Mindset Ventures’ 2021 predictions for the venture capital market

It never stops growing

The year 2020 was not an easy one for most businesses and it will take some time to digest everything that went on. With all the volatile and unprecedented news, we tend to forget about the good things that happened. Amidst the mostly chaotic context of 2020 lie several positive facts that we should also remember. One of the most significant examples is how quickly technology advanced in such a short amount of time. Despite the challenging macroeconomic context, startups continued to launch and grow. Once again, the venture capital market hit a new record according to PitchBook projections, growing from $138 billion in 2019 to $156 billion in 2020 in the US.

Given the growing importance of technology in our lives, our first prediction for 2021 is that we will end the year with another record high for US venture capital investment.

With the wider adoption of remote work and increasing comfort of VCs investing via Zoom, we also believe that the number of startups emerging in US regions other than the Silicon Valley will continue to grow. We’ve seen this first hand with our initial investments from Fund III, where 75% of our US portfolio are based outside the Silicon Valley.

Some segments to watch closely

Crises accelerate trends, and the pandemic was not an exception. Throughout last year, we saw some venture capital segments develop faster than others due to widespread behavioral changes, and we believe that these trends will remain intact in 2021. Although some may not last in the long-run, many are probably here to stay.

Healthcare rose in prominance as the series of measures imposed across the world to interrupt the spread of COVID-19 generated opportunities for new startups and created more visibility around the entire segment. Even health tech indirectly associated with the pandemic benefitted from the trend, and the volume of health tech deals in the US achieved a new 10-year record.

Remote work was also another trend that hugely benefitted from the pandemic. Working from home was already a reality for some before the crisis took place, and it was expected to take several years still to become more widely adopted. With the pandemic, startups offering remote work solutions boomed. Based on how employers and employees have positively received this practice, it is not hard to believe that this trend will continue. According to Business Insider, before the pandemic almost 60% of the companies discouraged or limited remote work, with 40% supporting it, while a recent PwC study indicated that 83% of employers are now in favor of it. Some of our portfolio companies benefit directly from this trend. Turing, for example, developed a marketplace that matches companies to remote developers, which goes completely in favor of the remote work trend. The context for Priori is also extremely positive, as the company connects attorneys to companies globally, in some ways sharing similarities with how Turing works.

Cybersecurity is another booming segment as a consequence of the increase in remote work. With employees using both personal and employer devices at home on personal Wi-Fi networks, companies became more exposed to cyber-attacks. We are seeing an increased number of startups tackling this problem, and according to Grand View Research the cybersecurity market size will grow 10% annually until 2027. Eclypsium, one of our most recent portfolio companies, should have increasing opportunities to thrive in the next few years. The company developed a disruptive firmware protection solution that solves some of the greatest challenges that corporations currently have to protect themselves against cyber attacks.

Finally, the gaming market has exploded as people spend more time at home. IDC projections show $180 billion in revenues for gaming in 2020, surpassing the combined revenues of US sports and the global film industries ($75 billion and $100 billion respectively, according to PwC and the Motion Picture Association). Within the gaming industry, we believe e-sports and streaming are two areas within gaming that we believe have significant growth potential in the next few years. According to NewZoo, the global e-sports audience in 2020 reached 495 million people with $1.1 billion in revenue, and will grow more than 30% by 2023. Gaming is a relatively new segment in the venture capital market, but it has the potential to become more popular for investors. Success stories include Unity’s $525 million late-stage round in 2019 before a successful IPO in 2020, as well as Epic Games’ $1.5 billion late-stage round in 2020 and Roblox’s $520 million Series H in January 2021, both of whom are rumored to be planning IPOs in 2021.

Big Techs may face tighter regulation

We believe that the venture capital market will reach a new record in 2021, driven by continued growth in the segments mentioned here, but some big challenges still lie ahead for Big Tech companies. In particular, regulations that have already been discussed may finally become reality under Joe Biden’s administration.

The US Department of Justice and Federal Trade Commission have open investigations ongoing with Apple, Google, Facebook and Amazon related to competition principles, and there is significant discussion in the US Congress about the regulation of social media companies related to misinformation. In particular, Democrats and Republicans both seem to be prioritizing revisions to Section 230 of the Communicating Decency Act, which states that social media companies are not responsible for the content published by their users.

Taxes might be adjusted

This year, we also expect some debate over a possible tax adjustment in the US, as Biden’s plan is to increase corporate taxes from 21% to 28% and set a minimum tax of 15% on companies’ reported profits. The venture capital industry is paying particular attention to plans for almost doubling the capital gains tax for those who make more than $1 million, which may impact the amount of capital available for US entrepreneurs.

These reforms may face approval challenges with a divided Congress, but are important to watch as they could have a meaningful impact on the venture capital and startup market.

SPACs are becoming more common

SPACs (Special Purpose Acquisition Companies) are all the rage right now, but have been in use since the early 1990’s as a way to enable companies to go public without the arduous regulatory and roadshow IPO processes, as well as expensive investment banking fees. Also called reverse IPOs, SPACs are shell companies that raise capital from investors, go public, and then acquire another company, thereby bringing them public without the traditional IPO process. If the SPAC investors don’t agree on or the sponsor cannot find a company to acquire in a pre-defined period (usually two years), the vehicle is dissolved.

Most recently, the use of SPACs for venture capital-backed companies has surged in popularity as a way for smaller companies to go public earlier than they would in a traditional IPO process. This year, we expect the volume of SPACs to surpass 2020. Until January 22, 2021, for example, a total of 66 SPACs went public in the US, accounting for a volume of $ 19.1 billion, while in 2019 full year 59 SPACs were issued, with a total volume of $ 13.6 billion. According to Morgan Stanley, there are already more than $90 billion in dry powder looking for acquisitions this year, with more SPACs being raised each month.

There is no rose without thorns though, and we expect this year will be somewhat prickly in terms of whether SPACs are reliable exit options for tech startups and their investors. Similar to a fund, SPACs sponsors usually charge investors “2 and 20” fee structure, where 2% of funds raised are taken as a management fee and 20% of the upside goes to the fund managers. As a result, sponsors may be encouraged to acquire a less attractive company to assure they will receive their upside compensation. In addition, there is some concern of whether some of the VC-backed companies are going public too early and are not fully prepared to be a public company. While SPACs are still risky and unproven, they are providing liquidity to investors and entrepreneurs and this trend is certainly one to watch.

2021 predictions in a nutshell

Generally speaking, we believe 2021 will be a good year for venture capital and technology, with a record volume of deals taking place once again. With SPACs becoming more popular, we expect more VCs to achieve exits in this way and even launch their own SPACs. The segments that benefitted from the pandemic, such as tools enabling remote work and cybersecurity, should continue performing well in 2021. Alongside this optimism, a few challenges may also arise, such as increased regulation for the Big Tech companies and a possible tax adjustment on capital gains in the US. Even so, we are excited for what lies ahead and expect another exciting year for venture capital in the US and beyond.