Category: Insights

Executive Summary

Reading headlines about venture capital today may give investors pause on the health of the market and the opportunity set for capital deployment into venture-backed businesses. Some of the key concerns observed include:

• Lack of liquidity
• Substantial universe of private companies waiting for an exit
• Depressed fundraising, deal pace, and valuations have the industry in a bit of a malaise
• Increasing misalignment with the large multi-stage VC firms
• Risk of an overhyped AI market

We believe there are silver linings to today’s macro backdrop that reinforce our excitement in venture capital. Investing in early-stage venture capital affords access to tomorrow’s groundbreaking companies at deep valuation discounts relative to what later-stage VCs pay. Early-stage investment is an important component of generating strong alpha in venture. Disciplined allocation consistently across cycles remains critical as markets cannot be timed. We’re bullish on today’s dynamics, despite the headline concerns, for numerous reasons:

• Great companies are formed across market cycles – and will find an exit path in time
• The scope of innovation and, thus disruptive businesses, is large and growing – we want to own the best, most innovative emerging companies
• The bar has been raised on business quality, founder motivation, and alignment
• Entrepreneurship in the US is alive and well
• Less available capital means less competition and improved deal dynamics for investors

Introduction

The roller-coaster headlines on venture capital keep coming. Since we wrote about our perspectives on venture capital in February 2024, Capturing Venture Innovation Across Market Cycles, a casual observer might conclude that very little has improved in the venture landscape. In some respects, that is quite true. We still find that much of the venture capital market remains in a lull following the 2021 peak of venture activity and valuation euphoria; fundraising, deal activity, and liquidity are all dramatically lower today. However, in other respects, we are increasingly confident in – and excited about – the opportunity set that we believe is developing before us. As you’ve heard us say time and again, investors cannot time private markets. The most groundbreaking and innovative companies have been created at times that do not obviously correlate to market cycles. We believe that keeping a steady allocation to a high-quality roster of seed- and early-stage venture capital managers improves our probability of capturing a share of tomorrow’s next breakthrough companies and the outsized return potential generated from accessing them at their earliest stages.

Let’s take inventory of what we see as the deepest challenges the market needs to overcome, as well as the ingredients and rationale for the key opportunities ahead. For simplicity, we’ll call this TIFF’s assessment of the “bear case” and the “bull case” for venture capital today.

The Bear Case:

• Limited Liquidity via IPO Market: We have witnessed a drought in liquidity from venture portfolios since late 2021. Unfortunately, the IPO window, a bellwether for the health of the VC world, is still not yet signaling that public markets are fully open for business. The bar is undoubtedly high for public market investors to buy new offerings, as they are still digesting a large number of IPOs that priced in the COVID-era froth. According to Preqin, there were 86 IPOs of venture-backed companies in the US during 2021, but only 27 in the following 3 years combined. As of February 28th, 2025, only 11 of those 2021 IPOs were trading above their original offering prices. Public markets investors now demand that businesses seeking a public offering meet more stringent performance criteria that emphasize both growth and profitability metrics. Many of these underwater IPOs were simply priced too aggressively, fail to meet these criteria today, or both. Public markets have a way to go to fully digest these losses, and strategic acquirers have also remained subdued, which doesn’t help the liquidity picture.
• Mountainous Backlog of Venture-backed Unicorns: The lack of liquidity has led to a growing inventory of unicorns (a private company valued at $1 billion or more) looking for an exit. Today, there are over 750 unicorns in the US, collectively valued at over $2.7 trillion. That represents an astonishing backlog of companies with an enormous collective value, all effectively waiting for an exit. This backlog will extend hold periods for these assets. Many of these companies may also face haircuts to their later stage valuations as well.

US Unicorn Count and Aggregate Post-money Valuation

• Continued Fallout from COVID ERA VC “Bubble”: The venture ecosystem likely faces additional fallout from the COVID-era VC froth, potentially causing companies (and even VC firms) to fail, while also risking a broader decline in new company formation. What might losses look like from the two or three vintages before and after 2021? These losses might come simply from mark downs of expensive later round valuations or outright shutdowns of companies that failed to create sustainable businesses. The chart shows the recent uptick in down rounds (follow-on rounds at a lower entry valuation) and is one measure of the pain that the VC ecosystem is suffering. With a tougher fundraising environment, many VC firms could also fail to raise new capital and become “zombie funds.” Less capital in the ecosystem could contribute to a decline in entrepreneurship, as founders become more cautious or dissuaded entirely from taking the entrepreneurial plunge.

• Venture is Consolidating among misaligned Large Asset Gatherers: We have recently observed a substantial concentration of venture dollars in the larger, multi-stage platforms. According to Pitchbook, in 2024, 30 firms raised 75% of all venture capital commitments from LPs. Nine firms raised 50% of the capital. Smaller and newer emerging managers struggled to raise new funds, while many larger LPs increased their allocations to the large, established asset managers. With such large fund size and management fee streams, there is a natural risk, as we have believed consistently over the years, that these managers abandon an exclusive focus on return generation and prioritize capital deployment and AUM growth over all else.
• Lack of discipline around Artificial Intelligence investing: New investments in AI companies have dominated venture deal activity. According to Crunchbase, 2024 investment in US AI venture-backed deals represented nearly half of all capital invested, up from 14% in 2022 and 25% in 2023. This AI feeding frenzy has created round size and valuation inflation and reeks of consensus-driven investing. Are investors paying reasonable valuations for entry into the hottest sector on the planet, or are they succumbing to FOMO and paying whatever is necessary to “win”? Are there too many “me too” AI companies getting funded? There’s a real risk that some venture capitalists are materially overpaying for the 5^th best AI company targeting a particular opportunity; one or a small number of companies will eventually win, leaving many failed companies in the wake. With so much capital chasing these AI deals, there is a distinct risk that this may precipitate significant losses for some investors.

The Bull Case:

• Great Companies will Eventually find an Exit … and will Keep Growing in the Meantime: While the near-term picture for liquidity remains murky, we remain convinced that investing year-over-year in disruptive, high-growth venture-backed companies at the earliest stages with significant ownership at low valuations is the key to long-term alpha generation. Great companies are founded at times that do not coincide with market cycles, and those great companies will compound capital for investors even if the hold period ends up extending.
  • For example, TIFF manager First Round Capital was the first investor in the now well-known ride-hailing app Uber in 2010 and supported the business through its 2019 IPO that valued it at over $75 billion. An investment in a brand-new category (ride-hailing) that got its start one year into the Global Financial Crisis was far from being an obvious winner to most people. First Round had the conviction to be a first-mover, and investors benefitted massively.
  • Another very recent example is Mucker Capital’s investment in cloud-based risk management and compliance software company AuditBoard. Mucker seeded the company in 2015 and helped the management team grow the business over 9 years. Despite the challenging VC exit market, AuditBoard was able to achieve a $3B exit in July 2024 to large-cap PE growth investor Hg Capital.

As we focus on investments in smaller funds that access early-stage companies, we have seen how great fund-level returns can potentially be generated by early ownership in businesses like Uber and AuditBoard. Net investor returns from early-stage fund investments are usually determined by a manager’s ability to “stock” pick – ultimately finding a small handful of companies that will really matter – and not singularly relying on macro venture trends.

Early-Stage Venture Growth and Innovation Across Market Cycles (2000 to 2020)1

• The Scope of Innovative Companies is Substantially Larger Today: Investing in venture capital is often investing in innovation. This century, the venture ecosystem thrived from the platform shift to mobile, the shift to cloud-based software and services, and the emergence of blockchain. Today, new markets and platform shifts are creating new opportunities for the next generation of groundbreaking businesses. Yes, AI is a large part of this, and we are in the very early innings. AI enablement should allow these new companies to be leaner, build products faster, find product-market fit more efficiently, and scale faster. Innovation by no means stops there. Today, new businesses are being formed to solve some of the world’s toughest problems in categories like space, healthcare, sustainable energy, and government services. These expansive markets create significant potential for value creation by founders and venture investors.
• Thinning the herd: The fundraising market has been undoubtedly very difficult in recent years. US VC fundraising skyrocketed to $175 billion from LPs in 2021 and $186 billion in 2022, and then subsequently fell by roughly half in 2023 and declined another 22% in 2024. Additionally, the number of new VC firms started annually (new entrants to the market) has steeply declined from nearly 450 new firms in 2021 to just 57 in 2024.2 Frankly, we are relieved to see the air come out of the balloon. One of the direct impacts is a reduction in competition for new deals, allowing for more attractive entry deal dynamics and higher expected returns. This also means that investors who do have capital to allocate to VC can access or increase allocations to historically access-constrained managers. We are leveraging this today.

Number of New Venture Capital Firms (Global)

• Positives around the higher Opportunity Cost for Founders: With less capital available to fund new start-ups, the opportunity cost pendulum for typical founders has swung from low to high. Until fundraising rapidly declined three years ago, raising capital for a new venture was not as formidable, considering the large amount of capital available and number of VCs to invest it. In that easier money environment, the stakes for a founder to start a new venture were lower. Today, the more challenging VC market acts as a forcing function on the conviction that a founder has in themselves and their business idea. We believe this has likely raised the bar on founder quality and quality of their businesses. It also enforces stronger discipline in generating profitable and efficient growth in venture-backed businesses, ideally reducing excessive cash burn in the industry.
• Entrepreneurship is still on the Rise: Entrepreneurship has always been a cornerstone and strength of the US economy. The appeal of captaining your own vessel and making a difference are all contributors to this rise. Increased remote work has decreased certain obstacles to some for founding their very own businesses and building high-caliber team anywhere in the US or the world. According to the Commerce Institute, 5.5 million new businesses were formed in the US in 2023, an incredible rise from the 3.5 million formed in each of 2018 and 2019. While these are not all venture-backed, this is a positive signal that entrepreneurship remains on the rise and the opportunity set for venture capitalists will continue to grow.

Annual Business Formations in the US (M)

The Innovation and Investment Opportunity Ahead

Macro headwinds clearly persist in the venture markets worldwide today. As discussed above, the venture market faces numerous challenges and questions. These challenges certainly may cause institutional investors to reduce or even abandon their commitments to venture, if they believe the doom and gloom that might signal venture is dead.

Sounds ominous, right? We don’t think so. We still believe in the long-term durability of the opportunity in early-stage venture for high caliber institutional LPs and that the issues that venture capital has been working through over the last several years will lead to a better investing environment. We remain bullish on early-stage venture market over the longer term and continue to find thoughtful and aligned partnerships that are poised to back the next era of technology disruptors. Increased capital scarcity is favorable for entry valuations and for instilling discipline in founders’ strategy for capital efficient growth. We’re seeing new, large frontiers for business creation, and the most innovative businesses may emerge from this period with much higher quality and disciplined financial and operational profiles.

We cannot time markets and, therefore, have and will continue to consistently allocate to high conviction venture managers. There are many reasons to be excited about the opportunity set before us, and we are thrilled to move ahead and capture the value created by the innovation ahead.

The materials are being provided for informational purposes only and constitute neither an offer to sell nor a solicitation of an offer to buy securities. These materials also do not constitute an offer or advertisement of TIFF’s investment advisory services or investment, legal or tax advice. Opinions expressed herein are those of TIFF and are not a recommendation to buy or sell any securities.

These materials may contain forward-looking statements relating to future events. In some cases, you can identify forward-looking statements by terminology such as “may,” “will,” “should,” “expect,” “plan,” “intend,” “anticipate,” “believe,” “estimate,” “predict,” “potential,” or “continue,” the negative of such terms or other comparable terminology. Although TIFF believes the expectations reflected in the forward-looking statements are reasonable, future results cannot be guaranteed.

Executive Summary

• Congress is currently discussing multiple endowment tax proposals.
• While most colleges today pay no federal tax as nonprofit institutions, the 2017 Tax Cuts and Jobs Act (TCJA) introduced a 1.4% excise tax on the wealthiest of endowments. Fifty-six institutions paid that tax in 2023.[i]
• The new proposals look to (1) increase the existing excise tax from 1.4% to 21%[ii] or above, and (2) expand the applicability of the tax to include a broader range of institutions by reducing the endowment assets per student criteria.
• While there are many opponents, certain groups believe some version of these proposals will get passed.
• The greatest impact on affected institutions would be the reduction of funds available to the institutions to support their mission, whether financial aid or general operating budget.
• Higher endowment taxes will also raise the required rate of return for endowments. TIFF is available to assist clients in navigating these challenges and understanding the potential implications for their portfolios.

The Impact of Proposed Endowment Tax Changes

The discussion surrounding the taxation of college endowments is intensifying as legislators evaluate potential amendments to the existing tax regulations. The most well-known proposed changes have centered around increasing the rate at which endowments are taxed and broadening the group of colleges and universities that are impacted. If enacted, these proposals could materially change the financial strategies of these institutions.

Understanding the Current Excise Tax

Historically, colleges and universities operated as tax-exempt nonprofits, with no taxes paid on donations or investment earnings. However, during the first Trump administration, the Tax Cuts and Jobs Act (TCJA) of 2017 introduced an endowment tax. The existing tax is as follows:

• Tax: 1.4% excise tax on net investment income.
• Criteria for inclusion: (1) private institutions with (2) at least 500 tuition-paying students and (3) endowment assets exceeding $500,000 per full-time student.

The rationale behind the tax was to generate additional revenue and address concerns that educational institutions were not contributing enough to public finances. The tax aimed to encourage colleges and universities to use their endowment funds to reduce tuition costs and increase student aid.

The tax affects only the wealthiest of private colleges and universities. In 2023, 56 universities paid about $380 million in endowment tax, up from about $68 million in 2021 from 33 institutions1. The tax threshold for qualifying for taxation is not adjusted for inflation, resulting in an increasing number of schools becoming liable for the tax over time. As college and university endowments continue to grow, the associated tax revenue will grow as well.

Proposed Changes to the Endowment Tax Law

The Trump administration’s tax proposals for 2025 focus on extending and potentially expanding some of the provisions of the TCJA of 2017, which are set to expire at the end of this calendar year. While the endowment excise tax is permanent, it has garnered attention due to its significant revenue-generating potential and the current federal budget deficit.

Proposed adjustments to the endowment tax focus on two potential changes:

• Increasing the excise tax rate: Proposals suggest raising the tax rate from 1.4% to 10%, 14%, 21% or potentially even higher.
• Expand the number of colleges and universities subject to the tax: Proposals range from no change to lowering the criteria to $200,000 of assets per student. Rep. Michael Lawler (R-NY-17)’s Endowment Accountability Act proposes the reduction to $200,000 of assets per student[iii] while Rep. Troy E. Nehls (R-TX-22)’s Endowment Tax Fairness Act does not include an expansion.

As with TCJA of 2017, the objective is to raise federal revenue further to reduce the national deficit.[iv] Taxfoundation.org estimates that increasing the endowment tax from 1.4% to 21%, with a 7.5% average annual endowment return, would generate about $69.8 billion in extra revenue over 10 years.

Taxing Endowments: Revenue Analysis of an Endowment Tax

Source: Taxfoundation.org

How Likely Is this Expanded Endowment Tax to Pass?

These proposals are still in the early stages, and there are many opponents. Certain groups believe changes are likely due to the administration’s focus on fair resource distribution and raising federal revenue. The first Trump administration passed the first-ever endowment tax, albeit small, and the second Trump administration has struck an action-oriented tone. It remains to be seen what is approved, if anything, and in what form.

Potential Implications of the Proposed Tax Law Changes on Impacted Endowments

For those impacted, the proposed increase in the endowment tax would undoubtedly reduce the amount of endowment funds available to support the institution’s mission. Colleges and universities are preparing for possible tax changes and trying to understand how these challenges might affect the higher education landscape more broadly.

School business offices are thinking about the impact higher taxes will have on:

• College affordability: Higher taxes could reduce funds for tuition assistance and scholarships, making college less affordable for some students.
• Budget and spending: Tuition alone doesn’t cover education costs, so institutions rely on endowments and donors to fill the gap. Reduced support from the endowment could force cuts to student services, infrastructure, and other areas.
• Research funding: Increased taxes could lead universities to scale back research initiatives, affecting advancements in science, technology, and medicine.
• Charitable giving: Higher taxes might deter future donations, as donors may not want part of their gift to go toward taxes.

The long-term effects of taxing endowments are a topic of debate. However, the bottom line is that colleges and universities will need to generate returns to offset any tax burden. Given that most colleges and universities pursue an investment return of inflation plus spend (historically around 8% and not always easy to achieve), compensating for an increased tax burden will lead to changes in investment strategy.

Conclusion

Legislators are closely examining the nonprofit sector to generate funding for other projects and ensure that wealthy educational institutions contribute more to public finances. Forecasting the future of the tax landscape is difficult and as a result, colleges and universities are beginning to prepare for the unknown. Those responsible for overseeing the endowment are engaging in several activities to prepare:

• Maintaining communication with the college and university’s tax and legal counsel to stay informed about developments in tax law.
• Forming advocacy consortiums to ensure their collective point of view is heard around the role and benefits of endowments.
• Discussing with the business office the implications of possible tax law changes on the college and university’s budget and spending.
• Exploring tax-efficient investment strategies that could help mitigate a larger potential tax burden.

While the direction of tax reform is uncertain, TIFF is prepared to assist higher education institutions in meeting their financial needs. For more information, please contact info@tiff.org.

The materials are being provided for informational purposes only and constitute neither an offer to sell nor a solicitation of an offer to buy securities. These materials also do not constitute an offer or advertisement of TIFF’s investment advisory services or investment, legal or tax advice. Opinions expressed herein are those of TIFF and are not a recommendation to buy or sell any securities.

These materials may contain forward-looking statements relating to future events. In some cases, you can identify forward-looking statements by terminology such as “may,” “will,” “should,” “expect,” “plan,” “intend,” “anticipate,” “believe,” “estimate,” “predict,” “potential,” or “continue,” the negative of such terms or other comparable terminology. Although TIFF believes the expectations reflected in the forward-looking statements are reasonable, future results cannot be guaranteed.

[i] Endowments impacted under the current tax include Harvard University, Yale University, Princeton University, Stanford University, Massachusetts Institute of Technology (MIT), the University of Pennsylvania, Northwestern University, Washington University, Duke University, and Vanderbilt University per https://nehls.house.gov/media/press-releases/rep-troy-e-nehls-introduces-bill-hold-elite-university-endowments-accountable.

[ii] 21% is proposed in Rep. Troy Nehls (R-TX)’s Endowment Tax Fairness Act, which would match the federal corporate income tax rate. The House Ways & Means Committee’s Chair Jason Smith (R-MO) outlined a 14% rate. Rep. Michael Lawler (R-NY)’s Endowment Accountability Act proposes 10%.

[iii] https://lawler.house.gov/news/documentsingle.aspx?DocumentID=3716

[iv] Rep. Troy E. Nehls (R-TX-22)’s Endowment Tax Fairness Act states its objectives as “The revenue derived from the amendment made by this section shall be deposited in the general fund of the Treasury and shall be used to reduce the national deficit, to the extent thereof, and thereafter to reduce the national debt.”

The NACUBO-Commonfund Study of Endowments FY24 average 1-year performance for all institutions is 11.2%, bringing the 10-year average return to 6.8%.

1. For the second year in a row, the biggest performance driver was the allocation to private equity and venture vs. public equities. Private equity returned 5.8%, and venture returned 1.7%, while the S&P 500 returned 24.6%, a spread of 19-23%.
2. High allocations to public equities, and in particular the “Magnificent 7” outperformed. Portfolios with more S&P 500-like investments (passive or US Large Cap active managers with low tracking error). Many active managers underperformed as they were underweight the Mag 7.
3. Real estate exposure continued to hurt larger endowments, which tend to have larger allocations. Private real estate returned -1.3%, as the industry continues to reconcile with higher interest rates and the reduction in office demand post-Covid.
4. Hedge funds continued to outperform fixed income and bonds. Diversifying Strategies such as hedge funds (+8.7%) continued to outperform both traditional fixed income as well as the broader investment grade bonds.
5. For the second year in a row, smaller endowments outperformed larger endowments, on average. Because private market allocation (private equity, venture, and real estate) tends to be positively correlated with endowment size, larger endowments with larger private allocations underperformed smaller endowments with lower private allocations and higher public allocations. The largest endowments returned 9.1%, while the smallest endowments returned 13.0%.

FY24 Asset Class Returns

Past performance is no guarantee of future results, and the opinions presented cannot be viewed as an indicator of future performance. There is no guarantee that any particular asset allocation or mix of strategies will meet your investment objectives.

These materials are provided for informational purposes only and constitute neither an offer to sell nor a solicitation of an offer to buy securities. These materials also do not constitute an offer or advertisement of TIFF’s investment advisory services or investment, legal or tax advice. Opinions expressed herein are those of TIFF and are not a recommendation to buy or sell any securities.

These materials may contain forward-looking statements relating to future events. In some cases, you can identify forward looking statements by terminology such as “may,” “will,” “should,” “expect,” “plan,” “intend,” “anticipate,” “believe,” “estimate,” “predict,” “potential,” or “continue,” the negative of such terms or other comparable terminology. Although TIFF believes the expectations reflected in the forward-looking statements are reasonable, future results cannot be guaranteed.

For nonprofit organizations, the endowment/foundation’s ultimate purpose is to support the organization and its activities, accomplished through the annual spend or withdrawal (“the spend”) from the endowment to be used as funds for the operating budget. The Spend Policy is the agreed formal policy that governs how much is taken from the endowment and how the amount will be calculated. The Spend Policy is not merely a procedural requirement but a cornerstone of effective endowment management. Beyond being a hallmark of good governance, it is imperative for stewards of capital to grasp the intricacies of the Spend Policy and its impact on the institution’s financial health and mission fulfillment. With over three decades of dedicated service to the nonprofit sector, TIFF stands ready to offer expert guidance and collaboration in the development and refinement of your Spend Policy, helping you to secure a sustainable and prosperous future for your organization.

This paper outlines the fundamentals of Spend Policy, equipping any Business Officer or Investment Committee member with the information to discuss and understand this important topic.

1. Spend Policy best practices
2. Various methodologies for calculating the spend
3. Industry level data on average spend rates
4. Operating budget implications

These points are brought to life through higher education industry data from NACUBO FY23 Study of Endowments and real case studies from Ivy League schools.

The materials are being provided for informational purposes only and constitute neither an offer to sell nor a solicitation of an offer to buy securities. These materials also do not constitute an offer or advertisement of TIFF’s investment advisory services or investment, legal or tax advice. Opinions expressed herein are those of TIFF and are not a recommendation to buy or sell any securities.

As Kane Brenan, TIFF’s CEO, reflects on his nearly five years with the firm, he takes pride in the advancements made in supporting TIFF’s clients’ organizational goals. While TIFF’s mission remains the same, there have been notable strides in strengthening the team, enhancing the investment program, offering more tailored advice, and more.

Read more about TIFF and our outlooks for the year ahead here.

The materials are being provided for informational purposes only and constitute neither an offer to sell nor a solicitation of an offer to buy securities. These materials also do not constitute investment, legal or tax advice. Opinions expressed herein are those of TIFF and are not a recommendation to buy or sell any securities.