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Is the Startup Bubble Beginning to Lose Air? — Early Signs of Changing Investment Behaviors

a photo showing a fish-eye view of an open co-working space with startup owners working on their laptops, depicting the possibility of the presence of a startup bubble
Is the Startup Bubble Beginning to Lose Air? — Early Signs of Changing Investment Behaviors Infographic

Is the Startup Bubble Beginning to Lose Air?

The market seems to love when innovation and evolving technology intersect, so startup companies have enjoyed tremendous increases in venture capital (VC) funding. This is particularly true since the late 1990s, as both early-stage funding and late-stage funding have grown in that time. However, based on recent quarterly data, access to some portions of VC funding may be waning for those companies in the earliest stages of their lifecycle. Between the second and third quarters of 2019, early-stage funding declined, which raises concern for the future. And it may point to something even more disconcerting, a question that should make entrepreneurs quiver in their boots: is the startup bubble about to burst?

In considering this question, a number of potential explanations might describe the recent drop in early-stage funding for startups. In identifying which might be the most relevant, each can be considered based on trends and industry changes. Naturally, this case bears importance to investors and startups alike. And determining underlying causes of these recent changes in VC capital shifts might help predict if a startup bubble indeed exists—and if that bubble is about to burst. The following offers some insights and analyses into these issues.

A Recent Snapshot of Early Stage Funding for Startups

Without question, 2018 was a banner year for VC funding for startup companies. The dollar figures, as well as the number of deals, definitely set record numbers. Therefore, it was presumed that 2019 would offer similar findings for both early-stage funding and later VC investments. While 2019 is still on pace to be an exceptional year in this regard, quarterly declines have appreciated. Specifically, overall early-stage funding has declined when comparing 2018 to 2019. In comparing the third quarters of both years, early-stage funding has dropped about 18 percent. And the number of early-stage funding deals has similarly fallen about 15 percent in the United States.

a cartoon of a businessman trapped inside a startup bubble that looks like it's about to burst
What are the underlying causes of these recent changes in VC capital shifts? Does a startup bubble indeed exist? And is that bubble about to burst?

Not only have annual comparisons shown early-stage funding declines, but likewise, drops between the second and third quarters are also apparent. In dissecting these figures further, Series A funding has remained relatively constant while Series B funding has not. In fact, Series B funding fell about a third between the second and third quarters in 2019 for startups in the U.S. Indeed, we’ve seen these effects in all industries rather than in specific sectors only. This data is what has industry analysts wondering if that may be a sign of a startup bubble about to collapse.

a photo quote of Sasha Mirchandani in relation to the topic of possibility of the presence of a startup bubble
Venture capitalists are jumping in later rather than earlier.

Potential Explanations for Early Stage Funding Declines

In the case of addressing whether a startup bubble may be about to collapse or not, several issues can help provide insight. Without question, the startup environment remains a dynamic one, and fluctuations in VC funding can be expected. One noteworthy change is the change in average time for startups to exit. While the average time a few years ago was 6 to 8 years, this figure has climbed to 10 to 12 years. That means that VC funding is naturally shifting to later-stage funding as more companies are in the pipeline. While total VC funding remains stable, early-stage funding is now less than later stages due to longer exit times. And this scenario would argue against the presence of a startup bubble.

Also, early-stage funding represents a middle ground between angel investing and late-stage VC investments. Interestingly, angel investing figures have risen because many startups today require less capital for launch. Technological advances and cloud computing have enabled these lower costs, which invite lower initial investments with greater gain potential. Simultaneously, later-stage VC funding tends to be more about scaling with higher potential for success. Hence, both these factors also help explain why the shifts away from early-stage funding may be occurring.

a photo of an excerpt from "3Q 2019 PitchBook-NVCA Venture Monitor" in relation to the topic of possibility of the presence of a startup bubble
Don’t fret – it looks like the VC funding market is still booming.

A Targeted Startup Bubble May Be a More Accurate Assessment

Based on current figures and trends, it does not appear that an overall startup bubble exists. The VC funding market remains quite robust, and all industries are showing strong VC support. However, it does appear that early-stage funding may be relatively less as VC investments move toward initial and later stages. From this perspective, an early-stage funding “startup bubble” may indeed exist. If that is the case, startups should leverage angel and seed funds wisely while striving to attain scalability status quickly. That would help increase the chances for adequate funding becoming accessible for eventual success and exiting. In any case, the VC funding environment for startups continues to look strong and promising. And recent shifts simply suggest that VC investors are choosing to change the timing of their support rather than their overall volumes.

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