Founder Fridays No. 76
Startup Funding Trends with Peter Walker, Head of Data Insights at Carta
Happy Friday.
If you’re considering raising funding in the next 6 months, you need to make the time to watch the conversation I had with Peter Walker, the Head of Data at Carta. His insights will give you the hard data you need to position yourself well.
I’m trying a different format today, I’m going to link to the video interview, then post a short excerpt of our conversation below which has been edited for grammar, clarity and brevity. I’d love to hear what you think about this format. Helpful? Not helpful?
Hope you enjoy! Please like the video and subscribe to my YouTube channel while you’re there as it helps other startups find this content. Thanks.
Was 2023 the worst year for startup funding in the last decade?
Kyle Westaway: I want to start with the headline question. Was 2023 the worst year for startup funding in the last decade? Some were predicting that. What was the final analysis?
Peter Walker: I think "worst" is maybe a slightly more nuanced term than it appears at first glance. If you look back to 2013, there was still a lot more capital being invested in startups than there was a decade ago, that's for sure.
PW: I do think, in terms of the change, however, 2023 was no fun for most startups. Across Carta, something like $65 billion was invested in startups last year, which is a pretty big number. But in comparison to the more than, call it, $220 billion invested in 2021, it's quite a drop-off. 2022 saw about $120 billion, so there's been a steady decline over the last two years.
Was 2023 the most fatal year for startups?
KW: Was 2023 the most fatal year for startups?
PW: Unfortunately, yes. More startups across Carta shut down this year than we had seen in our history. Of course, there are more startups on Carta now than there have ever been. So, there is some natural growth rate there that you'd expect, but the rate was about twice as high as we saw in 2022. You would expect the percentage of companies shutting down to decline as they go through the funding rounds since it should be less likely that a Series C company fails than a pre-seed company, due to the de-risking that should have occurred. We see that trend across our data, but this year even startups that had raised $10 million or more in venture funding were going out of business at higher rates than in prior years, more than double from 2022. So, having raised capital doesn't completely insulate you from facing this kind of downturn.
KW: And I do wonder if the challenge for those startups that raised $10 million or more was that they raised in a world where VCs were telling companies to spend, spend, spend to grow as much as you can. Then they had to pivot away from that to being more frugal, which was just not really doable for them.
PW: I think you hit the nail on the head. It's much easier to have grown up in one environment or the other. The switch from super low interest rates—where money is cheap—to high interest rates, where capital efficiency is more important, is very difficult.
PW: In a strange way, right now is a better time to start a company than it is to have to grow one quickly. If founders are launching a company in 2024, they're in a difficult moment, no doubt. But they're aware of the difficulty. They understand that they're going to need to be capital efficient. They're probably thinking about using AI to cut down on internal costs. They're just growing up in an environment that prioritizes that sort of thinking.
Was 2023 the year of the down round?
KW: So, was 2023 the year of the down round?
PW: I would say yes, it was probably more the year of the down round than anything else. About 20% of the rounds we saw on Carta last year were down rounds, meaning companies were raising at a lower valuation than in their prior round. To put it in perspective, historically, about 9% to 10% of rounds are usually down rounds, so it's a significant increase, the highest we've seen consistently in many years.
Was 2023 the year of the bridge round?
KW: Was it the year of the bridge round?
PW: Yes, bridge rounds—defined in our terms as any round in the same named series, like a Series A plus or Series A extension, typically led by insiders already on the cap table—were super common last year, far more common than usual. About 40% of all the Series A rounds on Carta last year were bridge rounds, indicating that investors are spending a lot of time with their current portfolio companies rather than making new bets.
What stages of funding were the most challenging?
KW: What stage of funding was the most challenging in 2023, and which was the most active?
PW: Seed and Series A were far more active than later stages. The place that got hit the hardest is the companies closest to IPO. Their valuations have fallen quickly, basically alongside the amount of funding that goes into those rounds. It's sort of a waiting game now; it's going to be tough for the late part of the market to recover fully if there are no IPOs. it allows for price discovery at the late stage in a way that's just not possible right now.
What were the trends for valuation and capital raised?
KW: Were there any trends that you saw in 2023 as far as round size and valuation?
PW: So, in general, it kind of feels a little sclerotic, I'm sure, for a lot of founders because round sizes and valuations at the early part of the market are actually very robust. You know, seed valuations are pretty close to where they were in 2021. Series A valuations may be a little further off, but not by far.
And round size, there's a honestly, a floor underneath seed rounds, under which it's really difficult to fall, not necessarily because the companies are higher quality. It's just about fund economics. If a fund is a pretty decent sized seed fund, and they have to own 20% of the company in the seed round in order for their fund make sense mathematically, that implies evaluation that cannot really go below $10 to $12 million.
KW: Unless they're cutting tiny checks. Yeah.
PW: Right. But there are so many seed funds now that have hundreds of millions of dollars. You can't deploy tiny checks with $100 million fund in a seed round, it just doesn't make sense. There's not enough companies in the world to make that happen. So I think that the seed round robustness actually has more to do with fund economics than it does with intrinsic value of these companies.
This creates some difficulty. Over time, you basically need late-stage valuations to pop back up. And a lot of people are betting on, look, if I'm investing in a seed stage company, they're not raising late-stage capital until six, seven years from now. Who knows what the world's going to be like?
KW: Yeah, it'll be interesting to see how this like cohort of Seed stage companies progress in the next five years and how that compares against a cohort of startups that were raising two years ahead of them.
PW: Yeah, for sure.
Are startups waiting longer to raise?
KW: Are startups waiting longer to raise? Are they trying to extend runway? What's happening as far as timing between rounds?
PW: Certainly, we're hearing all sorts of ways to extend runway, the most common and unfortunate of those being layoffs, which we all kind of, that's the most dramatic impact to the runway that a company can have usually. But cutting in software spend, being a lot more capital conscious, I think is true across startups.
There's more time between primary rounds for sure. That's sort of steadily risen since the start of 2021 or so.
KW: And what is an average amount of time between a seed and an A right now, for instance?
The average amount of time is about like 2.25 years or so, so like two and a quarter. But that's the average. The 75th percentile is much, much higher than that.
But as we just went over, a lot of companies are trying to raise a bridge, trying to raise an extension, adding convertible notes or safes even in between price rounds. There's a lot of creative financing going on. Kind of remains to be seen to me whether or not that creative financing ends up being a burden on them later on if they've given up too much equity in that way. But better to stay alive than to go under, I guess.
Did deal terms become more VC-friendly?
KW: 2023 has been more VC friendly. And I'm wondering if that played out in terms like liquidation preferences. Were there any terms that moved more VC friendly than company friendly?
PW: I'd say there were very few terms that on the aggregate didn't move at least a little bit towards VCs if you're thinking about the power structure here. So, the ones, I think the biggest two that we track closely are liquidation preferences. So, anything over a 1X liquidation preference is pretty high. And then participating preferred stock, whether or not the investor effectively gets to double dip on any exits. Both of those are more common than they used to be.
It's not as though those are in 50% of deals. High liquidation preferences, you're talking about 6 to 7% of deals in 2023, participating preferred, maybe 8 to 10%, but it's still a minority. And I think the reasoning behind that isn't necessarily that the founders have any negotiating leverage or very much of it.
It's just that instead of doing a deal with a high liquidation preference, the deal in 2023 was just more likely not to happen at all.
Founder FAQ: How do you split up founders’ equity?
There’s no way around it; splitting up equity between founders is hard. At best, you’re making educated guesses. Nobody can predict exactly who will provide what value to the company or whether past performance will translate into future performance in this particular startup venture. In addition to that uncertainty, you are also dealing with the ego and anxiety of founders on the brink of making a big life decision. This article will help give you some guidance to inform the discussion between founders. There is no set formula. Ultimately, the best outcome is when founders mutually agree on a split that makes everybody feel valued, respected and motivated. Westaway (6 minutes)
Startup Funding Guides
I’ve put together a series of guides to equip founders to excel at fundraising. These guides break down the deal term-by-term and give you negotiation tips so that you can speak to investors with confidence.
Convertible Note: Guide / Video
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Post of the Week
Looking forward to checking out the video. Do you plan to post to any podcast platforms?