The Incentive to Hold: Why Fund Managers Don't Always Benefit From Exiting Your Investment

In 2026, the average time it takes for a venture capital(VC) firm to fully return capital to its limited partners is 16-20 years. This is double of what we are used to seeing from VC, where typically raised funds are deployed over 3 to 5 years, and capital is returned to limited partners in 8-10. This dramatically longer timeline is due to market forces and a fee structure that hasn’t changed in decades, ultimately making it a better business decision for fund managers to hold. 

So what are these market forces? There are several, but the most influential has been the raising of the federal funds interest rate by the U.S. government in 2022. When interest rates are increased, safer assets such as bonds actually become a better investment, because the yield to risk ratio becomes favorable. To further deter LPs from investing in start-ups, high rates usually cause decreased valuations at initial public offering(IPO) or during funding rounds. For example, Instacart went public in 2023 valued at $10 billion, only a quarter of its peak value when it was private, as investors adjusted their tolerance for risk given the high interest rates. Decreased valuations mean VC fund managers make much less off a portfolio company IPO, and they have a harder time providing adequate returns to LPs who invested in the startup. 

The other market force fueling longer holding periods is a significant decrease in mergers and acquisitions(M&A). Once a reliable backup plan for a start-up to be acquired by ‘Big Tech’, the Federal Trade Commission’s(FTC’s) recent proactive antitrust approach has disrupted M&A. In 2023, only 1,738 venture backed start-ups were acquired globally, the lowest total since 2015. Not only has an increase in blocked or delayed tech deals suppressed deal-making, but decreased start-up valuations mentioned previously have made acquirers hold onto cash, waiting until company valuations are so low that a deal leans heavily in their favor. 

The two market forces described above have left VC fund managers hamstrung, with no good options available to turn their portfolio companies into strong returns. This has resulted in an “IPO freeze”. Following 2021’s record IPO revenues coming out of the COVID pandemic, 2022 saw exit revenues in the U.S. decrease by over 90%, only totaling $21 billion for the year. Similarly in Europe, IPO revenues decreased almost 80% in 2022, totaling $15 billion. This trend continued in 2023, and only showed a small rebound in 2024, with US revenues from IPOs totaling $36 billion and in Europe totaling $16 billion. In 2026, the IPO market still hasn’t bounced back to 2020 pandemic levels, and in many cases are only happening in two industries, artificial intelligence and biotech. This leaves many late stage start-ups stuck in long holding periods, wondering when liquidity will improve and valuation concerns will end. 

The dramatic effect these market forces have on venture capital is an unfortunate reality of the industry today. However, the VC fee structure gave fund managers incentive to hold long before these market forces emerged. Traditional VC fee structure includes a 2% management fee and a 20% carry fee(“carry”). Management fees are paid to the fund manager yearly to cover operating the fund. They can be paid on a straight-line basis over the life of the fund, or in a step-down method, for example the fee changing from 2% of committed capital to 2% of invested capital as time passes, lowering the annual fee for the investor. For reference, a $10M fund with a 2% fee yields $200K per year in revenue for the fund manager. 

A 20% “carry” applies after LPs are repaid their original investment, with fund managers receiving 20% of the fund profit after that, and LPs receiving 80%. Unfortunately, often the “carry hurdle” must first be fulfilled. This means the fund must exceed an agreed upon rate of return. If the rate is not achieved, the fund manager does not receive carry. This common fee structure greatly reduces the incentive of fund managers to sell their portfolio companies, and ultimately give limited partners their money back.

Clearly there are strong market forces and traditional VC business practices that are incentivizing fund managers to hold onto their portfolio companies. Unfortunately this is extending holding periods to double the timeline of what we’re used to seeing in the VC industry. Limited partners need to start considering other models, ones that don’t only benefit the fund managers. Ideally, one that focuses on sustainable company growth and cash flow, not dependent on an exit or M&A that may never happen. To learn more about how Tiger Venture Capital Management is combatting this flaw in the industry, visit tigervcfunds.com.