The environment for early stage startup investing is very “challenging” right now because big exits are still rare, but Series A round valuations have grown larger and larger, according to Fred Wilson, one of the best known early stage investors in the world.
On his blog, Wilson highlights the chart below which comes from Mark Suster. It shows the number of exits over $100 million on an annual basis is relatively small. There are 1,000 early stage fundings annually, according to the NVCA, which means just 5%-10% are producing big exits.
“At at time when the average Series A round is now north of $20mm (based on very anecdotal evidence and not at all scientific), this poses challenges for the VC industry,” says Wilson.
Wilson simplifies the math to prove his point, but says assume a fund can get one company to exit at a $250 million valuation. If it invested in 20 companies at an average valuation of $20 million, then it has committed $400 million.
The one big exit isn’t going to provide enough of a return to cover the portfolio, which is how the VC business has traditionally worked.
So, either the VC model needs to evolve, or valuations need to come down.