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Down rounds accounted for 7.5% of all funding rounds in the U.S. Q1 2023, 5.7% higher than Q1 2022, per Pitchbook's latest U.S. Valuations report. Startups that previously delayed their fundraising in hopes that the VC deployment and valuation would show a recovery will enter the market soon for fresh funds. Pitchbook called the current environment "the calm before the storm" as several startups will have to forego their previous inflated valuations and settle for down rounds. Based on the trend and the current macroeconomic conditions, the number of startups raising down rounds is expected to increase later in the year. Startups could tap into venture debt or achieve sufficient positive cash flow to weather the economic downturn. VC investments into startups are closely linked to exit options. Due to an exit options crunch — from frozen IPO markets and lesser-than-expected M&A transactions — Q1 2023 recorded only 20 exits, eight of which were IPOs. Investors expect the IPO market to open up later this year or the beginning of 2024. Several startups are lining up their IPO plans and hope to list as soon as investors demand returns. Due to the lack of exit options, non-traditional investors (NTI) have curbed their VC investments, further intensifying the VC investment pullback, resulting in down rounds for startups. The pullback is most visible across late-stage investments causing median late-stage pre-money valuations of VC deals with NTI participation to drop from $92.5M in 2022 to $75.5M in Q1 2023. Within NTIs, corporate VCs (CVC) have continued their earlier pace of investments, especially into early-stage startups, as they often invest due to strategic factors rather than financial returns. Hence, CVC deals are rarely affected by volatile market conditions.
Seed-stage startups have avoided valuation plunges as several investors have shifted their focus from late-stage investments to early stages. Pre-money valuations of seed-stage startups have defied the downturn, rising 16.9% QoQ and 28.6% YoY to $12.9M in Q1 2023. Despite the increase, VCs are only writing checks in startups with strong business fundamentals, long cash runways, and robust cash preservation strategies. Meanwhile, pre-money valuations of early-stage, late-stage, and growth-stage startups continued to slide. Pre-money valuations of early-stage startups reached $38.2M in Q1 2023, dropping 5.7% QoQ and 63.1% YoY. Pre-money valuations of late-stage startups fell to $55M, dropping 8.3% from the previous quarter. The capital-demand-to-supply ratio for late-stage startups widened to 3.24x, implying that there is demand for $3.24 by late-stage startups for every dollar available. The VC funding deal terms have tilted in favor of investors in Q1 2023, making it the most "investor-friendly" market in the past 10 years. Pitchbook anticipates that structured equity deals will strongly favor investors given the ongoing economic volatility. Data shows that there was an increase in the downside protections for investors. Additionally, investors are securing cumulative dividends for the past three quarters, giving them accrued dividend payments. In Q1, cumulative dividends accounted for 26.3% of all dividends, per Pitchbook. |
