Valuations have been top of mind for the entire venture industry this year as many VCs try to navigate their overvalued portfolios and founders scramble to conserve cash and grow into their lofty valuations.
So one might have predicted that valuations would fall off a cliff this year. But that hasn’t happened because venture investing just isn’t that simple.
First, let’s look at the numbers: According to PitchBook data, the median seed deal pre-money valuation in the United States was $10.5 million, up from $9 million last year. The median early-stage valuation through the third quarter of this year was $55 million, up from $44 million last year. The median late-stage valuation was $91 million, down from $100 million in 2021.
It might seem silly that valuations are continuing to climb for some stages — especially after investors made it seem like they were crazy for coming in at last year’s prices, and, of course, in some ways, it is — but it also makes a lot of sense.
Kyle Stanford, a senior venture capital analyst at PitchBook, told TechCrunch that for one, we can’t forget about those record levels of dry powder.
“There has been such growth over the past few years of the multistage investors or Andreessen [Horowitz] and Sequoia that have billion-dollar funds investing in early stage,” Stanford said. “The amount of capital that is still available for early stage is still really high and a lot of investors are still willing to put top dollars into deals.”
On the ground, multiple seed and Series A investors told me that there is some softening in valuations in the deals that are crossing their desks. But when you take into account that the number of early-stage deals has remained robust, it seems likely that quite a few outliers are contributing to that median.
This is also a direct tie between late-stage deals being down and early-stage valuations being on the rise, according to Angela Lee, a venture capital professor at Columbia Business School. That link is crossover investors.
Lee said data shows that venture deals that include a crossover investor are done at higher valuations than those that don’t. So as crossover investors have slowed their pace at the later stages and turned their focus to the early stage, they are helping drive up those increasing valuations.
Lee added that the higher valuations at the early stages are also likely due to which companies are raising those rounds. She said most companies raising this year — and actually getting the deals done — are doing so because they know they can raise on their terms.
“My understanding is that deal volume is going down and companies aren’t going out,” Lee said. “We are seeing that a lot — that only the strongest companies are going out to market.”
Thinking about the relationship between deals getting done and their valuations helps explain why late-stage valuations are down, too. While investors are willing to continue to pay top dollar for early-stage startups, they aren’t for companies that are actually approaching the time to exit.
Stanford said that he hasn’t seen a significant change in the amount of flat or down rounds so far this year, which, paired with the lower deal count, implies that many potential deals aren’t getting done with a lower valuation — they are just not closing.
“It’s been those crossover investors and that late stage that has disappeared; [the absence of] those outsized valuations or deals is bringing down the median,” Stanford said. “Deals are not necessarily getting revalued at a lower valuation, they are just not getting done.”
This dynamic sets up next year to be very interesting. If early-stage companies continue to get funded like 2021’s exit environment, and late-stage investors choose not to invest because of the exit environment, Stanford said the market could see the median early-stage valuations nearly reach late-stage numbers.
A backlog of companies investors don’t want to touch due to their valuations could emerge, as well.
Lee added that this will absolutely cause problems down the line because this is something that occurred following the last downturn. More than a decade ago, many early-stage investors continued business as usual in a choppy market and startups ended up seeing significant down rounds in 2010 once the cash ran out.
Due to the current record levels of dry powder, Lee said that while she predicts this will happen again, it will likely take a little more time to reach that distressed dynamic.
“If you look at what happened in 2010, half of all rounds that happened in 2010 are down rounds,” Lee said. “We are going to see that. It’s going to take longer than it did in 2010 — you didn’t have the dry powder you do now. At some point, if you just do the math, you can’t have inflated seed valuations and deflated late-stage valuations at the same point. There has to be a correction.”
The real question now is not if, but when?