Over the last decade, seed-stage funding has skyrocketed. Between 2006 and 2010, fewer than 3,200 companies received seed funding. A decade later, a staggering 23,000 start-ups received seed funding between 2010 and 2021, according to Crunchbase.
The rise in early-stage funding is being led by a diverse set of players from across the venture capital ecosystem. In 2021, within the span of three months, Andreessen Horowitz, Greylock and Khosla Ventures, three of the largest and most influential VC firms in the world, launched sizeable, dedicated seed funds.
With more investors looking to get in earlier, competition for deals has intensified. In the last decade alone, the average U.S. seed round ballooned from less than $1 million in 2014 to more than $3.6 million in 2023. This has led many VCs to pay more for a seat at the cap table. Now, as many startups are preparing to raise their next round of funding in a less-than-optimal market, they’re facing a unique challenge. Do they raise at a reduced valuation? Or, cut costs and try to increase runway?
In 2024, we expect to see a surplus of companies, fintechs in particular, go forward with raising a down round of funding. Fintechs are especially susceptible to down rounds for two reasons. First, many aren’t built to weather a broader change of macroeconomic conditions, causing them to burn through cash quicker than their counterparts in other sectors. Second, VC flows into the sector have plunged globally. S&P Global Market Intelligence reports venture funding in the space was down by 36% year over year to $6 billion in the third quarter of 2023.
These factors, among others, are going to breed an onslaught of down rounds – an event that some opinion leaders view as an absolute worst-case scenario. “A down round is such a catastrophic sign, it’s the worst possible thing that can happen outside of a tragic accident of some sort,” says Chris Hill, the host of Motley Fool Money.
For communicators, this can be challenging, but there are ways to navigate these announcements while keeping the company’s reputation intact.
Most critical, from an employee perspective, the raise at a reduced valuation will signal to the team that their share options are now underwater. The strike price, the amount they’ll pay to exercise their options when they vest, is now higher than the fair market value of the shares. This could lead team members to start looking for an exit.
Your job is to be as transparent as you can. Remind the team that valuation is similar to stock price in many ways. It fluctuates over time. The value of their shares today is not a reflection of how valuable their shares will be tomorrow. Explain how you intend to restructure for growth with the help of the new funds that have been raised.
Externally, before you ever find yourself in this position, remember that it’s a multi-round game. If you’re touting valuation early on, and it comes time to announce a raise at a lower valuation, you’re going to find yourself in a difficult position. Instead of leading with valuation when announcing the company’s seed or series A round, focus on the problem that the company is solving for, and why the solution you have brought to market is uniquely positioned to help.
There’s no doubt that down rounds aren’t great news, but they’re really not that bad. Companies and their communications teams need to remember that this period in the lifecycle of the business is only temporary. Any startup can regain its value over time, and many will.
Rosie Gillam, Executive Vice President, (rosie.gillam@edelmansmithfield.com)