20VC NEW FORMAT Harry Stebbings on Why Seed Pricing is as High as Ever, Why Series A is the Best Place to Invest Today, Why Growth Founders Need to Reshape Expectations, Why M&A Windows Remain Shut and When Will IPO Windows Crack Open

In this unique episode of 20 VC, Harry Stebbings delves into the venture capital market using proprietary data from over a thousand venture investor track records and founder feedback. Stebbings discusses the key strategies for successful fundraising, emphasizing the importance of trusted relationships, demonstrable returns (DPI), and distinct operational models. He notes a shift in the investor landscape from aspirational capital to discerning quality company selection, and the necessity of disciplined portfolio and liquidity management. The episode also touches on the changing dynamics across various funding stages, from seed to IPO, highlighting the challenges and opportunities at each level. Stebbings observes that despite high seed valuations, Series A presents a more attractive risk-reward ratio, while growth-stage investments require strong AI narratives or adjusted founder expectations. Additionally, he predicts a burgeoning secondary market for liquidity, given the stalled IPOs, and suggests that AI's future lies in vertical specialization and data access. Harry Stebbings invites listeners to share their thoughts on this data-driven analysis of the venture ecosystem.

• Harry Stebbings hosts a unique episode of 20 VC, analyzing venture market components using proprietary data.
• Over 1,000 track records and 100 references from founders on investor value and board member impact are discussed.
• Topics range from fundraising for funds to growth and IPO markets.
• Harry encourages feedback and interaction via Twitter.

"At 20 VC, we have the most comprehensive data on a generation of venture investors. We have over a thousand track records, over 100 references with individual mps from founders on their investors, where they added value, where they didn't add value."

This quote introduces the depth and breadth of data Harry and his team have collected on venture investors, emphasizing the unique insights they can provide.

• The market commentary breaks down various aspects of the market: LP fund investing, seed market, Series A and B, growth markets, IPOs, AI, and SaaS.
• Insights are based on 20 VC's extensive data repository and conversations with leading investors.

"I recently sent out an investor update to lps of 20 vc funds and in the update I included a market commentary which essentially broke down the different aspects and components of our markets, from the LP fund investing side, to the seed market, to the series a and b market, to the growth markets, ipos and beyond."

Harry explains the comprehensive market analysis provided to LPs, covering multiple facets of the venture market.

• Despite public perception, Limited Partners (LPs) are still investing through market cycles.
• The ability to raise funds is based on three pillars: trusted relationships, Demonstrated Performance Indicator (DPI), and differentiation.
• Building relationships over time is essential; Harry meets two new LPs weekly and uses a referral strategy for networking.
• DPI measures cash returned to investors, showing the ability to make money.
• Differentiation in sourcing, selecting, or servicing can be a key differentiator for fund managers.

"The first is trusted relationships. Lps invest in lines, not dots. If you are meeting an LP for the first time during your fundraise, it is very, very difficult to convert them that fund cycle and so you have to really build the relationship over time."

Harry emphasizes the importance of building long-term relationships with LPs, as they prefer to invest with those they know over time rather than making decisions based on a single interaction.

• The current fundraising market favors managers who can prove they have a competitive edge in sourcing, selecting, and servicing.
• There is a shift from aspirational capital to discerning high-quality companies.
• The market is moving away from momentum investors towards diligent portfolio managers.
• Managers who can demonstrate their differentiated approach have a higher chance of successful fundraising.

"If you can prove tangibly that you have a differentiator that allows you to do those three better, then you are significantly higher likelihood of being able to raise in this market."

Harry discusses the competitive advantage that comes from being able to demonstrate a unique approach to the three pillars of venture capital: sourcing, selecting, and servicing.

• The type of venture capital manager succeeding today differs from the previous cycle.
• There's an increasing emphasis on the ability to select quality companies.
• Diligent portfolio management is becoming more important than momentum investing.

"In the prior cycle, what succeeded was aspirational capital, where the founders picked the source of capital. Now that is still very much the case, but there is an increasing element of picking the ability to truly pick the quality companies from the not so high quality companies."

Harry notes a shift in the venture capital industry, where the ability to discern and select the best companies is becoming more crucial than simply providing aspirational capital.

• The best fund managers demonstrate discipline in core tenets of portfolio management, particularly in liquidity management.
• There is a shift away from momentum portfolio management towards a more disciplined approach.

"The best actually strategically lent out of their best positions."

This quote emphasizes the strategic approach of successful fund managers who choose to divest from their strongest positions at opportune times to manage liquidity effectively.

• Limited Partners (LPs) are moving away from very small sub-$100 million funds due to the disproportionate risk-reward profile.
• LPs are also avoiding very large billion-dollar-plus funds because achieving a 3x return at that scale is increasingly difficult.
• There is a trend towards investing in funds sized between $250 to $600 million, which offer a balance of proven track record and potential for outsized returns.

"Lps are clustering towards the 250 to 600 million dollar fund size range."

This quote indicates the preference shift among LPs towards mid-sized funds, which are perceived to offer a better balance of risk and return potential.

• 20 VC has collected proprietary data on fund managers, including track records, DPI, and TVPI.
• DPI refers to cash returned to investors, while TVPI is the book value of the portfolio.
• Thousands of founder references have been collected to calculate the Net Promoter Score (NPS) for VCs.

"We have an incredible amount of proprietary 20 VC data on this generation of managers."

The quote highlights the extensive data collection effort by 20 VC to analyze and understand fund manager performance and reputation in the market.

• There is an inverse correlation between the NPS of a manager and the DPI they provide; higher NPS often correlates with lower DPI.
• Misalignments between founders and General Partners (GPs) around liquidity, timing, and availability can affect NPS but positively impact DPI.

"The higher the NPS, the lower the DPI, and vice versa."

This quote explains the observed inverse relationship between how well-liked a manager is (NPS) and the financial returns they generate for investors (DPI).

• Managers who deployed funds over a three-year period had significantly lower average entry prices compared to those who deployed within twelve months.
• Temporal diversification is important for risk management in portfolios.

"Temporal diversification is real for those that deployed funds in twelve months."

The quote underscores the importance of spreading investments over time to mitigate risks associated with market fluctuations.

• The common belief in doubling down on winners is challenged by data showing that the best managers strategically lean out of their winners over time.
• Timing and size of exiting a position are critical for liquidity strategy.

"The best strategically lean out of their winners in increments over time."

This quote contradicts the popular "lean in" strategy, suggesting that successful managers actually divest from winners gradually to optimize returns.

• The gap between the book value of portfolios (TVPI) and the cash returned to investors (DPI) is likely to be the largest in venture history.
• Managers often do not actively mark down positions, leading to inflated TVPI.

"The chasm between TVPI and DPI will be the biggest in venture history."

The quote predicts a significant discrepancy between the perceived and actual value of venture portfolios.

• The best managers are those who mark down their portfolios quickly and accurately.
• There is a direct correlation between high-performing DPI managers and their promptness in adjusting portfolio valuations.

"The best managers mark down their portfolios fastest."

This quote suggests that top-performing managers are proactive in adjusting their portfolio valuations to reflect market realities.

• There is a wide disparity in how different managers value the same assets.
• This discrepancy poses a challenge for LPs in understanding the true value of their investments.

"We see immense chasms between the book values of how different managers hold positions."

The quote points out the significant inconsistencies in asset valuation among fund managers.

• GPs have increased personal commitments and invested in emerging managers, leading to financial strain.
• This strain results in a slowdown in capital calls due to GPs' personal financial commitments.

"The combination of which means a tightening of personal finances for some and many GPs, and a slowdown in capital calls due to them being on the hook, so to speak, for millions every time that a call is made."

The quote describes the financial pressures on GPs that contribute to a slower pace of fund deployment.

• LPs should seek out managers who represent aspirational capital, meaning founders actively choose to partner with them.
• Managers must have a proven model for sourcing, selecting, and servicing investments.
• It's essential for LPs to assess whether a manager's long-term goals are aligned with their own.

"You should be looking for three things in the managers that you're looking to back."

This quote provides LPs with a framework for evaluating potential fund managers to invest in, focusing on the managers' desirability among founders, their operational model, and goal alignment.

• It is crucial for investors to ensure alignment with fund managers' growth expectations.
• Rapid scaling of funds may not align with long-term financing interests.
• Avoiding a "one and done" fund scenario is important for sustained partnership.

if a fund today is 300 million and the manager wants to scale to 2 billion over the next three to five years, they might not be aligned to your long term financing interests.

This quote emphasizes the importance of ensuring that a fund manager's ambitions to scale their fund size align with an investor's long-term financial goals, highlighting the potential misalignment in growth trajectories.

With that in mind, one and done funds is not a position that anyone wants to be in.

This quote stresses the undesirability of investing in a fund that does not offer the opportunity for ongoing financial partnership.

• Seed investing remains challenging due to unchanged high prices and increased competition.
• The rise of principal power involves junior team members managing investments due to partners being occupied.
• High seed pricing is expected to persist, especially in core markets like AI.
• Sub $75 million seed fund managers struggle to compete in high-entry price markets.
• Multistage funds are spreading optionality by investing small amounts at seed stage to monitor for traction.

seed is the hardest place to be investing today. Prices remain unchanged and high increased competition as more multistage funds move towards seed.

Harry Stebbings indicates that seed investing is particularly difficult due to high prices and increased competition from multistage funds.

there's also what I'm calling the rise of principal power.

The quote introduces the concept of "principal power," where less experienced team members are given investment responsibilities.

You simply cannot get the ownership required or the check size often in those hot rounds to make the business model work for that entry price and that check size if you're a sub $75 million fund.

Harry explains that smaller seed funds cannot effectively participate in competitive investment rounds due to their limited financial capacity.

• The percentage of a fund's total capital invested in a company indicates the significance of the investment to the fund.
• Investments representing under 1% of a fund's capital are not prioritized.
• Investments over 1-2% suggest a more significant, core position for the fund.

what percent of your fund is this check going into my company, if it's under one or 2%, it really does not matter.

Harry provides a heuristic for founders to gauge the importance of their company to an investor based on the proportion of the fund's investment.

• Series A investments offer a better risk-reward ratio due to lower prices and significant de-risking.
• The gap between seed and Series A valuations has narrowed, while the de-risking has increased.
• Reduced competition at Series A and B stages provides opportunities for good companies.

I think Series A is actually the best risk to reward insertion point invention today, prices are significantly down at the Series A.

Harry argues that Series A is currently the most attractive investment stage due to decreased valuations and considerable de-risking.

The second element of Series A that I think is important is just competition is heavily reduced.

The quote highlights the reduced competition at Series A, making it an opportune time for investment in this stage.

• Growth stage investment requires a compelling AI narrative or adjusted price expectations.
• AI-driven solutions can command higher valuations, impacting upsell and net revenue retention.
• Founders without a strong AI story but with solid ARR must temper valuation expectations.

Founders have to have a solid AI story.

Harry suggests that a strong AI strategy can help founders achieve better valuations in growth rounds.

Founders are going to need to reduce expectations on price if they don't have a great AI story.

This quote advises founders without a strong AI angle to be realistic about their company's valuation in growth rounds.

• The M&A market for small-scale acquisitions has dried up due to high engagement costs and headcount concerns.
• Acquisitions are primarily occurring for startups with highly desirable AI talent.
• Large-scale acquisitions face regulatory hurdles, deterring potential acquirers.

M and A markets have dried up almost completely and I think they will continue to remain closed for small scale MNA anything sub a billion dollars.

Harry discusses the current state of the M&A market, indicating a significant downturn in small-scale acquisitions.

The only small scale acquires that we are seeing take place currently is acquisitions where there is incredibly desirable AI talent within the startups.

The quote points out that AI talent is a key driver for the few small-scale acquisitions still occurring.

• The IPO market remains closed, with recent offerings failing to instill confidence.
• The catalyst for reopening the IPO market is uncertain.

The big question is what will be the catalyst to the cracking open of IPO markets?

Harry questions what will trigger a revival in the IPO market, given the current lack of confidence among investors and companies.

On mass Clavio, Arm and Instacart were not enough to crack open the IPO markets.

This quote provides examples of companies whose IPOs did not have the anticipated effect on the broader IPO market.

• The current market shows a lack of institutional demand for technology IPOs.
• There is skepticism around major companies like Stripe, Databricks, and SpaceX going public in the near future.
• Databricks alone is not seen as sufficient to open the IPO window.

"Shows the lack of institutional demand for tech ipos today. Will stripe databricks SpaceX potentially go out next year? Will that be the breakthrough? I don't think so."

This quote expresses doubt about the possibility of significant tech companies going public soon and suggests that their IPOs alone won't be enough to stimulate broader market interest.

• There is an anticipation of a pipeline of SaaS companies ready to go public when the market allows.
• Jason Lemkin predicts the IPO window may open in the second half of 2024.
• Harry Stebbings is more pessimistic, expecting the IPO window to open in Q1 2025.

"Jason thinks that window is going to crack open h two s for the second half of 2024. I'm honestly a bit more pessimistic. I think this will be a 2025 q one event."

Harry Stebbings shares his view that the IPO window will open later than Jason Lemkin predicts, indicating a more cautious outlook on the market's readiness for new tech IPOs.

• The closed IPO window has led to a liquidity problem for limited partners (LPs), employees, and funds.
• Secondary markets are becoming a crucial avenue for liquidity in the current environment.

"We have a massive liquidity problem today. Well, it's go time for secondary markets."

Harry Stebbings highlights the importance of secondary markets as a solution for the ongoing liquidity issues faced by various market participants due to the lack of new IPOs.

• Emerging managers are considering liquidity options for the first time due to the need for distributions to paid-in (DPI) to raise their next fund.
• These managers hold significant positions in companies that may not provide liquidity for several years.

"Many emerging managers are sitting on significant positions, which are four to seven years from liquidity, but have tremendous upside."

The quote explains that emerging managers with long-term investments are now looking for ways to liquidate some of their holdings to meet fundraising requirements.

• LPs with strong fund positions often require liquidity for mandated outflows.
• Institutions like endowments may need to sell fund positions at significant discounts to meet obligations such as scholarships or facility maintenance.

"Many lps with strong fund positions need liquidity for mandated outflows that their institution must make annually."

Harry Stebbings describes the pressures on LPs to find liquidity in order to fulfill their institutional commitments, which may force them to sell their investments at a discount.

• Employees at tech companies are looking for liquidity due to the unlikelihood of IPOs or mergers and acquisitions (M&A) in the near future.
• They may seek to sell part of their positions to gain liquidity.

"Employees are increasingly aware that IPO markets will remain closed for the foreseeable future and any potential m and a is unlikely."

The quote reflects the concerns of employees who are seeking liquidity options as traditional exit strategies appear to be off the table for the time being.

• The gap between what buyers are willing to pay (bid) and what sellers are asking (ask) has been significant.
• This gap is narrowing as sellers become more aware of the challenges in achieving liquidity.

"For the last twelve to 18 months, this chasm between the bid and the ask has been too significant a chasm."

Harry Stebbings points out the previously wide gap between buying and selling prices in secondary markets, which is now beginning to close.

• AI's impact on society is seen as a significant opportunity, but most investments in AI startups are expected to fail.
• The differentiation will increasingly come from access to proprietary data, leading to verticalization.
• Incumbents are likely to benefit in the short term from AI, while startups with new tools may win in the long term.
• AI business models are shifting from per-seat SaaS to consumption-based models that align with value and output.

"99% of the money invested into AI startups today will go to zero."

This quote conveys the high risk associated with investing in AI startups, despite the overall opportunity AI represents.

"The end of horizontal startup products in AI, access to proprietary data will be the single most important differentiator."

Harry Stebbings discusses the importance of proprietary data in the AI industry, predicting a move away from broad, horizontal products towards specialized, vertical solutions.

"Incumbents will accrue the most value, leveraging existing distribution to provide copilot products."

The quote suggests that established companies are well-positioned to capitalize on AI in the short term by integrating it into their existing products.

"The winners in AI will sell the work and not the services, resulting in a reduction of human involvement and increased automation."

Harry Stebbings shares a perspective on the future of AI, where the focus will be on selling automated work rather than services that require human input.

"We will move away from a traditional per seat SaaS model to a consumption based model aligned much more closely to value and output."

This quote indicates a shift in the AI business model towards billing based on usage and the value provided, rather than a fixed subscription fee per user.

• Harry Stebbings experimented with a new show format and is seeking feedback from listeners.
• He encourages engagement and discussion on Twitter.

"I really wanted to try out a new style, a new format, give you something slightly different."

Harry Stebbings expresses his intention to innovate the podcast's format and his interest in hearing listeners' opinions on the changes.

• Mercury is highlighted for its user-friendly business banking services.
• Coder is presented as a comprehensive platform for work and collaboration, including new AI features.
• Navan is promoted for its ability to reduce travel and expense costs while rewarding employees.

"Mercury has been a breath of fresh air."

Harry Stebbings provides a testimonial for Mercury's banking services, emphasizing ease of use and a positive onboarding experience.

"More than 2 million people have made coder their home to supercharge their work."

This quote underlines the popularity and utility of Coder as a tool for enhancing productivity and organization in the workplace.

"Navan rewards your employees with personal travel credit every time they save their company money when booking business travel under company policy."

Harry Stebbings discusses Navan's unique approach to business travel, highlighting the benefits for both companies and employees.