 2015, VC funds returned $119 billion to investors, which has since led to a large amount of reinvestment in the asset class.

Liquidity is the single biggest challenge for VCs

We also found that the median time to exit for VC-backed companies in the U.S. has crept to 8.2 years for an IPO and five years for acquisitions or buyouts, the highest levels recorded in the last decade.

Many startups are opting to raise a down or flat round or find ways to lengthen their cash runway rather than go through a liquidity event. Take BuzzFeed as a perfect example of this trend. The unicorn startup secured $200 million in late stage financing late last year, valued at $1.7 billion and is reportedly aiming for $350 million in revenue this year. Also on this list are Houzz, Qualtrics, WeWork, Ola, and AirBnB, to name a few.

This trend is creating a cyclical challenge for investors. They continue to fund late-stage companies, arming them with healthy cash reserves to stay private longer, which impacts their ability to generate returns for limited partners in a timely manner. Global VC contributions from 2012 through 2015 were the highest of any four-year period since 2002, with nearly $175 billion paid in. But the returns distributed from these contributions are lagging. The latest global net cash flow reports we looked at show VCs still owe $12.8 billion to their investors – and that’s just to break even. The consequence of this is a level of illiquidity that limited partners had not planned for, which impacts expected and actual returns as well as fees paid.

The unicorn experiment

So, where does this “new normal” lead us? At this point, it will be several years before the venture asset class will know if the “staying private longer but growing bigger” (aka the Unicorn experiment) is positive or negative for returns. In the meantime, investors must grapple with the bigger unanswered question of what the VC industry will look like if the expected fund lifetime stretches to 15 years? That is, what are the return expectations on that duration of illiquidity? How do fees get charged? What happens to key man clauses (15 years is half a career…) etc.?

The future: patience is a virtue

The trend of staying private longer will only continue, especially after watching the early challenges faced in the public market by unicorn companies like Facebook, Twitter, and more recently Snap. While staying private longer allows more time to establish profitability, waiting too long only increases pressure to maintain nearly impossible levels of growth, and market forces could shift making an exit unwise.

It’s clear the VC industry is in the middle of a development phase, but how it will emerge on the other side remains a question mark. The stigma associated with early stage investors exiting in later stage rounds will soon become obsolete as the industry accepts it not as signaling risk but as a fiduciary duty by the early VCs. Limited partners and general partners are already thinking seriously about addressing more permanent capital structures.

Adley Bowden is Vice President of Market Development and Analysis at PitchBook.

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