First Stage Investor

Why We’re Looking for More Series A Startup Investments

Why We’re Looking for More Series A Startup Investments
By Andy Gordon
Date September 16, 2019

Right now we have 14 Series A companies in our First Stage Investor portfolio. You can expect us to increase the number of Series A companies we recommend compared with seed companies… for a number of reasons. The quality of deal flow we see for this round is getting better all the time. What’s more, we like being able to assess a startup over a longer period of time so we can see more traction, more metrics and more information than is typically available at a seed round.

And the one thing we’re keeping an eye on is escalating valuations. It’s affecting later-stage companies much more than earlier-stage companies. And it’s more evident with venture-backed companies than crowdfunded ones. But I am seeing some evidence of price inflation in crowdfunding.

For example, a startup I looked at last Friday was doing a $10 million Series A raise at a $25 million valuation. I like the company, despite it being pre-revenue. It has lined up two very large users as its first customers. They’ll begin to generate millions of dollars of revenue for the startup within months, the company says. But I’m convinced that last year the company would have fetched around a $22 million valuation. And two years ago, it would have had a $20 million valuation.

A startup going from $20 million to $25 million doesn’t make me happy. But I keep in mind something I recently wrote: “A $500 million exit is the new $300 million exit.”

In other words, a 25% increase in valuation now turns into a nearly 70% increase in valuation when the company exits.

Nothing wrong with that. But it could be a lot more.

Thank goodness I haven’t even sniffed some of the sky-high Series A prices that have visited the venture capital (VC) world. Here are a few of the biggest ones that have taken place so far this year: South Korean cryptocurrency exchange platform Bithumb’s $200 million funding, fintech startup Checkout’s $230 million financing, biotech Century Therapeutics’ $250 million Series A raise and JD Health’s massive $1 billion Series A.

Using the 5X to 10X multiple of fundraise amount to valuation, all these companies have reached unicorn status… at Series A! And JD Health has perhaps reached decacorn status. Wow.

We can blame this excessive price inflation in part on the huge amounts of VC available. Making matters worse is that these supersized funds tend to go after the same handful of standout startups. The result? In their first institutional round – the Series A round – these startups clean up.

The price inflation I’ve noticed in the crowdfunding world comes nowhere close to that. Nor do I think that will change.

While more investors are visiting the portals where these crowdfunding companies go to raise funds, the increase has been slow and steady. And the portals have been keeping up with demand by offering more raises. The relationship between supply and demand has been pretty stable.

Nor do you have an equivalent of an investing whale like SoftBank in crowdfunding. SoftBank writes hundred-million-dollar checks to startups. And to compete, other VC companies have started megafunds.

By definition, crowdfunding directs capital through hundreds or thousands of small checks from individuals drawn to the crowdfunding space for its affordability. If you can afford to write bigger checks – say, $25,000 as opposed to $250 – you’re investing on the angel sites or offline, not on the crowdfunding sites.

So why have prices crept up for crowdfunding Series A companies? Some of it is the imprecise definition of what constitutes a Series A round. It might be a startup’s first post-seed round, or it might be its second or third, following a post-seed round, or a bridge round, or a previous Series A round. You have to do a little sleuthing to know exactly what a company’s Series A means and what an appropriate valuation should be.

Because price still matters.

And as we’ve seen in the VC world, prices can get skewed. The worst thing that can happen is that founders see what some Series A raises are going for and get greedy. The highest Series A valuation we have in our portfolio is StartEngine’s $65 million. And that was an outstanding investment opportunity. (It’s raising again on its own portal.) Its current valuation is $119 million.

There’s no cause for consternation in the crowdfunding world. Series A companies give great value for your buck. Which is why we’ll be giving them even greater attention in the months ahead.

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