How Dire is the Startup Funding Market Today? | AngelList CEO Avlok Kohli

I want to talk specifically about the funding market that we have today. So much has changed and you have this incredible purview at AngelList. What are the most notable changes that you are seeing in how companies are getting funded given the unique seat that you have?

Yeah, so for, for context, AngelList supports 20,000 funds and syndicates now, and we manage a portfolio of more than 13,000 startups across all of these funds and syndicates. So we have a pretty deep and broad view of the industry. And when we manage the investments for these funds and syndicates, we're actually the signatory on the funds. So we also receive all of the deal documents for follow-on rounds, all of the cap tables, all of it. Now, of course, this is being done on behalf of the funds. You can effectively managing everything for the fund. And so from that purview, we actually do have a pretty deep understanding of what happens in venture. And we actually track on a quarterly basis, to put it really, really simply, the good times and the bad times. We actually have a chart that we publish every quarter now, the rate of activity, or it's actually called the boom times and the bad times. And on this chart, what we have is the activity rate as the x-axis, the positive activity rate as the y-axis. Activity rate you can think of as what percentage of startups actually had an investment, right? Some sort of an investment. And the percentage positive activity rate is what percentage of those were actually up rounds. So you can generally sense that if you have a high number of investments and then a high number of positive activity, you're going to have a dot at the top right quadrant, which is boom times, awesome, right? And I actually have it up here and 2022, like early 2022 and 2021 is like this top right quadrant, boom times. And then now it's actually at the bottom left and it's actually one of the worst bad times where not a lot of startups are actually even getting an investment. And of the ones that do, a much smaller percentage actually have a positive investment. And so we're actually in the, the depth of the bear market, if you will, for venture right now. And that spread between where it was in the boom times and the bad times is the farthest distance it's ever been on everything that we track.

Is it a different time length between the, like the highest and the lowest than traditional? Like when you compare back to prior chasms in those two dots, is this a faster compression timeframe between those two dots?

It's incredibly fast and it's actually incredible that that distance is also incredibly large. So typically, when you have these dots that collect and it's reported every quarter, they're all kind of collect, you know, pretty close to each other, right? It's like, okay, yeah, there's a little bit of variation quarter to quarter. And the gap between early 2022 and right now is like the farthest it's ever been and the fastest it's ever contracted is the best way to think about it.

But people still say prices remain the same, especially at pre-seed and seed. And honestly, Avlok Kohli, I think they are staying the same. So Help me understand this because to me as an investor day to day, they are still really high prices, but you are telling me that actually it's never been a greater chasm. Where's the disconnect here?

So the disconnect would be in the pre-seed and seed market versus the Series A, Series B, Series C market. So as we look at follow-on rounds and the up rounds or down rounds, those typically happen at the Series A, B, C onwards. And that market has absolutely compressed pretty significantly. I mean, you're talking about deal volume in Series B down more than 50%, valuations down more than 50%. Series A is also down. Series C is basically gone, right? Like, I mean, you don't really hear of many late-stage deals getting done anymore. It's very— it's rare. And what's happened actually at the pre-seed and seed stage is all of the different investors that were investing later stage, some of them have started moving earlier and earlier. And so you just have a larger number of investors who have a lot of capital to deploy. Well, where are you going to go? You're going to go to pre-seed and seed. And so what you have is you have pre-seed and seed, they're buoyed and we don't see that changing. We actually still see that staying the same and the valuation staying the same. Maybe a little bit of compression, but we're not going to see it the same rate of Series A, Series B, and onwards, which I know isn't good news for, you know, for, for you where, you know, it would be great for, for pre-seed and seed valuations to compress a little bit, but I don't think it'll happen.

So I think there's also an additional component here, which is also bluntly the check writers at the multi-stage funds who are writing those pre-seed and seed checks are actually principals and associates because their partners are saying, hey, Avlok Kohli, I'm underwater with my board positions. I'm fighting so many fires. Go and write $2 million checks and be in market. It's good for the brand. And so those new check writers are less price sensitive than ever. They're more excited than ever because they're writing their first checks and it's creating this increased, less price sensitive capital entering seed, meaning the prices are where they are, which I think is, is really telling. Can I ask, do you not think that Series A is just a shit market to be investing in right now too as well? Reason being, any good companies have had everything preempted by existings and anything not good is out in market. And so there's this real adverse selection. Are you seeing that too in your data?

What we're seeing in our data is that only the companies that actually have credible traction are raising now. So even if you put aside adverse selection, meaning the set of companies who are raising from insiders and insiders are leading the rounds, we're definitely seeing a set of companies who just can't raise at all. They cannot raise a Series A, cannot raise a Series B. And for them, the capital markets are all but shut down. Then you have to look at the set of companies where they're raising from insiders or they have a new outside lead. I would say that we're not seeing anything in our data that distinguishes between the quality of either of those companies. Now, definitionally, if you have an insider that's going to lead your company like a true lead, I'm not talking about an extension, right? Of like, hey, let's give you a little bit more runway. No, it's, hey, we're going to, we're going to, we're going to invest a significant amount of capital for a little bit more ownership in your company. That, that's a real lead, insider lead. Um, we're not seeing as many of those relative to just the total number of Series A deals that are getting done. Um, so I can't comment on the, uh, distinction between the quality of those companies since we don't see that.

Is the structure of seed rounds and pre-seed rounds in terms of the investor types, is it changing? Is there more party rounds because traditional institutional investors are, you know, more quiet? Are there less party rounds because the tourists have gone? What are we seeing in terms of the structure of those rounds?

Let's define party round. If we're talking about party round as no investor is writing more than 40% of the check, so there's no lead, I would say that we are seeing, we're seeing the percentage of party round to non-party round actually being the same, but the overall volume has contracted. Now, the set of companies that could have raised on just a party round in terms of raising a little bit of capital, not hitting their target, those are gone, right? So what was happening in the heyday of 2021 and 2022 was that companies would just keep raising these successive rounds and we would see it like seed, seed plus, seed plus plus, right? They just keep going on and on and on and always just raising a little bit of capital from like these small set of like party round investors, that's gone. We do not see that anymore. Those companies literally cannot raise anything at this point. But we are seeing companies still being able to raise from investors where there is no lead because you do have several investors that'll come together to kind of create the round. So we're not seeing that lead investors are absolutely necessary for a round to get closed, especially at the pre-seed and seed stage, right? You don't need a lot of capital to get started and to close a round. But if you're getting to a larger seed round, right, because let's keep in mind that seed means $2 million or $5 million now, it's $2 to $5. So $2 million, you can do a party round. $5 million, it's much harder to do a party round now. So I think we have to also distinguish between the, the size of the raise itself.

Is the time to raise a pre-seed or a seed round, is that increasing or is it the same?

So time to raise a pre-seed and seed is definitely increasing. Also, the time to markups is also increasing. And what we actually looked at this in our data where we looked at a sample size of the investments over the last 18 months and we compared it to a sample size of the investments over time since 2015. So and what we were looking at was let's not compare it to the heyday of 2021 and early 2022. Let's actually take a look at historical averages. So how are we doing today relative to historical averages? And when you just take a look at that sample size of companies, from today, same size of companies in historical average, we're actually seeing a 33% drop in companies in terms of how many companies we expect would have raised by now. Right. And so that's a pretty significant drop, like 33% is high. And what that's telling us is there is a— there definitely is a freeze in the market relative to historical averages. And there's a lot of repricing happening. And there's a lot of still founders coming to terms with the new norm, the new normal, right? I mean, if you're gonna raise on 200x ARR and now all of a sudden you're being told, hey, it's actually like maybe 20, maybe 10. I mean, that's, you're coming to terms with brutal reality at that point. And so we still think we're in the thick of it and we think it's gonna take another few quarters before everything just works itself out.

Harry and Avlok Kohli crushing one industry and then bringing you brutal reality. This is the positive show for you. I know, I totally agree and I see the same thing. You mentioned that kind of crackdowns, the kind of deal structures. In your data, are you very much seeing the repricing begin or are you actually seeing so many companies have so much cash that they're not needing to come back to market?

It's the latter, but it's starting. We're starting to see it. So in Q1 so far, we've seen 48, right? And so it's 48 flat rounds, down rounds. Uh, these would be, uh, these would be the, uh, the pay-to-plays, pay-to-plays. And so we're starting to see a tick up. So it's definitely ticking up, uh, from, you know, Q3, Q4. But we don't— we think that it's still early days, and we think it's more the latter of the scenarios you mentioned, where startups do have a lot of cash, right? Because if you raise a lot of cash, you go through layoffs, you increase your runway. So you've actually pushed out your cash-out date. And so you buy a few months, right? And it's logical, right? You're playing to your incentives. Buy a few months. Hey, maybe Jerome Powell changes his mind, right? Maybe they bring down the interest rates and it'll be boom times again, which I don't think will happen. But that's my personal opinion. And so what's happening is the cash out date was— has been pushed out for a lot of companies. And so our, our view is that these will start ticking up in Q2 and then definitely Q3, Q4, because these startups, they have a brick wall, right? Investors don't really have brick wall, right? Yes, there's a deployment period. You have to deploy by all— by a certain amount. But in this market, I'm sure fund managers can go back to LPs and say, hey, I'd like to extend the deployment period. Great, not a problem. Go for it. That's much easier than having a startup who does have a cash-out date and has a brick wall that they're going to run into. And so we think that's going to start coming into play in the next couple of quarters.

Do you think we'll see a spree of acquisitions, a consolidatory environment occur where bluntly some of the big incumbents pick up great teams for nothing? And, you know, companies can tweet that they got acquired and want a successful exit and, you know, bluntly no cash is returned.

I, I don't think so. Um, I, I know I'm probably departing from the conventional wisdom on this one. I don't think so because I think if you take a look at the companies that could be acquirers, uh, you have public companies and you have private companies. With public companies, they themselves are going through a pretty brutal, um, rewriting of what the new guard looks like, of what the investors are expecting now. And investors are looking at not just the cash that your business can generate, but also your stock-based compensation. So gone are the days of like constant, you know, dilution of stock-based compensation and hiding it from all of the investors. That's basically how it was being done in the public markets. And so I think they're gonna be under intense pressure and you're seeing it, you're kind of seeing it across the board, even with some of the big tech companies. So I think, the appetite to just do rapid set of acquisitions in this market, I don't think is going to happen. And then in the private markets, the key question that's going to come up is what price do you believe? Right. Meaning if you're a private company and you've raised and then there's another private company that you're looking to acquire, then the key question comes down to how do you align on what the price is to acquire the company? So I don't think I don't think the conditions are there for a rapid acquisition spree unless these are like rock bottom prices and it's just like, you know, just, yeah, I mean, literally you're getting an amazing deal, but I don't think that's going to be good for employees or investors.

I don't think it is good for employees or investors, but I'm saying for zero and I still think it wouldn't happen because I don't know many private companies that are like, yeah, we've just got rid of a load of people to reduce burn. But no, we're going to make this acquisition and bring on 20 more people because the cost isn't zero.

Exactly. It's not zero. It's also additional overhead for the private company to take that on because even if you just acquire the product or the IP, even then there's a cost of integration, right? And I've been through an acquisition. I've been on the other side of an acquisition as well. And these are, these do take time from the company. So yeah, my read on it is we're not, we're not going to see a lot. And again, because we're the signatory for all of the funds, we also see M&A and, and we, we've seen that the M&A even within AngelList data, M&A has gone down pretty significantly.

How do you think that will continue or change over the next 6 to 18 months?

I think it will likely stay the same. Our view is actually a little bit more pessimistic in terms of just the broader market. So if you— if we look at the next 6 months, I suspect it'll be the same because the current macro sentiment is higher interest rates for longer. So that's a lot of downward pressure on venture as a whole because venture is a risk asset. Now it's, it's, you know, for some investments it's a great risk profile, right? You invest and you get 10,000x. That's awesome. At the same time, as a broader bucket of capital allocation, it is not— it's getting compared to earning 5% risk-free. And all of a sudden, a lot of people who typically would invest in venture are saying, maybe I'll just put it in US Treasuries. So I think there's a lot of downward pressure on venture. And so we just— we don't think it's going to change the next 6 months, next 18 months, maybe., but you would need to see, uh, the interest rates starting to come down and starting to see some signs of recovery in the broader market, inflation subsiding. So I would say the summary of what I'm saying is, uh, it all depends on the macro at this point.

Not only that, in terms of kind of, you know, venture being a risk asset class and kind of the interest rate environment associated, but there's also this real illiquidity challenge within the venture model. What are you seeing in terms of fund secondary positions, people wanting to get out of fund positions, people wanting to sell fund positions, defaulting. What are you seeing there?

When it comes to LPs within funds, we've definitely seen an increase in appetite to sell positions and also sometimes sell positions in name brand, you know, name brand companies that are actually just great companies. And the reason to sell can range from either the investment— their own investment ratios are off, right? They were just caught on the wrong side of like illiquid to liquid, or they actually just have a serious liquidity crunch and are just looking to sell. And so we have seen an increase in it. The key question really comes down to who's the buyer and what's the clearing price. There are deals that are getting done and there are deals that are getting done not just in small funds, but also very large funds. And typically these deals happened more in the background. And typically it's around the LP base shifting, right? So one LP will purchase another LP's position and the range of discount that we're seeing actually is anywhere from 20%. But what's more common is actually 40% or 50% from last round mark. And so you're talking about a pretty significant discount to last round valuation as the clearing price for some of these deals.

And is that on direct deals or is that on fund positions?

On fund positions.

Okay. But that's not too bad actually. I know that sounds quite like, if you actually look at like other secondary market data, some are as much as 60 to 70% down. Right. So I actually almost take positivity from 20% potentially and 50% on a bad day. So I think that's super interesting. I think the one really challenging segment of the kind of funding market in terms of from a fund manager's perspective is the micro funds. These were funds which raised from, you know, founders and, you know, bluntly, GPs of venture funds, which is awesome. But they're not writing LP checks anymore. Do you see that trend and how do you foresee the next 6 to 18 months for the micro fund segment?

So we, we track LP commitments based on the type of LP and based on the product it goes into. And, and so for LPs, we categorize them as individuals. And institutions. Institutions are typically, I'm using it more loosely here where it's a, it's, there's a team around it. So this could be a small family office, large family office, and then a true institution. Within rolling funds, which is one of the products that we have, both individuals and institutions commitments aren't actually down by much. It's close to only 20%, which is very, very, very interesting when you compare it to venture funds. The venture funds are the traditional structure and we have a pretty large venture fund business. Individuals are actually down 60% from like when, when we compare it to about a year ago. So like the early 2022 when there was a significant amount of investment still going in and institutions, this is actually incredibly interesting, went down and then has in recent, in recent weeks spun right back up and has recovered in our data. And so that was the one surprise that I saw as I was going through the data was that any of the folks investing in venture funds that are not individuals, they're starting to increase their investments back into venture funds.

What do you think that is? Do you think that's just like a stabilization of certainty, knowing where we are, being aware that actually rates will likely go up a little bit more? We're all kind of aligned on where we think it will go now. The certainty is more there.

I think so. I think one part is certainty. The other part is the technology cycle we're in, which is one of the biggest technology cycles with AI and all of the possibilities of what it can do in terms of net new opportunity and rewriting industries. And a lot of the large language models and their advancements there have had a major impact on AngelList, just our own internal operations, right? It's been huge. And we've been tinkering on it for many months now, and it's actually automated a good portion of the work that we do. And so we think it's the capital from institutions recovering is a function of one more, a little bit more certainty of what could be happening in the macro market. And then also just the fact that we're in the middle of one of the biggest technology cycles since the internet or mobile phone. And that's our hypothesis around it.

I'm not going to let you just like glaze over that, but I do want to just finish on this thread because otherwise I get too distracted. Are we seeing the number of net new funds raising go down significantly or is the number of net new funds same? Where are we at there?

Good question. Net new funds is definitely down. And so the way you reconcile this with the capital flows is the funds that are raising are raising more because they're a little bit more experienced and they have more, more of a track record. The other interesting data point is looking at when does the fund raise the first dollar of capital and when does the fund conduct their first close? Right. And first close is typically when you've raised enough and you have confidence that you're going to hit your fundraising target. Right. And we've definitely seen the time to first close has increased. It was 3 months in the boom times and now it is 6+ months. And when I say 6+ months, what I'm referring to is the timeline went from 6 and right now it's trending towards 7. And what this means is even the, even for the net new GPs or funds that are raising, one, we've seen an overall drop, right, in terms of like how many GPs even get to the point where they're like, you know what, I can raise this fund, let's do it. Right. So we've seen a drop there. But the ones who've hit that confidence of like, yes, I can raise this fund, let's do it. The time to first close is also extended. So they've— they're taking longer to close than they would have— the first closing they would have actually expected.

Are we also seeing a reduction in fund sizes for those going out?

Yes, there is a reduction in fund size for, I would say, the much smaller funds. Right. In terms of if you could raise a $5 million fund as your first fund, you're not going to raise that anymore. It's going to be closer to $1 million, $2 million, or $3 million. So we're definitely seeing a reduction in overall fund size, actually at all stages at this point, but definitely for the first-time fund manager.

Such a cheery topic, isn't it? Uh, Chris, you dangled it in front of me there in terms of bluntly how you're leveraging AI and LLMs to be more efficient and better as an institution. Too interested, man. What have you done and what's been the effect?

So a lot of what AngelList does in the background is we manage everything about fund, right? We manage from the initial legal docs or sometimes we'll work with the external law firm down to the fund setup, down to the filings, ADV filings, and then managing the portfolio for 10 years. Right. And all the distributions that come after that. And along the way, when you think about all of the different workflows, it requires judgment, right? There's human judgment. And so it requires humans. Well, with a lot of the work and the advancements on large language models, we can start replacing, right, what we assume needed human judgment to do something. You can actually now replace with code. And we've taken a subset of things that typically required human judgment and we've started to replace it with code. And one example for, just to put a finer point on it is we receive, I think it's something like 15,000 emails a week, right? On behalf of all the funds. And these are not emails you can just ignore. These are not emails that are like, hey, you know what, we'll get back to you in a week. No, no, these are emails where it's, hey, there's this deal getting done. Here are the capitals, here are legal docs, like review. So just a simple process of how do you route, how do you make sure that the email gets into the right place for the right action, right? Used to require a human to manage and route and apply judgment. Well, because we now actually have all of the training data because we've been doing it for so long, we essentially looked at that as one of the problems of how do you create an automated router But it's not as simple as like, oh, email comes here and here's a subject line, you send it. No, you have to actually look at the content of the email. You have to look at the contents of the legal docs. So for example, if it's a follow-on round and we're reviewing the docs and the cap table on behalf of the fund, we know that what are the set of documents that we need to complete the review? And what we now do is we'll look at the documents, will automatically tag, is it a share purchase agreement, a cap table, et cetera, automatically from the documents that we receive. And then if there's a delta, it's like, oh, actually this is missing a cap table. Well, we now know, hey, we respond back and automatically just ask, hey, we're missing the cap table, can you send it? And so that's just one very small example of how we're using it. And we're in a fortunate position that we've just been building up all this training data over the last, over the last 5 to 6 years of just doing this at scale. And so when we started tinkering with this, we're like, oh, this is awesome. We could actually just use this and start applying it right away.