Such Thing as Too Much Money?

There seems to be a trend among venture capitalists in that investments are larger but the number of companies invested in is decreasing. Is this a concerning movement for the startup industry? How are companies supposed to begin experimenting if they cannot get anyone to invest in them. On the other hand, how are companies going to manage much larger sums of money than they’re used to? Will it be wasted on frivolous aspects that may “help” the company culture?

After reading one article in the Wall Street Journal by Rob Copeland, “Silicon Valley’s Unbridled Optimism gets Fresh Reality Check,” I am worried that the new methods of funding may be detrimental to the process and success of the metered funding used amongst startups. Is it possible that investors may be giving startups too much money? While startups have the reputation for having an appealing, relaxed company culture, we saw that Hustle’s spending on kombucha and arcade games killed their chance at success.

Just as the number of companies funded decreases…
the amount of money invested increases.

The problem seems to appear in that while the amount of money that the startups are given is increasing every year, the number of companies fed are decreasing. Copeland provides the statistic that “the number of these deals has fallen steadily, dropping to 882 in the fourth quarter from more than 1,500 three years earlier” (Pitchbook). This is backed by another article I found on Wall Street Journal, “More Venture-Capital Money is Going into Fewer Startup Deals,” by Eliot Brown. Brown gives the case of Grin Inc. which is a company that hopes to bring shared electric scooters to Latin America, and is already valued at $182 million because of massive seed investments. A seed investment is the first sum of money that is given to a startup, and the median size of these investments has nearly quadrupled from, “the $550,000 average in 2013” to the current “$2 million” (Brown). Just as this increase has skyrocketed, “the number of U.S. startups receiving an initial round of financing fell 40%” (Brown). It is no coincidence that both articles confirm the trend of ever rising seed investments simultaneously as the number of companies receiving said investments plummets. Investors are now in a different position because they are sending incredibly large sums of money to unproven ideas, instead of broadening and diversifying their investment opportunities. I thought the whole idea of metered funding and seed investments was to decrease risk until proven that a company has a stable idea and possibility to move forward.

Michael Seibel from Y Combinator is mentioned in Brown’s article commenting on how “‘hot companies’” can get ‘“carried away’” when in the presence of excessive funding. Copeland’s case portraying Hustle’s recent spendings is the perfect example of this situation. I’m sure the Hustle staff really appreciated their “all-expenses-paid retreat around Napa, California” (Copeland) until informed that half of them were going to lose their jobs. However, Mr.Lindsay has admitted that he got carried away and appears to be making efforts to make up for his mistakes. While his pay was already “60% below market rate” (Copeland), at $125,000 he has agreed to drop it to $55,000. Let’s hope that Hustle can regain some traction and build back up. Hustle and Munchery are just two examples of companies that have blown through mass amounts of money on trivial things.

At the same time, there appear to be more and more investors which could be an aspect of why seed investments and startup valuations are currently at such a high rate. Not only are there the leading venture capitalist firms, but there are smaller “venture-capitalist shops” (Brown) popping up, and at the same time athletes such as Kevin Durant, Derek Jeter, and Joe Montana are choosing to invest their money into early-stage startups. The whole dynamic then, of the startup industry is changing. There are more investors than ever, fewer companies receiving investments, and much higher investments and valuations of companies that haven’t even began operations. It seems to me that risk for investors is much higher, and that companies need to be much more careful of how and where they spend their money. I know for me personally, when I have extra money (like after Christmas), I feel it is totally fine to go blow it on clothes that I don’t need. Hopefully these startups aren’t given false confidence by their sky-high valuations and choose to go blow their money without a care.

A broken Lime Scooter on the sidewalk in Washington D.C.

On the other hand, we can already see how risk for investors would increase. The electric-scooter industry was one that was immediately jumped on by investors. Another article by Eliot Brown, and also contributed to by Greg Bensinger and Katie Roof, “Investor Frenzy for Scooter Startups Cools,” supports the concern that risk is high when investors put so much into a company that hasn’t proven stability. Bird Rides Inc. and Lime are two electric-scooter startups valued at over $1 billion, which is extremely high for not only a company that is one year old, but an industry that is one year old. Yet they are beginning to reach some problems in the industry that are hurting their chances for growth. Durability, vandalism, and theft are just a few of the problems that these companies are beginning to face, and they are already drawing back their valuations to pitch to investors. Where they once had investors jumping, probably too strongly, on the opportunity, they are now in a position of needing fundraising to counteract the problems they are facing in the industry.

The world of startups is changing. Rather than just following the trends of the industry, I think venture capitalist firms need to look carefully at where and what they are giving, and startups need to spend their money cautiously.

8 thoughts on “Such Thing as Too Much Money?

  1. I thought this post was very thought-provoking because it tested my previous beliefs in which I felt like the number of companies being invested in was exponentially growing. Looking forward to seeing what Professor Doyle has to say about this during our class this week concerning VC

    Liked by 1 person

  2. Great post leading into our discussion on Venture Capitalism! Your point appears relevant to the article we read “How Venture Capital Works,” where it seems VCs provide less mentorship expertise than I had previously thought. Raising the question, why is there a shift occurring of lessening advising and increased investment? Seems reckless to me.

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  3. Great post! The examples of Hustle and Munchery that you gave were very interesting and thought provoking on how start-ups manage their finances. In a book that I recently read, “Disrupted: My Misadventure in the Start-up Bubble”, the author, Dan Lyons, briefly comments on how venture capitalists’ involvement has decreased in the companies they invest in. It makes me wonder if venture capitalists should keep allowing entrepreneurs to pursue their ideas freely or if venture capitalists should be more involved in the management of the companies they invest in.

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  4. Very interesting post! This really makes me think of the age old question of quantity versus quality. It seems VC’s are investing more in quality as the number of deals closed decreases, yet can quality really be judged at this stage in a companies life cycle? Also, is it possible that putting more money into a smaller number of companies could actually improve innovation by devoting more resources to the truly innovative companies? I think it will be really interesting to see how this trend continues going forward.

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  5. Really nice insight here. I think your points are definitely true. It seems as if the billion dollar start-ups of Silicon Valley has created a frenzy that rivals the California Gold Rush. Some people are just throwing money at start-ups, hoping to hit a home run with the next Google or Apple. I think this could definitely be damaging in some respects, it seems hard to believe that young founders with companies valued in the billions could remain grounded and not full of themselves. Could over-valuation actually limit the growth potential and stymie the ‘bootstrap’ mentality that helped so many great companies take off in previous years?

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  6. As you pointed out, the article suggest an interesting controversy. While traditional investing has always held diversification as a golden rule for risk management, the VC industry actually requires just one company to ‘make the fund’, a notion that contradicts diversification. There’s definitely overvaluation of some immature startups; a result of a high supply of funds. Another interesting point is the Lime scooters, the success of such bike/scooter sharing in China may have influenced the company in achieving two unicorn status. Awesome post.

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  7. I wonder if there is just too much cash. The stock market has been around record highs the past several months, and most company balance sheets are flush with cash, which has translated into lots of share buybacks. Basically, there’s a lot cash that investors are looking to deploy, and with stocks perhaps at a tipping point, this extra cash needs somewhere to go, and one option is VC. Plus, as you wrote about, there are less deals being completed, so more cash with more competition for deals leads to a tendency for higher valuations and funding rounds. Also startups are resisting going private, and this is only possible because VC is able to raise enough funds to supply them with liquidity, even Unicorns.

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