Venture capital investors in Michigan backed more startup companies in 2020 than ever before, though the amount they put into deals declined by half in a year when the COVID-19 pandemic altered deal flow.
The sharp decrease in the amount of venture capital invested — from $514 million in 2019 to $257 million in 2020 — came as the number of investments in Michigan-based startups increased from 71 to a record 88 companies, according to an annual report from the Michigan Venture Capital Association (MVCA).
“The industry is really strong in Michigan,” said Michael Gross, managing director of Beringea LLC in Farmington Hills and chairman of the MVCA. “While the average deal size was down, there was just a lot of activity across the entire ecosystem.”
The record for startups funded in a year “shows kind of the breadth of the ecosystem” for entrepreneurs in Michigan seeking to commercialize an innovation, Gross said.
Some of those 88 investments could have resulted when venture capital firms injected capital last spring to stabilize portfolio companies as the economy plunged under pandemic-related restrictions.
“What it shows is a broad cross-section of companies in the state had to raise capital because things changed, and the (venture capital) ecosystem here was strong enough to make those rounds happen,” Gross said. “There were a lot of rounds across the ecosystem.”
Smaller funding rounds
The flow of capital to stabilize startups generally was for smaller rounds, contributing to the steep decline in the amount of capital invested even with an elevated number of deals, he said.
Investments in 2020 tended to go more to earlier rounds that require less capital, according to the MVCA report. In 2020, 65 percent of the amount invested went into startup and seed rounds, compared to 48 percent in 2019. Rounds for companies in growth and expansion stages declined from 23 percent of the amount invested in 2019 to 17 percent in 2020, according to the MVCA report.
The 2020 trend follows two straight record years for venture capital investments in Michigan in 2018 and 2019 that saw some large capital rounds. There were no expectations for a third straight record year in light of the pandemic’s economic effects that had some investors delaying deals for larger growth capital rounds needed to scale a company until the economy recovers and the pandemic wanes, Gross said.
That could lead to strong activity in 2021 as venture capital firms relaunch larger capital rounds in a rebounding economy, he said.
“So, I’m optimistic for 2021 because we’re starting to see those big rounds come back on the market now that people have visibility, the economy’s opening up and accelerating pretty significantly. And we still have good macro capital tailwinds from the Fed’s response to the pandemic,” Gross said. “In 2021, we should see those big rounds return and we should have quite a good year.”
‘Strength and resilience’
At the end of 2020, the 20 active venture capital firms in the state collectively had $2.8 billion in capital under management, an increase from $2.7 billion in 2019 and $600 million more than in 2015.
The amount of capital under management has doubled from a decade earlier, according to the MVCA report that details the state of the venture capital industry in Michigan.
“If we can do that again over the next decade, that will show real consistent growth and a really established ecosystem for the next decade,” Gross said.
MVCA Executive Director Ara Topouzian sees the data for 2020 as illustrating the “strength and resilience” of venture capital in Michigan.
“Michigan firms are a group of firms that just kind of continue to push through,” Topouzian said. “There’s still strength in fundraising that’s been going on and work that’s been happening in Michigan.”
The Ann Arbor-based association’s annual report highlights the industry’s steady progress over several years.
The average amount of capital under management per Michigan-based venture capital firm grew to $141 million 2020, which compares to $133 in 2019 and $88 million five years earlier. The average size of a Michigan-based fund dipped from $60 million in 2019 to $58 million in 2020, yet remains well above the $45 million in 2015.
Overall capital under management that includes out-of-state venture capital firms with a presence in Michigan declined from $4.26 billion in 2019 to $3.65 billion in 2020. The decrease results from the amount of capital under management by out-of-state firms dropping by half, from $1.6 billion to $820 million.
The lower capital under management by out-of-state firms likely stems from them “feeling like they can service their portfolio companies in the state without having a formal office” here, said Gross, who’s “not too worried” about the decline.
“They built their relationships they needed while they had that office (in Michigan) and now they can do it from out of state,” Gross said.
The MVCA 2021 research report also shows that Michigan venture capital firms have $431 million available for follow-on investments in portfolio companies, while the 165 startups backed in the last two years require a collective $1.2 billion in additional capital in the next two years to grow.
Eleven of the existing firms in Michigan are presently seeking to raise a combined $446 million.
“We have a big pipeline of entrepreneurs that definitely need funding, and there’s no shortage of investments,” Topouzian said.