By Meghan Hall
For some experts, the future health of the national commercial real estate industry is closely tied to levels of venture capital (VC) funding, as more funding has generally been associated with company growth and demand for real estate. A recent report has indicated that despite COVID-19 and its subsequent market correction, the amount of investment occurring through VC verticals is accelerating at a rapid pace, breaking records.
According to Garrick Brown, managing director of western region research for brokerage firm Newmark, the pandemic has only worked to build upon momentum that was beginning to build over the past several years.
“I would say that we were already seeing [venture capital funding] vastly accelerate going back the last few years, and that was really about the next wave of tech,” noted Brown. “But I think like so many other things, the pandemic accelerated it immensely. Our previous record year for venture capital funding for the U.S. as a whole which was 2019, 2020 blew those totals out of the water.”
The venture capital industry began to expand during the postwar era, but really saw most of its growth beginning during the tech boom of the 1990s. For many, Newmark explains, the tech industry is synonymous with private equity financing due to the sector’s high growth potential. Additionally, technology companies continued to thrive despite the pandemic, and venture capital funding far exceeded historical levels.
In 2019, venture capital funding in the United States came to $32.8 billion. In 2020, venture capital funding nearly tripled that amount, reaching $90 billion by the end of the year. That momentum has only intensified during the first half of 2021. In the first quarter alone, venture capital funding reached a historic $61.7 billion. Looking at 2021 as a total thus far, Brown emphasized that venture capital funding has already surpassed 2020’s total.
There are a number of reasons why venture funding investment has increased, explained Newmark. Investors continue to look for opportunities with the greatest chance of return, particularly when traditional methods fail to be as fruitful.
“I think one of the factors here is the stock market…At the bottom of the market last April, the global markets had lost over $6 trillion in wealth,” said Brown. “The market is rebounding, but one of the challenges is that its stock prices are pretty darn high, which means that if you’re going to buy, how much room for further growth is there? So people are pivoting to tech verticals…There’s a shift in the investment community [to where investors] will see their best chances of return.”
The rapidity with which funding has increased is particularly pronounced considering that the United States did not cross the billion dollar mark for venture capital funding until 2010. Between 2010 and 2015, venture capital funding only averaged about $360 million per year.
For Newmark, this framework could provide an economic scenario similar to the “Roaring 20s,” particularly in tech hub markets such as the Bay Area, San Diego and Seattle. Venture capital funding is “dominated” by these markets, notes Newmark. Between 2015 and 2019 the West Coast accounted for 44 percent of all funding. Since 2020, that share has increased to 52 percent.
The most dominant of these markets remains the Bay Area. Last year, 2,600 deals amounting to $40.7 billion was raised. During the first quarter of 2021, $20.7 billion was raised, encompassing 800 deals. Information technology firms raised the most, at $16.1 billion in 2020 and $10.2 billion during Q1 of 2021. Healthcare, including the life sciences sector, followed behind, seeing $8.5 billion in investment during 2020. B2B tech verticals raised an additional $3.3 billion.
Across the Bay Area market, nearly half of all funds raised during the first quarter of 2020 went to smaller companies. Organizations with less than 60 employees accounted for 30 percent of all funding, while firms with 61 to 150 employees garnered an additional 19 percent of investment.
Seattle also maintained its status as one of the most active venture capital markets in the country, closing 118 deals during the first quarter of 2021 for a total of $2 billion. An additional $2.5 billion was raised in 2020, and roughly 75 percent was later-stage funding. Information Technoogie players surpassed $883 million in new investment, while the business-to-consumer sector raised $645 million.
The Southern California Venture Capital market is also seeing major shifts. While typically San Diego’s biotech cluster has attracted the bulk of funding, Los Angeles’ growing “Silicon Beach” is beginning to change the game. Nearly $10.7 billion was raised across more than 1,000 deals during the course of 2020. Across the region, healthcare companies raised the most, earning $3.7 billion in investment during 2020 and $2 billion during the first quarter of 2021. The business-to-consumer and energy sectors raised $1.6 billion and $600 million in 2020, respectively.
Another growing market is Oregon. Oregon firms raised $612 million in venture capital funding across 137 deals in 2020. During Q1, an additional $372 million in funding entered the state, increasing the likelihood that the state will far surpass its 2020 totals. The vast majority of funding went to Oregon’s burgeoning tech sector: $260 million went to technology firms. Business-to-consumer organizations also raised $153 million over the last year.
The reason, stated Brown, that venture capital is so pivotal to the commercial real estate industry, is its important role in the creation of demand. While many believe that funding goes to initial research and development–which does occur–the majority of investment goes towards company growth.
“Employment is a big part [of growth], ramping up staff,” said Brown. “And you have to have a place to put them.”
More funding means that ability to expand a company’s workforce, translating to more real estate to accommodate employees. It also means faster recovery for those markets, believes Newmark. Because granular, specific data can be hard to come by, as recipient companies are often privately held, most can only estimate at the level of demand created by venture capital funding. Newmark estimates that in the Bay Area, for example, 880 square feet of demand is created for every $1 million raised. Newmark states that this ratio would account for just five percent of deal activity in the Bay Area, an estimate which it calls “conservative.”
Across the United States, Newmark estimates that of the $150 billion in funding raised the past five quarters, about 87.3 million square feet of demand would result. However, there are a number of factors, such as hybrid work models, square footage per employee, and decision timelines that can impact these estimations. Newmark believes, for example, that even if companies enact hybrid office/work from home models, more square footage may be allocated per employee, evening out demand considerations.
“We think that exchange will work out overall, on average, maybe a reduction of 10 to 15 percent,” said Brown. “It is tricky because it is certainly not one size fits all.”