Mark Suster surprised me last week with this article about the decline of Seed Investing…

Mark Suster, the MD of Upfront Ventures (and blogger at Both Sides, one of my favorite VC blogs) wrote a really interesting article last week about the state of Seed. The title would certain capture anyone’s attention, “Why has seed investing declined? And what does this mean for the future?”

I have to admit, I was pretty shocked when I saw this since lately, all I’ve been hearing about is how Seed rounds are growing in size, more investors are jumping into Seed, and more companies are raising seed rounds than ever before. 

So here I am feeling wonderful about the state of Seed, then Mark comes in and rains on my parade.

“Seed investments are down by any measure (funds, deals, dollars) over the past 3 years in deals < $1 million AND in deals between $1–5 million. What gives?”

(Source – Both Sides)

What!?

Well, it turns out, ever year Mark and another VC from Upfront Ventures, Chang Xu, get together every year and do a deep dive into VC data. This year they uncovered that financing for “Traditional VC” is pretty much flat over the last five years, but the Venture Industry as a whole grew massively mostly thanks to big tech company IPOs.

The trend that jumped out at them the most though is a major decline in seed financing over the last three years. 

So why did this happen? Luckily, Mark spent the rest of the post trying to explain why we’re seeing this decline. I’m no Mark Suster but I’ll do my best to break it down for you in a short, digestible, 3-minute overview:

  • First – how did the Seed Market start? Between 1999 – 2005 the cost of starting a technology startup went down by 90%, from 2005 – 2010 it went down by another 90%. With lower startup costs, VCs were able to invest less money and create the Seed round that we know and love today
  • With the Seed market in full swing, investors started raising their second and third funds and realized a few things about Seed deals, mainly that they wanted a bigger piece of the pie, which means writing bigger checks
  • As the Seed market matured, median deal size went, as we all like to say, “up and to the right” as you can see from this handy chart:
  • You might think this increase in deal size is because valuations went up, but the reality is, it’s really because as Seed funds matured they started to realize more and more the importance in ownership rights when it comes to driving returns
  • Everything was going great until 2015…then things started to change. Here’s another handy chart compliments of Upfront:
  • Mark notes that this decline isn’t due to an overall decline in Venture Capital, late stage deals actually grew by 60% so this really has been a Seed-specific decline 
  • So now let’s cut to the chase…why has Seed declined? Mark says that one of the following factors would need to hold: Series A and B investing would need to be up, Seed deals would need to scale without needing more capital, or Seed deals would need to bypass A and B rounds and go right to a growth round or IPO. None of this has held true.
  • More and more Seed deals now can’t get to A which means Seed Extensions have been growing like crazy:

And when seed deals have no where to go you end up with “seed extensions” where seed funds and angels are buying an extra 6–12 months of runway to try and reach a phase that can attract traditional venture. You can see this trend in the excellent data from Cendana below where the number of seed extension rounds has gone up dramatically in their portfolio and the time from seed to A has extended. This data seems pretty consistent with what we’ve seen across the industry.

(Source – Both Sides)

The good news here is that Seed investing is still going strong, it’s not going away, and Seed stage startups as solidified as a stage that will be here for a long time. We are seeing a bit of a cooling off, and that’s probably okay, so don’t panic, just keep on keeping on. 

If you want to see Mark’s deck that goes through this and a lot more information, you can check it out on Slideshare using this link: download the full deck it is here

HUGE thanks to Mark and Chang for putting all of this together, it was a super interesting read and I hope I’ve done it justice trying to condense it down for my readers.

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