series_a_survivor
I had an editor who used to always tell me that nothing ruins a nice clean story line like actual reporting. Reality stubbornly refuses to hew to something editors have sketched out and agreed on as a great cover piece that can sell copies. Likewise, nothing ruins good advice like data. Damn you, big data!

The more (good) data we get on the Series A Crunch, the more it becomes clear: There’s just no clear hack to avoiding the perils of there being too few A deals to go around, outside of having a great idea, executing and building a company that can raise a Series A no matter when it’s trying, no matter who did the Seed deal.

When it comes to gathering conventional wisdom from smart people in the Valley on how to best avoid falling victim to the Series A crunch, nearly every investor, attorney, incubator head, and angel we’ve spoken to has agreed on the following:

  • Don’t do a “party round” — or a big, pass-the-hat group of investors with no clear lead. No one will have enough skin in the game to push for your Series A.
  • Don’t raise money from a major VC. They will only follow on with the best companies and the signaling risk if they say no can be damning.

This makes perfect, logical sense. I mean, we have had everyone from David Hornik to Chris Dixon to Josh Kopelman and more VCs reiterate the latter over and over again. Even more VCs have described it as a very real conversation they have in partnership meetings when evaluating deals. These aren’t arm-chair quarterbacks. These are people with the Series As to give, telling us why they frequently say no.

It’s such a given from VCs and entrepreneurs that firms like Sequoia Capital and Andreessen Horowitz pioneered secretive scout programs to avoid the signaling risk, but still invest in this stage. We recently reported that Sequoia is doubling down on its commitment to this program — again, because the problem is so pronounced.

And yet. The data just keeps showing that startups who raise Seed funds from VCs actually have a higher survival rate. WTF, data? 

CB Insights published a report late last year that reported this at a high level. Given that it flies in the face of such conventional Valley wisdom, the firm dug deeper and published a research note last night that showed results even more extreme. The companies who raised funds from large VC firms did better than those who raised funds from micro-VCs.

Well, that makes even less sense. The takeaway had been that the precise role of micro-VCs was to have a Seed investor with deeper pockets than an angel, but not the same issues as a large VC. In the climate now, most challenged Seed stage companies are having an easier time getting Seed extensions from micro-VCs than large VCs, who typically want to escalate to a Series A or move on. And the Micro-VCs are more incentivized to hustle on the behalf of the Seed stage companies because that’s the fund’s entire bread and butter — not just a fun side fund to bring in more deal flow.

Now you are just fucking with us, data!

Here’s the deal: The anecdotal stuff is true, and the data is true. The answer to how that’s possible lies, as everything else in venture world does, with a massive range of quality and low barriers to get in. Just like some 5 percent of deals make up some 90 percent of the returns, so too do a very small handful of venture firms dominate the returns. There are a handful of very good ones and many more just mediocre ones.

That’s less the case with large VC firms, because a lot of them are getting shaken out. As we’ve reported before, when you look at the number of firms who invest at least $1 million a quarter for at least four straight quarters, there are only a paltry 97 firms left in the industry. And as the outgoing head of the NVCA, Mark Heesen told us last week, LPs are getting savvier about whom they back — with “whom” meaning the partners leading a firm, not just the firm’s legacy brand. Raising big institutional funds is hard. Even the shitty big VC firms have to meet some kind of bar to get that money — which is increasingly disappearing in the US.

Now contrast that to the world of micro-VC funds. The very reason we are in a Series A crunch is because they’ve proliferated like mad. The cost of starting Web companies have plummeted, and to many that has meant a $5 million fund can play with the big boys.

Only, it really can’t unless it has deep relationships with follow on investors or hits on some amazing companies out of the gate that don’t need help getting more cash — both unlikely. $100,000 might be enough to launch a product, but it is not enough to truly build a company. And as the CB Insights study says, many of these micro-VC funds were launched only on the back of this investment thesis of lower capitalization — not any other value add or domain expertise. That’s a lot of dumb money spread very thin throughout the micro-venture world. The delta between good and bad is simply greater. And just as with startups — the bulk are bad.

When publications like ours talk about micro-VCs, we think of ones like SoftTech VC and Floodgate Capital, just as when we think about incubators we think of Y Combinator. (As Erin has detailed at length, there’s a big accelerator shakeout underway as well.) But those are the outliers to a broader trend of mediocrity. A lot of the activity has focused on underserved geography, as the report notes. And micro-funds in those geographies frequently don’t have the relationships with bigger firms to help pave the way for Seed companies to get to a Series A. So there’s not a lot of difference between raising money from them and raising money from a regular old angel.

The takeaway from the original reporting we did on the Series A crunch in November was the only surefire way to beat it was to build a great company. Similarly, the only type of partners a company should take Seed money from are great ones — no matter how much money they have under management.

Like a lot of the mediocre Seed companies funded in the past few years, the mediocre micro-VCs too will have their own reckoning by the time this macro-trend is over. And just like the mediocre companies getting felled early on, I think the latter is going to be healthy of these ecoysystems as a whole.