What founders learn from answering the valuation question
Last week we made a special offer to founders. To help answer the question, 'What is my startup worth?' we opened up our investment research capability to provide a free, no obligation, peer group valuation trend analysis. This is for companies looking to raise capital at Seed or Series A in 2024. The requests have been rolling in and we have started providing these analyses to eager founders. It's early days but this initiative has already provided some important insights.
Firstly, it seems that our core assumption going in was right on the money: For boards looking to green-light funding campaigns for 2024, valuation is a big point of anxiety. Valuation instability in private markets over recent quarters has frustrated attempts for many to settle on a clear funding strategy. Existing shareholders have never been so uncertain about the next funding round (and the value of their holding). And this anxiety is being further heightened by a number of misconceptions still floating about regarding investment criteria, down rounds and deal sizes.
Navigation. Our mission through this campaign is to help founders navigate these topics - to clear the way for 2024 funding strategies to be finalised with greater confidence. The peer group valuation trend analysis is a powerful starting point. Here we begin by creating a universe of comparator companies using our research datasets. In its simplest form this might be, for example, 'all B2B SaaS companies that have undertaken funding at Series A'. We then add in a range of further 'filters', for example, relevant markets (industries , verticals), business models, and geographies, to gradually converge on a relevant peer group cohort that we can investigate more deeply.
Valuation dispersions. Building a peer group universe in this way allows founders to zoom in or out using different degrees of 'relevance', to interrogate valuation trends, deal sizes, and deal activity at the most appropriate level. One of the most interesting aspects for founders has been the 'valuation dispersion' data. For any given peer group cohort, seeing the distribution of deal valuation data by quartile highlights the spread between the lowest and highest valuations in a particular time period. Digging into the companies that appear in the upper/top quartiles can help founders better understand the hottest investment themes and why certain propositions might be playing well with investors (and some not so well).
Types of investor. Beyond the valuation trends, the cohort data can then be pivoted to reveal 2 other key insights. First, the specific funding pathways that similar companies have chosen. For example, what were their funding steps from pre-Seed to Series A? Second, discovering which investors are the most active. Founders can then investigate the different types of investor involved. For example, this might not be a sector or stage where VCs play much but where say corporates, family offices, or PE firms are very active. This is the starting point for creating an investor target list. Further refinement can then produce a shortlist of highly-matched candidates, which can then be populated with individual investor partner names, contact details, and detailed investment biographies.
Misconceptions. In January we will reflect more fully on this initiative but in the meantime here are the 3 biggest misconceptions we have encountered so far. All have been refuted by the analyses undertaken.
1. "Valuations are still depressed"
We need to look at this by stage and by quarter to see what is really happening. Sectors also have a big impact and must be specified when developing a specific funding strategy, but in the aggregate across Europe:
Pre-Seed median valuations hit a high in 2Q22, then dipped from 3Q22 to 1Q23 but have trended up strongly since. They are now at an all time high.
Seed median valuations hit a high in 3Q22 but again, after a shallow dip, have trended up strongly again in the past 2 quarters. Competition for the best deals is intense and some investors are saying the Seed market still 'feels overheated'.
Early stage (primarily Series A and B) hit a high in 2Q22 and took longer to bottom out (1Q23) and there are still quarter to quarter fluctuations as the market finds its new path. Series A valuations, now tracking above 2021 levels, seem to be the most highly dependent on sector and the commercial momentum being created.
2. "There is now a much bigger chance of a down round"
This all depends on your reference point. Through 2021 and 2022 the percentage of investments across Europe that were down rounds hit all time lows (17% and 15% respectively, according to Pitchbook). In 2023 to date the figure has increased to 21%. But this is really just a reversion to the long-term mean: The average percentage of down rounds over the 8-year period 2013 to 2020 was 21%. Looking at recent quarters there are some signs that down rounds might be levelling off.
Often the challenge with monitoring down rounds is one of disclosure. Companies and their investors are always more reticent to announce down rounds, so it will likely take a few more quarters to get a more solid fix on the underlying trend.
3. "Deal sizes are under pressure as VCs step back"
Recent industry chatter on deal sizes has caused a great deal of uncertainty, especially for those in the Seed to Series A transition. But this seems to be noise permeating down from later-stage rounds. This is what we have found so far, again in the aggregate:
Pre-Seed deal sizes continue their upward trend and are now at an all time high (Median of €0.8M in 3Q23, per Pitchbook).
Seed deal sizes, after a dipping from their high in 3Q22, continue on a new upward trend and are also at all time high (Median of €2.0M in 3Q23).
Early stage deal sizes, after plateauing over recent quarters, are on a clear upward trend hitting all time highs in 3Q23. Series A deal sizes seem to have almost retuned to their peak.
So whilst VCs may be stepping back on the overall number of cheques they are writing, they are handing out bigger lumps of cash than ever before at healthy valuations across these formative stages. Dry powder still stands at record levels.
Understanding the full picture. We all know it's harder to get funded in 2023, so how do we rationalise the insights above? We need to look at 2 further datapoints: Overall capital deployed and the number of deals being transacted. First, in terms of actual capital deployed across Europe, this collapsed from €23.4B in 4Q22 to €12.9B in 1Q23, according to Pitchbook. This dramatic fall sent shockwaves across the entire venture ecosystem.
But since then capital deployment has headed firmly north again. 2Q23 recorded €14.9B and then hit €15.8B in 3Q23, well in excess of pre-pandemic levels. The projected volume of total investment in 2023 is expected by some analysts to equal less than half the investment seen in the peak year of 2021 (although still around 18% above 2020 figures). While the decline from the peak in 2021 is significant, it looks like 2023 is still on track to be the third-largest year on record by total capital invested.
Even so, despite this gradual resurgence in capital deployment over the past 2 quarters, fewer deals are being done. At the present rate we are running at deal levels last seen back in 2018. Deal count is clearly now the crux of the matter. Bottom line: The bar has risen across the board on investment criteria. But as we have seen, if you can get a deal over the line the likelihood is you will be rewarded on deal size and valuation, especially at Pre-Seed and Seed.
Optimising for valuation. This matters more than ever because if you optimise for valuation you will automatically increase the chances of funding success. By starting with a peer group valuation analysis, the insights gained will help inform the funding strategy as we are now confirming. And by digging into the peer group data over recent quarters to understand the shape of deals that investors are now backing, founders should be able to better optimise their investment propositions for 2024.
Valuation trend analysis offer remains open
As we describe above, Duet announced last week that is was making available its extensive investment research capability to provide a free, no obligation, peer group valuation trend analysis for companies looking to raise capital at Seed or Series A in 2024.
Our aim is to provide founders with the very latest market data, customised for their specific sector and funding stage. This is the hard evidence that boards seek but is often so difficult to obtain.
Founders interested in receiving this customised market trend data should contact John Hall at john.hall@duetpartners.com.
(Offer closes 31/12/23).
Happy reading!
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