Is There a Crisis in Seed Stage Venture Capital?

The first wave of year-end 2014 data on U.S. venture investment painted a portrait of a resurgent capital market. Investment activity reached its highest level of activity in a decade, finally shaking off the stagnation of the Great Recession (see last week’s article). Within the data, however, there were some concerning trends. The PricewaterhouseCoopers (PwC)/National Venture Capital Association (NVCA) Moneytree data indicated that while later-stage investments and megadeals drove the 61 percent one-year increase in total VC dollars, seed stage dollars fell by 29 percent.

Authors of a CB Insights report argue that this perceived drop in seed activity, however, is just an artifact of the imperfect methods used to collect data, and seed investment is actually on the rise. The rise of newer, smaller investors has made data collection more difficult, particularly for seed stage activity.

The PwC/NVCA data, which is collected through quarterly surveys of venture capital practitioners conducted by Thomson Reuters, suggests that seed stage investing has all but evaporated as a source of capital for entrepreneurs. Funding for seed stage firms, defined as business developing a product or concept and usually under 18 months old, fell in terms of actual dollars and deals and as a percentage of overall venture capital activity.

U.S. Seed and Early Stage Venture Capital Dollars and Deals, 2009-2014

Source: National Venture Capital Association/PricewaterhouseCoopers

Prepared by SSTI

This downward trend would be particularly alarming for the technology-based economic development community since this very early stage capital is vital to sustaining companies as they attempt to commercialize new technologies and make location decisions. Most companies receiving seed stage investment are getting their first infusion of outside equity capital, making this stage particularly important as an onramp into the venture capital market. Moneytree data suggest that 77 percent of firms receiving seed investments were engaged in first-time financing.

CB Insights, in a recent blog post, makes the case that the market might not be so bad for seed stage companies seeking capital.  In a post titled, Why Seed Deal Activity is Increasing, they note that the emergence of a multitude of smaller funds all around the country has prevented survey-based studies from capturing the full scope of the seed capital side of the industry. CB Insights, which teams with Silicon Valley Bank and the Angel Resource Institute for the quarterly Halo Reports on angel capital, instead uses a combination of algorithms and direct submissions from investors to track activity. While the Moneytree model has the benefit of allowing consistent comparisons between years within its data, CB Insights finds a large increase seed activity not included in the Moneytree report.

CB Insights reports that, by its measure, there was a 25 percent increase in active seed capital investors in 2014. The group defines active investors as those who completed at least four deals during the year. They counted 128 seed firms, excluding corporate venture capital investors. In 2010 this number was only 33. These groups invested $1.3 billion in 976 deals, according to CB Insights data.

The number of corporate venture arms actively engaged in seed investing also grew, going from 10 in 2010 to 54 in 2014.

CB Insights explains this growth, and the data discrepancies, in part as the results of a proliferation of micro-VCs. These groups focus primarily on seed stage investment and usually raise funds below $50 million, according to a 2014 post. The list of the top 105 most active seed venture capital investors includes many of these funds, and indicates that they are better dispersed around the country than the larger, better known firms.

Greater study of these groups may be required to truly track the capital opportunities available to entrepreneurs and startups.