When the pandemic-induced lockdowns began to spread in March 2020, partners at some venture capital firms worried about a late correction. Instead, the reverse happened and the pandemic pushed the market into one of the strongest bull runs on record. Now, amid a geopolitical crisis and a bearish stock market, some industry players say the climate of overheated venture capital is finally starting to calm down.
Investors say Forbes this late-stage deal activity – which set records for both deal count and investment volume in 2021 – has slowed significantly in recent weeks. They say the crossover investors who helped pick up the breakneck pace in 2021 may have abused the latter stages. The broader venture capital ecosystem is realizing that the inflated prices they were willing to buy to get into the hottest deals of 2021 were inflated, these investors say. And while the change has so far had the biggest impact in the late stage, the pushback is also trickling down to Series A startups, they say.
A return to fundamentals is evident at board meetings, says Loren Straub, general partner of B2B seed-focused Bowery Capital. The meetings she attends place a new emphasis on hitting financial metrics before going out to raise towers, she says. While that may delay some founders from increasing the timeline they concocted last year, putting more emphasis on profitability isn’t exactly a bad thing either, Straub says.
“To what extent can we back it up with figures and data that we have adapted to the product market? All of those things that can signal and reduce a company’s risk become all the more critical,” says Straub. She says companies looking to boost their Series A can still get good multiples now too. But instead of the 70x-80x that was common in 2021, they’re back to normal: 10x-20x. She adds that she knows of three startups looking to raise Series B rounds right now that are targeting lower multiples than their Series A rounds despite solid growth and increased traction since their last raise.
Recent data from Crunchbase shows that global funding is down. Startups raised $10 billion less in February than in January, the first such drop in years. Late-stage funding fell 19%, from $41 billion to $33.2 billion, and more isolated seed funding also fell 17%, from $18.4 billion to 15, $3 billion. But these figures are compared to records. Even down $10 billion, February 2022 still topped February 2021 by 24%.
Valuations have also started to fall. Philadelphia-based Dbt Labs, which creates an open-source data analytics tool, raised $222 million at a valuation of $4.2 billion in February. Although a big valuation boost of the $1.4 billion the startup raised in June 2021, it’s less than the $6.2 billion the company was originally seeking, as Forbes reported at the time. (Co-founder and CEO Tristan Handy said Forbes that the company could still have raised $6.2 billion if it wanted to, but instead chose to raise at a lower valuation to protect employee stock options.)
As funding and valuations trend lower, investors say there’s no reason to panic and it could be a much-needed respite. “It takes a while for founders, boards and employees to adjust to what they think they’re worth,” said Eric Paley, partner at Founder Collective. Forbes. “It was probably the biggest multiple expansion in tech in recent years. It’s hard to distract people from those expectations.
Mark Goldberg, a partner at Index Ventures, says part of the pullback is due to fund logistics. Many companies picked up their pace last year to keep up with the speed of the market, but that doesn’t change the investment periods set for their funds or the amount of investments they announced to LPs they would make. They might pull out just to balance, he says.
Paley says the market should take advantage of the quiet period. He describes the past two years as the market being on its toes, leaning into the stories and dreams of the entrepreneurial presentations they hear. He didn’t land on his heels, he said, but rather on his tiptoes.
“It would be reasonable to say that even though the public market is down, it’s still relatively aggressive relative to historical multiples,” Paley said. “It is more in line with historical multiples. It’s not even up to the historical standard.
Both Paley and Goldberg say that leaving last year’s environment that prompted founders to constantly raise funds as funds knocked on their doors is actually a good thing. Paley called constant fundraising “ineffective entrepreneurship” and Goldberg says that not having that pressure to raise constantly means founders will be able to really focus on building their businesses.
But all three agree, good companies will still be able to grow this year with little to no problems if the trend continues as it is. US-based venture capital funds alone raised $128 billion last year and have a lot of ground to roll. It will simply depend much more on the economics of the business than on a company’s growth story in 2021.
“I think for the top 5% or 10% of companies, nothing changes from last year,” Goldberg says. “If you are an exceptional company, you are unaffected by macro conditions.”