More Money, More Decisions
I’m going to say something most investors & founders already know: round sizes for early-stage startup financings are up a lot in a short period of time. Here’s a snapshot from Crunchbase:
The TLDR is that Series A rounds have increased 50% over the past two years. The trend holds for seed rounds. We see this magnified in a few of Acrew’s largest areas of focus: e.g., fintech, anything remotely touching Web 3.0, and cybersecurity. In particularly hot sectors, I am regularly seeing Series As that are $30–40M. The teams aren’t any bigger than they used to be at this stage and the metrics aren’t any different.
More capital leads to a larger universe of possibilities as to what to do with the cash. And that means that someone has to be making these expanded set of decisions. Which leads me to two observations:
(1) Venture capitalists are ceding their roles as capital allocators
(2) Founders need to become more adept at capital allocation sooner
Let me start with a statement that I hope you agree with: there’s a limit to how fast companies can spend money on operations and marketing (please don’t take this as a challenge). Hiring takes time, most marketing channels aren’t infinitely scalable, and…who is even upsizing real estate expenditure right now?
(1) Venture capitalists are partly paid by their LPs to engage in helping early stage companies make the right trade-offs. Founders run their companies, full stop. But when round sizes are smaller, there is relative capital scarcity. Capital scarcity forces trade-offs. Venture board members & investors are actively engaged in investment decision (here I mean investment decisions the company/CEO is making).
But with capital abundance and when capital is cheap, the threshold for what bubbles up to the board/investors rises. Decisions that would have been historically more closely debated or monitored often go undiscussed. And I’m going to posit that complacency sets in among investors when a company is well capitalized.
I believe venture capitalists should consider themselves part of the extended team of the companies in which they invest and partner. After a successful fundraise, founders are focused on building and hiring. And if investors don’t actively engage in advising on capital allocation and looking ahead to a successive fundraise, founders have to take on this mantle solo. And then it’s just one more thing for founders to do. Mo money, mo problems, as they say.
(2) For early stage founders, focus, focus, focus has been the mantra in Silicon Valley. So what do you do when you have more money?
Do you spend it faster?
- If so, what additional areas should you spend that money on?
- Does extension into these areas put the company’s focus in jeopardy?
Do you sit on it? Rainy day fund? Longer runway?
- What is the psychological impact on the team of having significant cash?
- How closely are you monitoring whether you should speed up or slow down the rate of expenditure?
- Can you get a yield on the cash? It’s a bonanza for SVB, but it’s got to hurt to sit on $50M at no yield?
Do you invest it?
- How do investments tie to strategy?
- Who decides on where to invest?
- Who manages those investments?
- You competing with your own investors now ;), though? (cough, cough Stripe over the past several years)
- Should you buy other companies?
It’s likely the answer is some combination of the above. Capital is a necessary, but not sufficient condition. It can only go so far in terms of shortcutting business maturity and managing growing pains. Company building is hard and it’s a good time to raise money if you’re a founder. However, with these larger rounds comes an imperative to think strategically about how you want to spend the money. Finance and strategy roles are typically overlooked for early stage start-ups, but I would make the case that they are critical additions to the team if you have $20, 30, 40M on your balance sheet.
One More Thought
If financing rounds are increasingly blurring together. And round sizes keep getting larger. Then the industry needs a new way to think about benchmarking companies and celebrating success. Company building is really hard and fundraising is one important piece of the puzzle. As a daily ritual, I read the fundraising rags and newsletters. They are laser focused on dollars raised and investors added.
But revenue and user growth + retention, customer satisfaction, employee satisfaction + retention, and contribution to the world should all be part of the conversation, among so many other things.
Open Items [Questions / Areas for More Exploration]
*It would be interesting to see the % of Series As where no board seat is taken by the investors. That would bolster the idea that VCs are ceding not only a role in capital allocation, but also governance
*Funds typically reserve capital for their investments. If initial round sizes and the accompanying check sizes are larger for funds, how does this impact reserve ratios? This has an implication for the way VCs think about capital allocation. We have our internal perspective, but if I told you…
*Topical and timely: [a] leave the whipsawing stock market aside and how a continued sell off of growth tech stocks might potentially impact private markets, [b] suspend your curiosity as to why these round sizes have gotten bigger, that’s a topic for another day