Early-stage Ownership is Getting More Expensive for Angels, VCs

Angel, seed, and early-stage venture capital investments are getting more and more expensive over the last 10 years. Investors write larger checks but don’t get more ownership at the same rate. Last Monday, Pitchbook released their 1H 2019 Valuation Report (data as of 06/30/2019). The report has interesting charts, such as:

Two charts from PitchBook's 1H 2019 Valuation Report: Range of angel & seed deal sizes ($M) and valuations ($M) [Source: PitchBook, as of 06/30/2019]
Two charts from PitchBook’s 1H 2019 Valuation Report: Range of angel & seed deal sizes ($M) and valuations ($M) [Source: PitchBook, as of 06/30/2019]

The report also comes with a large Excel workbook of data. So let’s dig into that data, and instead of looking at absolute numbers let’s do some relative assessment to see what changed.

100% increase of angel, seed, and early-stage VC deal sizes since 2012.

Last week, I wrote about more early-stage VC funds targeting fewer startups, specifically with the number of new US startups in information technology plateauing around 2012/2013. LPs often want to know the impact. While I have many anecdotes, here is some data:

Deal size increase from 2012 ("0%") to 06/30/2019 by venture capital stage; PitchBook uses "later" as in B/C/D stage deals [Source: PitchBook 1H 2019 Valuation Report, 08/19/2019]
Deal size increase from 2012 (“0%”) to 06/30/2019 by venture capital stage; PitchBook uses “later” as in B/C/D stage deals [Source: PitchBook 1H 2019 Valuation Report, 08/19/2019]
  • Angel, seed, and early-stage venture investors have increased 25th, median, and 75th percentile deal sizes by 100% or more compared to 2012.
  • B/C/D-stage venture investors have increased 25th, median, and 75th percentile deal sizes by a more modest 40% to 94% compared to 2012.

Bottom line: everyone is writing larger checks. By absolute numbers, the later-stage increase in deal size is massive. But relatively speaking, the increase is modest (while the actual increase was not a linear progression, the annualized increase over 6 years is only 8.22% for the Median deal size).

Comparison of early and later stage deal size increases since 2012 compared to a baseline of angel and seed investment deal sizes [Source: PitchBook 1H 2019 Valuation Report, 08/19/2019]
Comparison of early and later stage deal size increases since 2012 compared to a baseline of angel and seed investment deal sizes [Source: PitchBook 1H 2019 Valuation Report, 08/19/2019]

VCs did not gain ownership at the same rate.

Let’s look at the ownership percentages for the increased rounds sizes since 2012:

Relative gains (losses) of equity ownership at startups in angel, seed, early-stage, and later-stage venture deals since 2012 [Source: PitchBook 2H 2019 Valuation Report, 08/19/2019]

Some findings:

  • Median angel and seed venture deal size more than doubled (120%) since 2012, but investors did not double their ownership (+25%).
  • The 75th percentile of early-stage venture deal sizes more than doubled (112%) since 2012 to barely keep the same ownership (-3%).
  • The 75th percentile of later-stage venture deal sizes almost doubled (94%) since 2012, but investors actually lost ownership in these rounds (-10%).

Massive Impact on Venture Capital Firms

All this is a long-winded story and reminder that discipline is still king. Ownership and pricing right now need to match exit valuations and liquidity in seven to ten years from now (and not exit valuations and liquidity right now).

Median deal sizes for early-stage investors increased from $2.9 million in 2012 to $6.2 million in 2013. If you want to do 20 investments per fund, you need to raise $65+ million more just to do your initial investments. If you have a 1:2 reserve strategy — for every $$ initial investment you hold twice the amount for follow-ons — you need to raise an additional $130+ million. So about $200 million more capital. wow.

Median deal sizes for later venture investors increased from $7.2 million in 2012 to $11.5 million in 2018 but has come down to $10.0 million in 2019 so far. If you want to do 14 investments per later-stage fund in a concentrated portfolio with a 1:2 reserve strategy, you need to raise about $120 million more capital.

If you decide to invest in fewer companies, has the risk of failure at the stage you’re investing in dramatically changed? Or have you decided to let more companies die early and follow-on in fewer winners? Will these winners achieve significantly higher exit valuations than previous winners in your portfolios to make up for these losses? Can you pick winners at only one or two funding rounds later?

If you are a later-stage investor and your last deal sizes are in the $35 million range (the 75th percentile), but at 10% less ownership than 2012, how do you expect the exit environment is changing for these investments? Think about your portfolio of your 2012 vintage: Are your recent investments likely to get double the exit valuations than your investments in 2012? Is perhaps the spread higher (e.g. break-out companies of the 2018 investment vintage get 5x the exit valuations of break-out companies of the 2012 vintage)?

Have you developed relationships with later-stage firms or LPs to fill out your excess pro-rata? How fast can you set up special purpose vehicles? What are the economics of such vehicles? Are you and your LPs’ interests aligned? Or are your trying to rescue your investments with LP money? Is your GP commitment really $5 million of $50 million (=10%) or actually $5 million of $50 million +$200 million SPVs = $250 million (=2%)?

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