On August 10, 2023, Procopio hosted a panel of VCs to share the state of startup funding.
Panelists:
- Karen Roter Davis, Managing Partner, Entrada Ventures
- Schwark Satyavolu, General Partner, Trinity Ventures
- Ekta Dang, CEO and Founder, U First Capital
- Sabrina Paseman, General Partner, Omni Venture Labs
- Evangelos Simoudis, Founder and Managing Director, Synapse Partners
- Moderator: Roger Rappoport, Partner, Procopio
Summing up the current state:
Evangelos Simoudis, Founder and Managing Director, Synapse Partners, “A little bit of sanity is returning. In all these years that I’ve been a VC, I’ve never seen such a long, uninterrupted period of growth. Since April 22, we have seen a slow down. We don’t see a lot of exits. In spite of the economy appearing to be quite healthy and stable, both in early stage and BC rounds. there’s a noticeable slowdown right now.”
Schwark Satyavolu, General Partner, Trinity Ventures, added, “We’ve gone from insane to frozen.”
Ekta Dang, CEO and Founder of U First Capital, provided some data:
- Angel and seed activity declined to 34%,
- 62.8% of all the funds raised went to funds that were over 500 million, which means that money is flowing into the larger legacy rainmakers as opposed to relatively new fund managers who look for new and innovative deals and are feeding the seed stage of the ecosystem.
With limited IPOs, there is a lack of liquidity, both on the VC side and the LP side, that was feeding the VCs.
Karen Roter Davis, Managing Partner, Entrada Ventures, shares another trend we are seeing. Companies like Lyft, Uber, and DoorDash now need to look at the economics and understand how to build healthy growth going forward. Now that they don’t have VC subsidized their growth, they must figure out how to build healthy, sustainable businesses. “When you look at the valuations, the math doesn’t work,” said Karen Roter Davis.
What’s Hot?
Q: What are areas of high investment now and into the near future?
- AI – We have a lot of data that we need to figure out how to leverage
industrial and manufacturing - Biotech
- Developer infrastructure
- Infrastructure for AI
- Selective FinTech
- SMB SaaS – SMBs need to modernize because the consumer expectations are changed
- Cybersecurity
- LLM and multivariate problems in LLM
- Rethink processes – (workflow analysis)
- Creating value for the buyer – the money it saves them, the time it saves them, the revenue it makes them
- Manage data (security, extracting insights)
Q: Can you discuss your approach to identifying and evaluating potential investment opportunities?
Schwark Satyavolu, answered “Trinity Ventures funds at the seed level, I think the bet is primarily on the team and maybe product focus. We are betting on, “Is this team going to be able to navigate between whatever they’re doing right now to what it’ll take to go public? Do they have the hunger or the drive to actually do what it takes?”
Seconding Schwark’s comments, Karen Rotor Davis added that startups don’t have to see unit economics. Still, VCs want to see that startups understand the business side, not just the technology. The ideal startup team strikes a balance between steadfast confidence in their product and a keen awareness of potential flaws or areas where they lack expertise, showing a rare combination of traits.
Agreeing with Schwark and Karen, Sabrina Paseman clarified that they like teams that understand that the company they have will likely be a different company by the time they reach IPO. We look for founders who can hustle and pivot and have the self-awareness to understand how to do that well. Another thing that she looks for is a data moat of some kind. We define data moat as having an industry insight that is defensible in some capacity that would take a competitor a certain amount of time to learn enough about the industry to recreate or even something around IP patents. Our team has 80 patents among us. So, we understand IP very early and very well. But that alone is not necessarily defensible. There has to be something in addition to patents. Having a significant data moat is a very key differentiator.
Q: What are red flags that make VCs really hesitant to invest?
Synapse Partners looks for a diversity in the skillset of the team. They look at the knowledge, the value that each team member brings to the business. They carefully observe the team’s responsiveness to inquiries, noting whether discussions are dominated by a single founder’s perspective or if the entire team actively engages in addressing questions and issues that arise throughout the diligence process.
Q: Switching sides now, what are common misconceptions that founders may have about VCs?
Ekta Dang offers this advice. Feeling disheartened by a rejection, founders might perceive VCs as lacking a thorough grasp of the market dynamics – a perspective that might indeed hold some truth. Hence, entrepreneurs should also assess the individuals they’re interacting with on the opposite end of the discussion. Moreover, it’s vital to approach such situations with the awareness that there are numerous possible reasons behind a rejection. These reasons aren’t necessarily linked to the viability of the proposed venture. It’s crucial for founders to internalize this and anticipate these potential constraints. Understanding these considerations, entrepreneurs should delve deeper to identify which specific reason among those many contributed to the ‘no.’ By doing so, they can grasp the essence of the decision and prevent repeating any missteps when encountering other venture capitalists.
Schwark emphasized that a crucial aspect for anyone attempting to pitch a venture capitalist is understanding the motivations that drive VCs. Drawing from personal experience on both sides of the table – transitioning from an entrepreneur to a VC – Schwark acknowledged a wish to have possessed this insight earlier. He shed light on the VC perspective, explaining that their primary goal is to achieve a threefold return on their fund. This objective’s attainment hinges on factors like the fund’s size and required returns, with a notable portion of success originating from a small number of standout winners within their portfolio, rather than a broad spectrum of ventures. It’s essential to recognize that every investment commitment they undertake must hold the potential to contribute significantly to fulfilling their fund’s return targets. Consequently, the anticipated outcomes must reach a specific magnitude, albeit varying according to the fund’s scale – be it a $25 million fund or a $400 million fund. A tailored approach is vital in conversations with potential investors, comprehending their expectations and evaluating whether your business aligns with the potential to deliver the level of success that resonates with their objectives, even in the context of substantial funds like those reaching $2 billion.
Q: What are the three most important questions that an entrepreneur should ask a VC before taking the money?
First, “Startups should try to understand what the VC invests in. You will be surprised at how many people talk to me directly or come to our firm, and they do not even try to understand how we invest and what we invest in. And it’s right there on our website,” explained Evangelos Simoudis.
Karen Rotor Davis was more direct with her answer:
- Do you have “dry powder” (cash that has not been allocated to a specific investment)?
Do you actually have follow-on funds? Will you be around for your next fund? These questions will give founders a sense of efficacy and stability because you’re betting your business on them. - Are we aligned on the plan? Are we aligned on how we’re thinking about this next stage of the business and growth? If we don’t agree, do we have a healthy debate and disagreement? And are we testing quickly to understand?
- Ask that fund for references of founders in their portfolio and ask those founders, “How has it been? How helpful have they been? How has your experience been? What should I be looking out for? How’s it gone? When things are good? How’s it gone when things are bad?” Just to get a sense of what things are like.
Additionally, Sabrina Paseman added: What exactly is our structure moving from here? For example, “Once I assign this agreement, will we have weekly meetings? Who is in your network that you’re going to introduce me to? What value are you providing to me outside of just this check? What advisors can you bring to my company that will help us meet our goals?
Ekta Dang offered one story: There was a founder who approached us and shared an intriguing story. He had secured a significant investment from one of the top three funds on Sandhill Road. Surprisingly, he remarked that our assistance prior to investing in his venture had surpassed the support he received from one of those prestigious top-tier VCs. As the founder pondered this, he couldn’t help but recognize that he must step up our game to win us over and get us involved in the fund. It’s akin to a dating scenario, where depending on your stance, you find yourself putting in that extra effort. Additionally, it’s about the mindset and how an investor is naturally inclined to approach the concepts you present. If an investor’s disposition involves seeking connections, your brain automatically starts to function in that mode. It’s not necessarily a conscious decision to favor an entrepreneur by facilitating these networking opportunities; rather, it’s an organic process.
Final advice
After questions from the audience, Schwark Satyavolu and Karen Rotor Davis offered this final advice.
Schwark Satyavolu: Sharing my insights as a two-time founder and current VC, I want to candidly express that becoming a founder might not be the most effective path to building wealth <laughs>. It’s important to enter this journey with clear expectations. If despite the challenges you’re determined to tread the path of a founder, go for it, but don’t harbor the misconception that it’s a guaranteed route to wealth creation. In fact, it’s arguably one of the most challenging ways to achieve that.
Another facet I want to highlight is the difficulty in raising funds, which is a universal struggle for all, including individuals like myself. Even when I was a co-founder at a public company embarking on a second fundraising journey, it was no less demanding. The reality is, your life as a founder throughout your company’s lifecycle will prove to be considerably more arduous than the initial phase of fundraising. Consider the fundraising process as a litmus test for your resilience and determination to navigate the much tougher journey ahead, which will be exponentially more challenging.
Karen Rotor Davis: Getting funded is an uphill battle, no doubt about it. It’s going to test your limits, but securing that funding is achievable. Now, here’s where the real journey commences. You’ve effectively communicated your vision, which is a significant step. However, the real work starts, as you put your plans into action and drive towards realizing that vision, advancing to the next stage of growth. Keep your eyes on the prize of creating a robust, impactful, successful, and truly remarkable venture.
Side Bar on Startup Funding
In February of 2022, Sean Murphy warned about the Minsky Boom and the challenges of unicorns. Because in 2021, we saw levels of unprecedented VC funding and a record number of unicorns.
Full recording of Startup Funding 2023
8/10/23 Venture Capital Panel: What’s Hot, What’s Not!
Full recording of Sean Murphy’s 2022 talk can be found at Startup Funding 2022: What’s Hot, What’s Not!
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