Although payouts might start as early as year five or six, venture funds often seek to return cash to investors within ten years. The fund management usually concentrates on investing and expanding the portfolio over the first two to three years. An exit may take the form of a SPAC merger, an IPO, an acquisition, or a liquidation event.
Let's take a closer look at temporal horizons.
Why do venture funds often last for ten years?
When a portfolio firm departs, funds profit. Venture funds have enough time to invest in and develop a portfolio business until it's ready to exit thanks to the 10-year time horizon. An IPO, for instance, usually occurs after a business has received first venture capital for six years. Not all businesses are suitable for this kind of departure, but a SPAC is a quicker and less expensive option than a traditional IPO.
M&As close more quickly than initial public offerings (IPOs), with an average 5-year turnaround time from venture capital financing to exit, according to a Duke Financial Economics Center-sponsored study.
Given that these are median times, some firms will close sooner, while others will take longer. However, venture funds have a decent possibility of receiving returns on their investment due to the 10-year time horizon.
How do long-term funds work?
While 10 years may seem like a long time to an individual investor, institutional investors such as pension funds and endowments see it as a very short period. These investors are trying to protect their wealth and find stability. They thus often make longer-term investments in funds with 15–20 year time horizons.
In reality, general partners (GPs) are raising these longer-dated funds at an increasing rate, according to an INSEAD analysis. Big private equity companies like Blackstone and The Carlyle Group are starting buyout funds with long holding periods.
Longer "lock up" periods—during which investors commit to holding onto their shares indefinitely—benefit these funds. As a result, the GP has more time to invest money and make money.
Exist any short-term funds?
While venture funds typically have a 10-year time horizon, others might have eight years or fewer. A portfolio company's best interests may not always align with shorter time horizons, since they may put further pressure on general partners to quit early. Subpar results, such as "fire sales" of portfolio businesses, may arise from this.
Extended time horizons may also provide general practitioners (GPs) with more leeway to make long-term investments and wait for the ideal exit. Better results may result from this for both portfolio firms and investors.
The J-curve, which shows that a typical venture fund's returns initially become negative when costs are incurred and first investments are made, is another reason why shorter time horizons may not be ideal. Typically, it takes a few years for the fund to start making money. Investors may not allow a fund enough time to develop and completely provide optimum profits if it has a shorter time horizon.
It should come as no surprise that short-dated bonds underperform their indexes compared to their peers with all maturities, according to a Fidelity research. Bond investors also need to think about how long their investing goals should last.
Recognizing short-term liquidity
Additionally, a lot of venture firms give investors their money back via "early distributions." Additionally, investors seeking to sell or buy fresh shares in venture-backed firms might find liquidity in secondary markets.
This kind of liquidity may be made possible via asset-based financing, which offers loans secured by ownership interests in private businesses.
In the end, investors and venture capitalists take time horizons into account. Longer time horizons may provide GPs more freedom to make long-term investments, whereas shorter time horizons may result in less than ideal results.
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