5 Venture Capital Trends to Watch in 2023

1. Increased Ethics and Due Diligence

The SEC's recent vote and introduction of new rules are fostering a more ethical venture capital (VC) environment. Fund managers are now required to disclose any side letter agreements to all limited partners (LPs). This development promotes fairness, particularly for emerging managers, and helps create a more equitable VC industry. As the market continues to recover, there is an expectation of increased due diligence in deals, with VCs becoming more cautious in their investments.

In 2022, dry powder—a term for uncommitted capital—hit a record surplus of over $500 billion. This figure, a remnant of the fundraising boom in 2021 and 2022 coupled with a slowdown in capital spending, reflects current economic conditions.

2. Lower Valuations

The trend of lower valuations in the VC sector is a mixed blessing. While it signals increased investor caution, it also offers VCs the opportunity to secure deals at more realistic prices, emphasizing sustainable growth. In the U.S., median deal sizes across different stages have converged, partly due to delayed market impacts on early-stage investments. 

Late-stage companies, especially those that raised large rounds in 2021 or 2022, can afford to delay further fundraising and reduce costs more easily than early-stage companies.

3. Growth in AI

AI technology continues to attract significant attention. Investors are increasingly demanding ethical AI systems that prioritize privacy, security, and societal values alongside smart capabilities. This shift highlights a growing preference for technologies that balance innovation with ethical considerations. Generative AI is enhancing VC workflows by minimizing research blind spots and providing both qualitative and quantitative insights for quicker, data-driven decisions. 

With a shrinking global workforce and an aging population, robotics and automation will be crucial in addressing labor shortages and boosting productivity.

4. Growth in Sustainability

The focus on sustainability is expected to intensify as the world grapples with environmental challenges. This trend is encouraging, as the VC industry has the potential to invest in and foster a more sustainable future.

A major criteria for investors are companies that place importance on environmental, social, and governance (ESG). VCs that are socially responsible may also prioritize startups with diverse leadership teams fostering an inclusive workplace.  

5. Bridge Rounds for Later-Stage Startups

The rise in bridge funding rounds suggests that startups are opting to stay private longer before considering public offerings or acquisitions. This strategy aligns with the trends of lower valuations and slower investment paces, reflecting a more cautious approach to business growth. 

Strategic bridge rounds are often aimed at facilitating product launches and market expansions. As market dynamics and economic conditions shape bridge funding, investors are likely to adapt their strategies accordingly.

Outlook for Venture Capital in 2023

The venture capital outlook for 2023 is marked by uncertainty. High expectations for 2022 were dampened by war, inflation, and geopolitical turmoil, leading to a significant drop in global venture funding. CB Insights reported that Q3 2022 saw the lowest funding levels since Q2 2020, with $74.5 billion raised compared to $60.2 billion.

Despite these challenges, the fundamentals of the VC sector remain strong. VCs still have considerable dry powder, and there is never a shortage of innovative business ideas. As managers navigate these hurdles, they will focus on key trends that are expected to shape the industry in the coming year.