VC Scaling Crisis
For the past 3 years, according to MoneyTree report, every year, around 4,000 US tech startups received capital from US venture capital firms, and the number is expected to increase rapidly over the next few years.
This does not include startups in accelerators, because the average seed stage startup (in the report) raised more than $6m in their seed rounds, which we would assume Series-A rounds, so all smaller rounds such as angel and accelerator rounds were excluded from that report. If we consider accelerators, we may easily add 1,000 more startups every year. note that the average batch for Y-Combinator and 500Startups has been accommodating more than 50 startups this year.
This can be supported by AngelList numbers, home of more than 850,000 startups, of which more than 200,000 startups are claimed or verified, and more than 800 of them have already raised funds online from angel investors! Not to mention the ones who raised money offline!
In total, we would assume there are 5,000 tech startups in USA every year between pre-seed, seed, early, growth and late stages. Oh wait, those are funded startups, right?! How many other startups do VCs screen every year to find 5,000 good enough ones to invest in? Let’s assume that the success rate to raise from VCs is 10% among all startups out there (although it’s much less), then we have 50,000 US startups to screen every year!
Oh, did we mention startups that raise on crowdfunding platforms such as KickStarter and Indigogo and bypass pre-seed and seed VCs? Did we mention the JOBS Act and the 10’s new crowd-investing platforms that are expected to disrupt the VC industry!
It’s a numbers game! We fully agree with Dave McClure when he mentioned that "the current VC fund industry average portfolio construction is inherently & critically flawed, and undersized by a factor of 2–5X.” and that “A more rational # of investments is ~50–100 companies for later-stage funds, and at least ~100–200 companies for early-stage funds”.
But still, to invest in say a 100, you will have to screen at least a 1,000 (again assuming the 10% conversion rate), but wait, how to find those 1,000 deals from the pool of more than 50,000 startups every year in USA alone?!
According to the same report above, around half of the startups are seed/early stage. So if you’re a seed/early stage VC in USA, to get access to all the deals in the market in a specific year, you will have to screen an avg. of 25,000 deals per year, this is 96 startups every single working day! No matter how smart you are is judging teams or ideas, or in predicting future trends, if you don’t see the deal at all, you will never get a chance to judge it.
Add to that the high competition from other VCs who moved to the US to be part of the next unicorns. In general, some VCs are now closing deals faster just to make sure they stay in the game. This comes with a compromise on valuations, due diligence, and focus.
VCs must realize that having a personal network is not enough anymore to scale and connect to all the good founders out there. There must be a new automated and data-driven approach for VC-Startup matchmaking.
This can work for post-seed startups as well as for pre-seed ones! We at Algorithm.vc are working on post-seed startups, where our platform collects many data points about hundreds of startups then automatically and anonymously matches them to VCs according to predefined criteria set by every VC separately based on their preferred industries, stages, or deeper details such as customer acquisition costs and conversion rates, or even things like founders equity and previous rounds valuations. Our customized matchmaking algorithm includes three main categories of metrics: traction metrics, valuation metrics, and equity metrics.
In other words, we provide VC algorithms as a service, and we provide all the needed data to run those algorithms and find the best deals. We are currently working with few top VCs in the Bay Area to develop the basic algorithm and the basic set of metrics to focus on as we start. We’re also championing the movement to replace pitch decks with fundraising dashboards to help founders as well as VCs to be more data-informed in the fundraising or investment process. Moreover, we provide VCs with a portfolio dashboard tool to follow up and stay up to date on their portfolio companies performance.
As for pre-seed startups, Adeo Ressi of the Founder Institute is working hard on this for idea stage startups with his “Entrepreneurship Readiness Test”. If this connects to the VC Algorithm, where VCs can predefine their target scores, the algorithm can connect them to their matches as well.
Join us to be part of the future of VC.