Is this the end of venture capital as we know it?

If you only read the news headlines, it may well seem like it:

• Startup valuations are in absolute free-fall.
• There's been a massive rise in startup layoffs.
• Venture funds are pulling back on new investments.
• Fundraising for new VC funds has been slowing.

But these headlines don't tell the whole story.

If you take a closer look at what’s happening in the venture capital ecosystem, the conditions are actually ripe for launching a new venture studio.

What is a venture studio? And should your organization explore creating one?

Venture studios are entities developed out of scaled organizations — corporations, universities, state governments, and non-profits — that build and invest in startups.

Plain and simple.

A venture studio enables these organizations to create their own portfolio of companies, with co-founder roles that garner founder ownership stakes at entry-level valuations.

Their PortCos are also backed by resources and processes to go to market at faster speeds.

And we believe now is as good a time as ever for these organizations — perhaps even yours — to build a venture studio, given headwinds facing later stages of VC are turning into tailwinds at the earliest stages.

Many later-stage venture capital firms that were investing at Series B, C, or D are in a world of hurt. During the boom of the past few years, most invested in startups at historically high valuations. Now, they find their portfolio companies facing down rounds at lower valuations.

(Or shutting down altogether.)

Later-stage VC investing has basically come to a grinding halt, as the IPO window shut, M&A activity slowed, and founder and investor valuation expectations haven't fully reset.

In response to the freeze in later stage investing, many LPs and VCs are moving quickly to reallocate capital towards Seed and Series A deals where valuations have been less impacted, even increasing slightly from Q1 to Q2 2023, and there are longer holding periods (typically 5-10 years to exit).

Longer holding periods are attractive today, as the assumption is that there is a higher probability of a frothy IPO and M&A market, with stronger exit multiples in 5-10 years as the macroeconomic cycle plays out and the economy bounces back.

You can see this reallocation in the most recent data.

According to Carta Insights, Seed as a percent of total invested capital has grown from just 4% to 14% over the past two years.

As a result, new venture studios — notably, those created alongside proven venture builders — which create companies at the pre-seed stage stand to benefit.

That's because they will increasingly become more attractive to investors, given their relatively steadier valuations at Seed and A over the next few years.

Institutional investors validating venture studio model as attractive asset class

Most institutional investors, such as pension funds, fund of funds, corporations, or sovereign wealth funds, typically take a wait-and-see approach, when investing in new funds unless they have a long-standing, pre-existing relationship with the fund managers.

Without pre-existing relationships, institutional investors require a long history of strong fund performance (e.g., 3x net multiple on invested capital or higher).

These limited partners typically do not commit until Fund III, when the projected returns from Fund I are becoming more clear and Fund II has begun to show early signs of success, such as multiple portfolio company markups.

It's true that venture fund fundraising has dramatically slowed. But many sophisticated institutional investors are still deploying capital into funds with differentiated strategies.

And nothing is more differentiated than a venture studio.

While many venture fund managers claim proprietary deal flow, there is nothing more proprietary in VC than a venture studio that builds new companies from scratch and sets the initial investment terms.

Higher initial ownership levels combined with meaningfully higher probabilities of raising a Seed round is a powerful formula for delivering attractive returns to investors.

Venture studios can deliver top-quartile performance with a portfolio of 'singles,' 'doubles,' and 'triples,' and top-decile performance, if it hits 'home runs' or 'grand slams.'

Big institutional investors are deploying capital into the emerging venture studio asset class:

• High Alpha Studio raised $18M for its third studio in 2021 from renowned venture capital firms Emergence Capital and Foundry Group.
• Atomic announced a $320M fourth fund with mostly institutional backers.
• Pioneer Square Labs recently raised $20M for its third studio fund, again, primarily from institutional investors.

This list goes on.

For those fundraising for a new venture studio, these announcements can prove helpful in credentializing the model in the eyes of prospective investors.

And, as more institutional capital shifts into the venture studio asset class, the more likely family offices, high-net-worth individuals, and other types of investors are to take a chance on a first-time venture studio.

Strategic benefits of the venture studio model above and beyond economic returns

High Alpha Innovation develops venture studios with corporate, university, and government partners. While all venture studios must ultimately deliver attractive economic returns to successfully raise the next fund, our partners are often making a bet on a new venture studio for more strategic reasons.

Leading universities like Notre Dame have partnered with High Alpha Innovation to apply the venture studio model to further support commercialization of new technology concepts developed by faculty and students and create entirely new, venture-backable software startups that target big societal problems.

For corporations of all sizes, innovation budgets are now getting cut in this difficult macro climate. As a result, these corporations are turning to partners like High Alpha Innovation to “innovate from the balance sheet.”

Why? Funding a venture studio through capital investment allows corporations to:

• Avoid negatively affecting their share prices due to earnings drag caused by P&L-funded innovation efforts
• Reduce the longer-term cost of building new ventures by funding growth through outside venture capital
• Build novel tech rapidly (and with world-class talent) that address internal issues and growth opportunities

Even governments and related entities focused on regional economic development are realizing that traditional venture funds don’t really address the underlying problem:

You can’t drive economic development and local entrepreneurship if there are no or few high-quality VC-backable startups to invest in.

Many of these types of partners rightfully view venture studios as an effective tool in addressing the supply-side problem of new startup creation in their regions.

Similar to the jobs a new manufacturing plant might create, venture studios can be efficient in creating high-paying jobs when executed well.

Federal, state, and local sources of funding that offset the operating costs of studio teams are also making venture studios even more viable and attractive to investors.

High Alpha Innovation and its partners are already leveraging great programs like SSBCI as a source for capital. (See: Fieldbook Studio based out of Arkansas.)

We've seen success in combining the best of an established venture studio brand and playbook with the capital, network, credibility, and influence that these corporations, universities, and governments can bring to the table.

Anchor investment alone goes a long way in establishing credibility with other prospective investors and jumpstart the fundraising process.