Analyzing the dynamics of seed and pre-seed valuations shows a complex environment that deviates from general market patterns. Valuations have gone down across the board, except at the seed stage. In 2023, the valuation metrics for these early stages showed strong resilience, with median pre-money valuations for pre-seed and seed rounds reaching $5.7 million and $12.0 million, respectively. Valuations are holding flat, or even exceeding, historical highs. Additionally, deal size has reached new highs in 2023, as depicted in the chart based on current Pitchbook data.
It's crucial to remember that raising a seed round is challenging, especially with valuations rising and market volatility. These observed valuations indicate a notable change in the caliber and preparation of companies that successfully secure funding. The investment landscape has become more challenging, requiring startups to demonstrate exceptional potential to secure funding. At LOVC, we’ve seen and participated in many seed extensions in 2023 for companies that would have fallen into the Series A fundraising stage in 2021. This shift is emphasized by a return to 2020 levels regarding deal counts despite the sustained high deal value; in sum, deal counts have declined.
In 2023, the pre-seed stage saw a significant shift with a considerable rise in the median equity founders sold, pointing to a realignment in investor-founder dynamics, potentially tipping the scales towards investors. This shift highlights the increasing demand from investors for larger stakes in their investments as they understand the higher level of risk involved in early-stage investments during uncertain market conditions. Although there may be some concerns regarding sample variability, it is essential to highlight the increasing investor leverage during negotiations as indicated by the deviation from historical norms. Founders should be cognizant of the evolving dynamics in early-stage funding, where the increase in median equity sold during pre-seed rounds in 2023 reflects a shift towards investors seeking more significant stakes. This trend towards higher equity requirements from investors may signal their desire for more substantial influence and control, underscoring the heightened due diligence and selectivity in the face of market uncertainties. Founders must be prepared for this shift, equipping themselves with a clear understanding of the long-term implications of giving up larger equity positions at such a critical stage of their company's growth.
The stability of pre-seed and seed valuations during the overall economic slowdown can be partially attributed to the relatively moderate increase in valuations for these stages leading up to 2021, in contrast to more established stages. The consistent valuation trajectory of early-stage ventures has made them highly attractive to investors seeking a balance between innovation potential and reasonable valuation expectations.
During pre-seed and seed stages, there is some resilience to the overall market slowdown. However, the current dynamics indicate that fundraising for startups is becoming more selective and difficult. LOVC identifies and supports exceptional startups and founders who build a long-term future of improved productivity with innovative solutions and the necessary operational expertise to thrive in a competitive and ever-changing market.
Founders should be prepared to offer more equity and different terms, reflecting a shift in investor expectations, which now favor larger, more protective equity stakes. This increased cost of capital means founders must be more strategic and prudent in their fundraising strategies and approaches, seeking partners who offer value beyond capital–such as strategic guidance, access to networks, and business development support. This is the time for investors to identify and engage with startups with strong potential that align with their investment thesis and risk appetite. This environment is particularly pronounced in the AI sector, where valuations are inflated relative to other sectors, emphasizing the need for founders to be discerning and seek partnerships that offer funding, strategic acumen, access to extensive networks, and substantial business development support.
For investors, the commitment to due diligence is critical; focusing on startups with robust potential that align with their investment thesis and risk appetite is essential. The elevated valuations are a testament to the quality and preparedness of these early-stage businesses. In the AI space, where valuations are inflated, it’s even more crucial to focus on fundamentals and long-term viability to ensure that today's investments don't become tomorrow's overvaluations. In this market, larger seed rounds are being done at higher values, but the bar for fundraising is also higher.
Founders should double down on capital efficiency to mitigate the increasing cost of capital. It’s about delivering quality, making every pitch and dollar count. For investors, the emphasis on due diligence is paramount, focusing on resilient startups poised to disrupt and redefine markets. Together, these approaches ensure that despite a higher equity stake, startups remain agile and investment retains its strategic edge.
