A Closer Look at Startup Valuations in 2023: Down Rounds Trending Up in Q2 2023

San Francisco Business Times/ PitchBook

Startup valuations have taken a rollercoaster ride in 2023, with a brief reprieve at the beginning of the year followed by a resurgence of dreaded down rounds. According to recent data from PitchBook, over 14% of venture capital deals in the United States between April and June experienced a decline in valuations from the previous funding round. This is almost double the rate seen in the first three months of the year, which stood at 7.5%. Notably, this marks the highest quarterly growth rate for down rounds in a decade. While the worst may be yet to come, the private markets are becoming more selective and investor-friendly, putting founders in a challenging position to manage burn rates and extend their runway.

The rising trend of down rounds is a cause for concern among startup founders and investors alike. During the second quarter of 2023, 14% of venture capital deals resulted in down rounds, although it did not surpass the record set in the third quarter of 2013. However, the actual proportion of down rounds could be higher than reported since companies are not required to disclose such information. This lack of transparency could potentially be understating the scope of the issue.

Down rounds continue to be a challenge for the founders and to have significant implications for all stakeholders involved. While new investors benefit from gaining more equity for their investments, founders, earlier investors, and employees with stock options see their wealth diminish, at least on paper. Many startups are struggling to manage their burn rates and extend their runway, making it difficult to avoid down rounds altogether. Startup valuations have taken a hit, with companies like Worldcoin and Instacart experiencing significant drops in their worth. Worldcoin’s valuation, for example, dropped from $3.2 billion to $2.3 billion in 2023, leading to concerns and questions about the accuracy of these figures.

A concerning aspect of the current situation is that some companies may not disclose their down rounds. According to Jeffrey Gabrow of Ernst and Young, this lack of transparency might be understating the actual prevalence of down rounds in the market. Many entrepreneurs prefer to avoid down rounds, which can add pressure on them to secure funding, even if it means accepting a lower valuation.

In this challenging environment, startup founders are advised to take a pragmatic approach. While down rounds may seem discouraging, it’s crucial to raise a new round if capital is needed to sustain the business.

Jeffrey Gabrow suggests that entrepreneurs should consider their long- term viability and opt for the best available option, even if it means going through a down round. He emphasizes that the startup ecosystem has returned to a more normalized state, and while it may feel difficult in the midst of it, this is a natural part of the market cycle.

The surge in down rounds in 2023 has raised concerns about the stability of startup valuations. Despite a brief reprieve earlier in the year, the proportion of down rounds has been steadily increasing, with the second quarter showing the highest rate of growth in a decade. The private markets are becoming more selective, and founders are facing challenges in managing burn rates and extending their runway.

Transparency regarding down rounds remains an issue, but startup founders are encouraged to be pragmatic and consider the long-term health of their businesses. As the market normalizes, navigating down rounds becomes an essential aspect of the startup journey, reminding us that a bull market cannot last forever.