Fewer 'unicorns' born in Q1 as venture capitalists hang back

Jahi Chikwendiu | The Washington Post | Getty Images

Just five start-ups surpassed a $1 billion valuation in the first quarter of 2016 as venture capitalists held tight to new cash, according to a new report.

Venture-backed companies worldwide raised $25.5 billion in the first quarter of this year, down from $27.9 billion in the first quarter of 2015, according to CB Insights' and KPMG's quarterly Venture Pulse report released Wednesday. The report, which traced closed funding rounds of private companies, found that fewer deals were signed in the U.S., Europe and Asia as uncertain interest rates, the U.S. presidential election and the investment climate weighed on investors.

That kept all but five VC-backed start-ups from joining the "unicorn" club, compared to 13 in the fourth quarter of 2015, 23 in the second and third quarters, and 15 in the first quarter, according to the report.

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It attributed part of the unicorn drought to increased scrutiny from investors, who were stingier as they looked to do due diligence earlier in companies' life cycles and raised expectations of profitability for more mature ventures.

"Over the next six to nine months, there will likely be a shakeout amongst Unicorns," wrote KPMG's Brian Hughes in the report. "Those that can demonstrate revenue growth, positive gross margins, expense control and a path to profitability ... may take a slight hit in valuation, but are likely to be the winners down the road."

Many outspoken venture capitalists have warned that 2015's $129.5 billion fundraising would be unsustainable. Upfront Ventures' Mark Suster predicted that "winter was coming" for start-ups in the next two years, prophesizing more down rounds, more structured rounds and investors marking their assets to market.

"With the recent public market correction in technology stocks, higher valuations present greater challenges for raising attractive follow-on rounds," wrote Tomasz Tunguz, venture capitalist at Redpoint Ventures.

But the new Venture Pulse report also pointed to another explanation for the funding pullback: That investors were spending more time bringing cash in than doling it out, as venture capitalists in North America had one of the best quarters for fundraising since the dot-com boom.

Indeed, the $12 billion in first-quarter fundraising round marks the strongest quarter for venture capital firms in a decade, according to a separate report from the National Venture Capital Association and Thomson Reuters.

That's dry powder that could be put to work for the rest of the year, both reports said.

"As long [as] interest rates remain relatively low, the VC market will likely remain a good place to deploy capital," the Venture Pulse report said. "The current slump compared to earlier in 2015 appears to be a result of short-term market uncertainties and some investor caution following a series of high-profile write-downs."