Peter Walker (00:00:00):
I think that people underestimate how much the board and startups has basically just been like tipped over by AI. People are all over the place on how they feel about it, on the defensibility of it, the reliability of the revenue, what they consider an actual AI company versus just, like, an AI-enabled one. It is messy out there. I know a lot of founders who are saying it's actually more difficult to fundraise right now than it has been in a couple of years, which brings us to bridges. Okay, founders who are listening, I deeply apologize about this, but I got to be honest about the data. The data for bridges is not great. The data is pretty clear that that's true. If you are able to raise, you are likely to get a higher valuation from Bay Area investors. However, I think people underrate how much overlap there is, especially at, you know, pre-seed and seed between these ecosystems.

Previous Guests (00:00:51):
That's product market fit. Product market fit. Product market fit. I called it the product market fit question. Product market fit. Product market fit. Product market fit. Product market fit. I mean, the name of the show is product market fit.

Pablo Strugo (00:01:03):
Do you think the product market fit show has product market fit? Because if you do, then there's something you just have to do. You have to take out your phone. You have to leave the show five stars. It lets us reach more founders, and it lets us get better guests. Thank you. Peter, man. Welcome. Welcome back to the show, dude.

Peter Walker (00:01:18):
Thanks, Pablo. Well, good to see you again.

Pablo Strugo (00:01:20):
So, yeah, we'll get into, you know, all the kind of like we say. I mean, Carta, I think, you know, has the best data just across the board in venture because it's all bottoms up. It's all from cap tables, and you are, I think, a cross-venture across North America, at least, the data guy. And so we'll jump into all of that. I don't know that founders pay enough attention to this, and it certainly doesn't need to be a number one priority by any means, but I do think Every now and then, kind of popping your head up and seeing what's actually going on is helpful because it might change, you know, how you're thinking about, frankly, you know, fundraising, like the timeline, the things that you need, et cetera, and the valuation you might get. And right now, you were mentioning that there's kind of, you know, we've mentioned this before. I think it happened in COVID as well, but it's different now, which is this kind of tale of two cities, right? You got the AI and the non-AI. From my end, it's kind of like AI. crazy valuation expectations but somehow not a hot market, and so it's a little bit weird to put those things together, but I'll give it over to you. You can kind of give the, your take on that.

Peter Walker (00:02:25):
Altogether too kind. But thanks for having me back on, man. Look, I think that you hit the nail on the head. It is a haves and have-nots market right now in venture. And again, you said it right. It's not like something that founders need to spend all day obsessing over, right? The market is the market. You're building a business. You don't have much control over the macro. So how much does this matter? Well, it does matter when you're going out and fundraising just so that you can set your own expectations in a way that you're not incredibly disappointed by. So the first thing is, it is AI and everything else. That applies to valuations, obviously, but it also applies to deal frequency, activity, demand, the like, metadata around fundraising. Which is, if you are not a, how do I put this? I love the term legible or credible startup, right? If you are not fitting into a bucket where the VC can really kind of easily understand what you're bringing to the table and be excited about the space that you're working in. Getting funded right now is really difficult. I think that, you know, as we were mentioning off the call a little bit, there's a ton of time and attention and headlines that are focused on these giant AI rounds. And those are certainly happening, right? They're not unreal, but they do distort the market. There are, I know, a lot of founders who are saying it's actually more difficult to fundraise right now than it has been in a couple of years. And I think that's kind of odd when you juxtapose it to the sort of, frankly, really hype bubbly headlines about the way that AI is going to change the world, whether or not you believe that's true.

Pablo Strugo (00:03:57):
Well, walk me through. Because I saw you post about this recently. The kind of. This is something I cared a lot. When I was a founder, like a seed-stage founder. It's, I'm not going to say it's easy to raise a seed round, but everybody understands that it's, pretty doable for the right founder makeup with the right story and the right kind of signals, and, you know, enough hustle. You can find a way to raise a million, $2 million these days. It's three, but you know, and angels being part of that mix, that Seed to A was always this scary thing where, like, hope needs to become a reality. And that picture has changed a lot recently.

Peter Walker (00:04:31):
100%. So we do this every quarter or so, we rerun the numbers, and we say, How many companies are graduating from Seed to A? And there are two sort of contextual points that you want to think about when you're thinking about this graduation rate. One is not all seed rounds are alike. Of course, some are on save, some are on price, some are much larger than others, et cetera. So you're not talking about the exact same amount of money raised than to an A. So there is that point. And that certainly changes quarter over quarter. The second point, which is the one that we can't really see, but I would love your opinion on, is the seed strapping phenomenon. So how many companies are actually trying to raise an A round versus saying, "We raised our seed, we got what we wanted, now we're going to go build a business." It's the constant conversation that I'm having with founders and investors these days about seed strapping. I have my personal opinions about it, but before I jump into those, are you seeing a ton of that? Are companies coming in with that stated strategy? How is that showing up in your portfolio?

Pablo Strugo (00:05:34):
Look, I'm skeptical by nature, right? So yes, I see this thing all the time. People are talking about seed strapping. I think, for what it's worth, it can make a lot of sense for the right companies. But, you know, is it big enough in terms of the actual activity versus the hype and the talk around it that it would show up in the numbers, that it would be a big reason why the numbers are what they are? I struggle to believe that because incentives are incentives, right? And as much as now, you know, there is things you have to factor in what's hot and what's not. But at the end of the day, if you're a founder. You're growing over 100% year over year. You've got things you could spend money on to grow even faster. I don't think you're going to give up raising that A, because seed strapping is cool now.

Peter Walker (00:06:18):
Could not agree more. I have a deep-seated skepticism about how often it's actually happening versus how often it's being spoken about. And I think those two rates are very different. So that's the context. And maybe we're wrong about that. And maybe seed strapping really is going to become the default path and all that kind of stuff. Could be totally wrong. When we look at the graduation rates, though, it is stark. So you take a specific cohort of seed-stage companies and you say, how many of them got to their Series A within two years? Decent benchmark, you know, there are a bunch of companies. Who will do it after two years? But it's a good signpost to say, How is that cohort doing? In 2020, if you raised a seed round in the beginning of 2020, something like close to 40% of seed-stage companies made the jump to A within two years. If you raised that same seed round in Q1 or so of 2023, only 15% have gotten to A after two years. So from 40% to 15%, more than a 50% haircut. That's really big. So there's a lot. And what that means for VCs, obviously, is there are a lot of seed-stage companies right now. Some of them are old seed-stage companies. Some of them are young seed-stage companies. Some of them are AI native. Some of them are not. There is a, you are, as a seed-stage company, competing with probably the deepest pool of start-ups you've ever competed with for that dollar. And that is really dragging down these graduation rates.

Pablo Strugo (00:07:41):
Do you have a sense, and I'm looking at the chart here, like it kind of seems like it used to be, six years ago, two years in maybe 30%. Then at peak hype, we grew to like 40%. And then now we're down to 15%. And, you know, just a few things that I'll mention. One is, I'm not sure how much this has to do. There's two pieces, right? Like one is, how much is this about the hype at the time when those seeds were raised? Which speaks to the quality of those seeds. Maybe some of those raised seeds that really, in a normal market, wouldn't have raised seeds. And so wouldn't have been part of that kind of denominator. And then the flip side of it is, it speaks to the time of today, like the time of when people were raising A's. I'll tell you something interesting. When I looked, for example, at a fund level, and I looked at vintage. Which vintages kind of performed best, and, my going-in assumption at, you know, early stage, would be: what if you bought in lows, you would have performed well. So if you bought in, like, 2001 after the crash, as an example, those would be great vintages. And what I came out, actually, it had a lot less to do. The performance of a vintage was this is my kind of analysis of the data. The performance of the vintage had less to do with when you got in and more to do with when you got out. And so it didn't really matter if you bought in 2001. If the time when that vintage closed, which I guess would have been 2011, wasn't a particularly hot period, then that wasn't that good of a vintage. You would have been better off, like, you know what I mean, if you were selling in, like, peak ’21, which means those 2011 vintages. Actually, those were really good because there was so much exit activity there, in kind of the hype of 2021 and so on, for whatever. So I'm just wondering how much that makes this to this. So, like, how much of this is about 2021 hype and, you know, “bad” companies quote unquote raising seeds, versus right now is just not, maybe just not a great market to raise an A.

Peter Walker (00:09:33):
Look, I mean, again, the exit stuff is as hard as the entry stuff, really. I mean, and it's so dependent on the market. And I think you can see that in some of these cohorts. So there's a In the graphic from seed to A, there are a couple weird quarters. There are a couple weird quarters, and one of them is like Q2, Q3 2018, where things just kind of like dip really sharply for a little bit or fairly sharply, and then they pop back up. And I think what's happening there is, okay, project out two years from Q1 2018. Where are you? Q2 2020. Throw yourself back there. The pandemic is kicked off. Everyone is really scared. Startup funding came to a halt for, like, three months, and then boom, right? And you can see it in the data where there's, right as that's happening, these expected graduation people are hitting a market where investors are like, well, I don't even care how good you are. I don't know what's going to happen to the whole economy in two months. I can't do investments. And that impacts those growth rates. That impacts those graduation rates. But that same thing is happening now. Again, the big debate is how much should founders care about this? You're just building your business. You have no control over the macro-economic economy or the picture. I still think it matters to know what the investor community is considering when they are trying to make these investments. And I think this brings us very naturally to AI. So AI is both a tailwind and a headwind for a lot of these companies. It's a tailwind because it promises the transformation of so many different industries. It's a new technological epoch from a lot of people. Like, there's so much excitement around it. However, we could be a headwind for some of these companies because, one, the competition has increased radically. I mean, everyone is very excited about the growth rates of Cursor and all those AI-native companies. And two, the defensibility and reliability of AI companies seem to be slightly shakier, or at least more unproven. So traction metrics that look amazing might get poked at by different VCs in a different way because this number looks really great, but is it sustainable? Is kind of the new question around a lot of those diligence conversations. And so even for AI companies, which sounds weird, they're in the middle of the hype bubble. I think they can also get tail whipped by investor expectations that move quicker than their businesses are able to change.

Pablo Strugo (00:12:09):
I mean, and then the other way to look at this is like, okay, so you're a founder, right? You're looking at this, you're like, my odds went from, let's call it, 30% normal periods, 40% in hype, and now 15%. So they've at least halved from what it used to be, going from seed to A two years in. I mean, let me just actually add one thing to that, which I thought was interesting was, you know, we talk about two years, and I agree, that's actually it is, it's a meaningful amount of time. And usually you raise for 18 to 24 months. Like, you’ve got to do something. But the flip side is, or the other part of the story is. There's a lot of Series A's that happen from year two to year four, like much more than I would have expected. Like, if you look historically, you're going from 30 to like 45, right? So there's another 15 percentage points. So, you know, 50% of those A's, or I guess that'd be 33%, I guess, of the total A's, happened between year two and year four. So it doesn't mean, like, you know, year two is like the end. It's not like there's only a few more that'll happen afterwards. So what are founders to do? Like, how do you make it through? Do you know what I mean? Like, you're never going to raise an A. Do you just find a way to kind of keep going, which brings us to, kind of, maybe bridges, which I know you have a lot of data and opinions on.

Peter Walker (00:13:16):
Yeah, you're right to say that there's nothing special about the two-year mark. That is just an arbitrary mark. Now, it's a little less than arbitrary because, of course, that is, in some way, shape, or form, a lot of what people are shooting towards. So when you do the financial planning, you talk about 24 months and the burn rate and all that kind of stuff. But there are A's that, or there are graduates that go from seed to A after year three, even into year four. It's a declining percentage, obviously. But again, even there, you look at the boom times, like there is a higher percentage of companies that were seed funded in 2017 that made it to Series A in year four, is actually too high, right? Because what was year four of 2017? That was 2021.

Pablo Strugo (00:14:00):
That's right.

Peter Walker (00:14:00):
And so then people got hype, and they went looking for companies. And even the ones that were not doing that great probably got funded in a way that they shouldn't have. So again, the macro affects these numbers really significantly, which brings us to bridges. Okay. Founders who are listening, I deeply apologize about this, but I got to be honest about the data. The data for bridges is not great. There are a lot of people that talk in startups about how they do bridges or extensions because they are so excited about the company. They have to get more ownership in this before they get to the next primary round. That is spoken about all the time. Our data seems to suggest that people are just kind of fibbing about that. And a lot of time, the bridges are actually because the company is not doing well. And why would you bridge a company that's not doing well? One, there's something coming up on the horizon where you still believe in that founder. Two, you want to maintain the relationship with that founder for reasons outside of financial return, or three, you want to maintain the quality of that company on your fund books for a while because you are raising a new fund. Those are three reasons why you might bridge. Only one of those reasons is a good reason. And the reason, to me, that makes sense is the founder relationship. I think that's totally valid, actually. There is something about venture that maintains human relationships here that matters. But in general, I got to say, I think that early-stage funds, bridge far too many companies.

Pablo Strugo (00:15:37):
Remind me. The date again on bridge conversion versus non-bridge and whatever, getting to A.

Peter Walker (00:15:42):
Totally. So if you look at a pool of seed stage companies and you say, what is the success metric, in this case, it would be: did they get to Series A? First caveat, obviously, that's not the only form of success. You could have a sale, you could be acquired, you could have seed strapped and got to profitability and not needed the A, fair. But in general, if we look at the last, call it five years, that wasn't happening that often. So I think this is a reasonable expectation of what did you want? You wanted to get to A, and did you get there? Here's the data. The data says that if you don't need a bridge round, right? So you took a seed round, you just used that money, about 50%, maybe a little higher, of those companies got to their Series A. Pretty good growth rate, didn't need a bridge, made some good choices, et cetera. If you raised on a priced bridge, meaning that your investors who are already on the cap table gave you more money, but they did so in a priced round, which set a new valuation, had actual lawyers involved, et cetera, a real round, then the percentage that got to an A in that cohort was 30%, 32%. Not great, not terrible, given that they probably, you know, if they needed more cash, something didn't go perfectly right. If you took a bridge on a SAFE or a note after you had already raised priced funding, so this is all about priced seeds to priced Series A, the percentage on the convertible bridges was 4%.

Pablo Strugo (00:17:12):
That's crazy.

Peter Walker (00:17:13):
And there were a lot. I got to be like, Man, there are a lot of companies that take in more cash on SAFEs or notes after they raise price funding. And I just don't. I don't really understand. I understand it from the founder's side. It's obvious. I don't understand it from the investor side.

Pablo Strugo (00:17:29):
Why? Well, let me ask you this. Like, why would there be such a big delta? This is the thing about data, right? Like the data is on, you can't argue with the data. Data is what the data is. Then you can argue with what it means and the analysis of it. Yeah, exactly. Like, why would there be such a big delta between specifically the priced round and the SAFEs?

Peter Walker (00:17:47):
Totally. I think there's—I have a lot of suppositions or like potential explanations here, but would love to hear yours. And I'm not saying that I'm totally right here. But the way that I think about this is twofold. First, is it just a chicken and egg thing where the companies that are able to raise a priced bridge are just fundamentally better companies than the companies that are only able to raise a SAFE or a note after a priced round? Could be, just like the cohorts are meaningfully different in that way. The second thing is that the kind of investors who would invest into a SAFE or a note after a priced seed are different than those who would do a priced bridge, et cetera. What I think is also contained within the data is the idea that the priced bridges are generally bigger. They have more capital invested into them. The bridges on SAFEs or notes are generally smaller, and they're more sort of scattershot. So we do see behavior of somebody raising like an extra $15K on a SAFE and then maybe an extra $20K on a SAFE, not a meaningful amount of money. Where a priced bridge, if a standard seed round is, I don't know, $3 million bucks, a priced bridge is generally like a million to a million and a half. So that's a real infusion of capital. So less money, maybe less high-quality companies, perhaps less sophisticated investors, all of these things kind of resolve. But again, and this is—I even think you could look at it on the priced bridge side and say investors bridge too many companies. And I think fundamentally, on a portfolio theory basis, that's almost guaranteed to be true. In that, if you're a seed stage investor, you're making 20 to 30 bets in your portfolio. If you make a bet, and then one of the pieces of information you get back after a year is that company didn't do what you thought they were going to do, and so you needed to bridge them, why are you investing more money? You got negative information in a pool of a ton of other puzzle pieces that you don't know, but you have this one piece of data, which is it didn't work the way you thought. Should you reserve that capital for another new bet, or should you continue investing into that founder? Really hard choice, not an easy choice. But to me, it seems like investors are defaulting to their own prior judgments a little too much.

Pablo Strugo (00:20:09):
I mean, there's so much that goes into it. It's all very weird, right? On the one hand, you've got your causation correlation on the price versus SAFE, right? Because like, and especially the knowing of it, like then you know the data and you're like, okay, so then that means like I'm definitely not raising, hey, I'll raise the price round, which fundamentally changes nothing. So I can't imagine that having a big, you know, effect. But in any case, maybe it is a round size thing. Maybe it has to do with like whether new investors are coming in, which, again, is more a signal than anything else. A new investor coming in doesn't make your company better. But if you can attract a material new investor who sets a price, that might indicate that your business is better than your average set of, let's say, bridge businesses. And then there are all of the all the biases, right? Which is like the endowment effect, like things like that. Like for sure, I've noticed this internally, but just across the board, like you just, first of all, there's loss aversion. So like losing money, as much as we all talk about outliers, still human psychology is such that you really value not losing more than you value winning as a human. You have to really kind of pull yourself out of that to do it rationally. And so when a company might fail, if you don't put in a bit more money, you're more likely to make that action than you are on a net new company of the same caliber. The other one is the endowment effect, which is like, you know, like part of it is, oh, I know so much about this company. I have an information edge. And part of it is you actually have an information disadvantage. You know too much. You're too like emotionally vested one way or another. And you think it's better than what it really is. You know, a new company, you give it half an hour, you give it an hour, you make a decision. In this one, you've got like a year worth of information. And again, that can go either way in terms of like you're likely. So I could see how as an industry as a whole, you might just, there's so many things that make you for a given caliber of company more likely to bridge it than to do a first net new investment into that company. The flip side of it, and the part that is kind of confusing to me, is sometimes if you think about risk reward, like often the companies, by the time they come to this kind of bridge situation, like this is a company who for sure they're not ready to raise an A in the vast majority. Because sometimes they get preempted into it. That's the exception. But let's talk about the rest, which is the common. It's just like they're not ready to raise an A. That's why there's this bridge thing. The part that's kind of strange relative to how stark the data is, is these companies are almost always ahead of where they were at seed. They've made some progress. They didn't make as much progress as you would hope because then they would raise A, but they did make a lot of progress. And in some cases, the valuation barely changes or doesn't change at all or it's flat and stuff like that. So from that vantage point, you think about it. And even as a founder, like part of this is the VC side. Part of it is a founder thing. It's like as a founder, you're kind of like, shit, I raised like whatever it was, let's say, you know, two on 12 when I had nothing. I had an idea. Now it's been a year. I've actually got customers. I've actually got some traction. I've de-risked a bunch of stuff. And I'm still like, you know, trying to, I'm like begging for one on 12. You know what I mean? Like how? And as a VC, you're like, interesting. You know, yeah, they didn't do as much. I wish that they'd done twice as much as they'd done, but they've done a lot. And I'm still getting in at 12 that I got back then. And you'd think that would translate to actually better off results, but it doesn't. So anyways, I said a lot there, but like there's a bunch to unpack.(Context: The endowment effect in startups refers to founders overvaluing their own company simply because they own it, often leading to unrealistic valuations or reluctance to dilute ownership during fundraising.)

Peter Walker (00:23:35):
It's so fascinating, right? Because it's, you're totally right on the idea of the sort of psychological models here, loss aversion, like an excess of information, a inability to right-size your own estimations, right? So, you know, kind of like the super forecaster model where every piece of information means you should update the prior model. That's really hard to do when you've now got a personal relationship with your founder and you've been following them for two years. That's tough. On the point about the valuation. I think one of the things that is underlying that change is probably in that 18-month to two-year period where you were looking to potentially bridge them, the metrics for A changed. So this is a dynamic marketplace in which the expectations about what you would have needed to hit in order to get to A may no longer apply, even though you made progress. So the progress, there's no one benchmark of progress that's going to just necessarily get you to that next level. It's always in conjunction with the market, with the deal flow from the investors. All that kind of stuff. So I think it's a fascinating thing. Maybe I'm being too strong about it a little bit, you know, that investors should. I'm not saying never bridge companies. I just think that in a lot of cases, that money is probably better spent elsewhere. But it is one of the hardest things as an investor, is like, how do you maintain trust with founders when you tell them we're not going to invest into you any further. I think it's one of the biggest challenges of being a great early-stage investor is that conversation. Whether it's coverage, whether it's about pro rata, like whatever it is, you know.

Pablo Strugo (00:25:24):
I'm really worried because listen, like you've been listening for like what, 10, 20, 30 minutes now. Clearly you like it. And the thing is the next episode is way better and you're going to miss it. You're going to miss it because you're not following the show. So take your phone out and hit that follow button. And I mean, there are examples, a lot of examples of huge pivots that ended up working out. So it's not it's certainly not a black and black or white thing. But I think the data is saying, like, again, there's way more things that make you do it than not do it. One thing as we're talking, the one thing I'm thinking about is if you think about the pricing of, let's say, seed and why, why would because you talk to people outside of venture tech and you tell them how we price things and it's insane like you know.

Paul Walker (00:26:07):
You're like, what are you talking.

Pablo Strugo (00:26:08):
Did you buy a restaurant for one times net profit you know what I mean like you're guaranteed you make that money back next year and then everything's gravy right, it's just like what do you mean you price at infinity multiples because there's no revenue or like 50x sales multiples because there's $100k and it's you know worth however many million. So, why, in what world does that make sense? And that's a world of outliers. It's a world where you're buying basically options that something that can be huge. Right? And I guess you could argue that, you know, just back to what I was saying, like company that raises two on 12 and they think they're going to go from zero to one this year, as an example, whatever, right? That it's worth two on 12, only if it does go from zero to one in a year. And then one to 10, two years later and three years, you go from zero to 10. Then you were actually worth that 12 million at the beginning, as an example. Now, a year later, you know it didn't go to one. It went to like $500K. You could look at that and say it was at zero. It was worth 12. Now it's at 500. It's at least worth 12, isn't it? That would be the founder's perspective, right? The flip side is now I have information, which is that you're not that hot. You're not an outlier type path. Maybe you become an outlier type path, but I actually have new information that things are not going to be as easy or as fast as we all hope that it might be a year ago. So actually, maybe you're worth even less at half a million than you were at zero because that year of information showed that you're just not this outlier, or at least you're not an outlier yet. And so like the probability of you becoming something massive actually decreased. And if you kind of discount that to whatever, then you know what I mean? It's all super weird math, right? But none of that stuff's really getting factored in. That's the other thing, actually, I'll say just on this point of Series A conversions and maybe success of these bridges is the likelihood of a down round is very low. It's very low as a bridge. And so, you know, if you mispriced a year ago, that bridge is just going to reinforce that mispricing. And maybe it's even worse because you now know that they're not, you know, as hot as you'd hope.

Peter Walker (00:28:06):
That's honestly super wise, man. Especially the point around the valuation of the initial investment is predicated on growth. And if you have signals about growth not working, you should take them more seriously. And that, to me, is like the fundamental part of venture that sucks. It sucks. Because it's bound up in these relationships, you become close, but it's so all or nothing, and you know that 80%, 70 to 80% of the portfolio is probably not gonna return a dollar. So you're gonna be faced with these conversations all the way up the stack. The other point is around, and this gets us back to the seed strapping conversation a little bit, is like, okay, the expectations for this company after the seed round is that you're going to, what? At least 2x  your revenue? And so can you do that? Or what happens to the investor appetite for these businesses if they say, We're really not looking to invest more capital in this business. The goal is to become profitable, and have a growing, sustainable business. But can that growth rate of that sustainable business be as big as the business that is not trying to be sustainable upfront? It is a big open question. Lots of companies. There will be many examples where it is as big. Cursor can grow as fast as any company in history, and they can do so profitably because they just crush this product market fit. Does that apply to most seed stage startups? My instinct is it doesn't. And so, therefore, it's not that seed strapping is a bad way to build a business. It's actually a fantastic way to build a business. It's a bad way to get venture returns. And that is the fundamental mismatch between the investor expectations and the founder expectations that I think we're kind of working through right now.

Pablo Strugo (00:29:56):
I think that's totally the case. And, you know, this show is fundamentally about founders. So I'm trying to think about it from, like, the founder's point of view. And I think one of the maybe, you know, trying to bridge all these concepts together of seed strapping and what's happening at, you know, Series A conversion. And regardless of that Series A conversion may very well, you know, two years ago, maybe the ones I already see now are back to 30%. I can easily see that. But this bridge piece, you know, seems less like it could be. I mean, it could be related to macro stuff and maybe just fluctuate, and all of a sudden bridges are the same. But there's a lot of reasons to think that bridges fundamentally change your odds of ever becoming a company. And so maybe part of the answer is, like, you really have to look at it's an introspection kind of for the founder. Right? Because on the one hand, what we're saying is you're getting more bridges than you kind of should be getting, which is maybe a good thing, okay, the founder. It's a good thing. You know what I mean?

Peter Walker (00:30:43):
It's a good thing.

Pablo Strugo (00:30:44):
VCs shouldn't be doing as many bridges, but they are. Therefore, there's more money available for you.

Peter Walker (00:30:48):
It turns out VCs are also optimistic.

Pablo Strugo (00:30:50):
Exactly. Okay, so that's good. So you have the availability. So even if you miss what you thought you were going to do, you're not Series A, your likelihood of getting a bridge is higher than it should be, and your valuation is higher than it should be relative to the fact that you've missed, and so on and so forth. But maybe what needs to change at that point, the introspection that needs to happen, is kind of a readjustment, right? So rethinking, when you were at seed, you probably were thinking, I'm going to raise a seed, I'm going to last 18, 24 months, and then I'm going to raise an A. Now, that didn't happen for a variety of reasons. Now you're raising that seed extension. If your mindset is unchanged and it's just like, I'm going to raise the seed extension. And now in 12 months, because usually you don't get as much time from a bridge, I'm going to raise an A. And it's just the exact same. Well, you're not factoring in the kind of baseline data. Which says your odds were, let's say, 15 to 30 percent before, whatever they are. Now they're half. Right? So just by the virtue of the fact that you've had to raise a bridge. So maybe that is the time to really think about, OK, wait a second. What happened now? This is where it's so case-by-case because if what happened is you were going on I've seen this right like you're going on product one, you pivot doesn't work, and then you finally, it just so happens three months before you run out of money. Find the thing that really is a thing that's truly kind of taking off. Then maybe you're almost like a restart, and you should just still be thinking about A. But other times you've done your product. It has been that product. You thought it was going to take off. It didn't really take off as fast, but it's still working. But you haven't really done a massive zero-to-one pivot. You're just kind of iterating on that thing. Well, maybe what you have is just not like the likelihood of it being truly a venture-scale thing has, I think, gone down dramatically. And now is the time to think about it. Maybe what I'm going to do with this bridge is become this kind of seed strapped company, is become a profitable business, not going to double or triple, going to grow at 50%. Whatever it is. But it's just a matter of readapting to the odds, readapting to reality, because that's the only way to truly win.

Peter Walker (00:32:44):
I really love that, as it's not something that I've thought about much, but I love, the orientation of founders can use that information as well to say, What is the ultimate level of this business, and how confident am I in getting there? Obviously, you have to be kind of delusional to start what would be a $10 billion company in the first place. And that's a good thing. We want that delusion. But as you get more information, you have to adjust your expectations. And I think moving towards, I'm going to basically venture to raise a seed round. But if I get more negative information, I'm going to pivot to a seed strap or a seed bridge to profitability. I think that makes a lot of sense. Again, for the investors, it's not great, right? That is kind of a zero in their book because that's not what the model is. And I think, again, to give GPs and VC funds a little bit of grace here, it's not that they don't think that smaller businesses are good businesses. It's that those smaller businesses cannot, by most definitions, return enough to make their LPs happy. It's not what the fund was predicated on. Now, maybe the answer to that is we're just going to see a lot of new kinds of funds that really do have LPs that are interested in this strategy and have GPs that are pitching this strategy while the fund is being created. I can tell you right now, if you raised a venture fund in 2022 or 2023, you were not pitching seed strapping as the way you were going to get to your exits. It's not the case. So the misalignment between LPs and founders on the bottom in there is still pretty great.

Pablo Strugo (00:34:21):
But I'll say, and this is the part about we're all going for these outliers. But if you have a company that is not going to be an outlier, I'd still take a 2x over zero on the margin. Now, would I invest the material amount of capital to do that? That's where it's probably not worth it because you're multiple on that new capital. If your chance of an outlier is gone, it's just not there.

Peter Walker (00:34:43):
Yeah, it's a great point. It's not like, well, there is some people, I think, some investors who would say just fail fast. I don't even care about the 2X. But in most cases, I think you're right. But it just comes down again to the alignment of expectations. Are you all talking about the same kind of thing? And it's a really interesting time in venture in that way. These are not conversations that were going around the ecosystem four or five years ago. Everyone is playing the same sort of game. I think there's just a lot of different games being played now. Some of those games are better for founders. Some of those games are better for investors. And some of those games are completely uncertain and don't really fit into a box yet. And we're going to see what comes up because it's good to have a diversity of models that make sense here. There's going to be a lot of crashes and burning as the models get kind of worked out.

Pablo Strugo (00:35:33):
I think you also talked a little bit, maybe just to tangent off to a different piece of the conversation, about ecosystems. I know you had a post around, and I don't remember what the conclusion was of your valuation, seed round sizes, et cetera, depending on where you are in the U.S.

Peter Walker (00:35:48):
Yeah, it's one of the things that founders ask us all the time or that you hear all the point is like, hey, do I need to move to San Francisco? Because, One: I'll just have access to talent. I'll be in the flow of the conversation. I'll have access to way more capital. And then, B: I just get a valuation premium from being in the Bay. And the data is pretty clear that that's true. If you are able to raise, you are likely to get a higher valuation from Bay Area investors. However, I think people underrate how much overlap there is, especially at pre-seed and seed, between these ecosystems. If you just take the middle 50% of Bay Area valuations, there's a ton of places across the U.S. that you can get those valuations. If you're talking about the 90th percentile, yeah, those basically only exist in the Bay. But if you're talking from, say, 30th or 40th to 75th, you can get that in a lot of places. It might not be as easy. There's fewer investors. You have to do more work. But I think that the idea that you have to be in the Bay Area, especially at the beginning, is a little strong and doesn't take into account the fact that there are deals being done at all sorts of prices all over the place.

Pablo Strugo (00:37:02):
And do you have a sense of what that means on it? Because it's one thing to get a better valuation and get a bit more money. That's a good thing. But what about your spend side? What about talent?

Peter Walker (00:37:11):
So the talent is a really interesting question. The gap between, if you aggregate talent into tiers, so employees in San Francisco, New York, the Bay, maybe you include Seattle, maybe not. That's tier one. Tier two is LA, Austin, a couple of other, you know, Boston, a couple of other markets. And then tier three is a whole host of cities. But tier one employees are gonna get paid more. No surprise. The gap between a tier one employee pay and tier two employee pay, and again, the tiers are based on location, not quality, is not that high. It maybe is, 15% or so, maybe a little bit higher. So then you do some arbitrage, and you say, if I can raise a pretty big round in Austin, do I actually have more runway than if I had raised that same-size round in the Bay? And the answer is definitely yes. The question or the pushback that you'll get from Bay Area proponents is, yeah, but the talent in the Bay is way better than the gap between those A rates. And that's not, you know, that's tough for me to evaluate, but that's the story at least.

Pablo Strugo (00:38:20):
Well, that's the fundamental question is like, do you actually raise your odds of success by being in these ecosystems? Like a lot of this, it's funny, like it all ties together in the sense that why are these valuations higher in the Bay Area? Because there's more successful companies in the Bay Area. So when you underwrite these companies as a VC, whether you're doing, you know, regardless of how much modelling you're actually doing or not doing. It's explicit or implicit that when you underwrite these businesses, you look around. And if you see a lot of $100 billion, $10 billion, $50 billion, and $5 billion exits, your assumption of the probabilities of that happening are higher. And so your ability to pay up at seed and series A are higher. If you're in a tier three ecosystem, whichever one you want to look and you look around and you're like, The biggest company, here's $10 billion. And then after that, there's like one $1 billion company. Well, when you underwrite, you know what I mean? It's all going to go into that pricing as well. The question is, and this is where it gets so confusing as a founder, is like, is that just what the way the world used to be? Because the $10 billion company of today was founded 10, 15 years ago. And so it says more about that. Does it say more about then than now? And is there now, like, this arbitrage or play where you could stay here, you know, spend less, and raise more or less the same without changing your odds of success? Or another way to put that is if you move to the Bay Area, besides raising more and shit like that, will you actually increase your odds of a big exit? I don't have the answer to that question. It's just like, that's the sort of stuff you've got to think about.

Peter Walker (00:39:50):
And I think that is the question, right? What is the percentage change in my likelihood of a really large outcome if I move to the Bay? It almost certainly isn't zero, but I don't have a number. It's really difficult to put that into some sort of calculator and have it spit out an answer like, yes, get on a plane, or no, don't get on a plane. The point that I'll make around these ecosystem disparities, though, is of the early stage. It's one thing. At the late stage, it's a completely different thing. And there's a lot of places around the US right now where you can raise a pretty decent pre-seed, seed, even Series A. If you're raising Series B, Series C, like really serious capital, you're talking to Bay Area investors. Or perhaps New York investors, but not a lot of other places. You know, maybe if you don't want to move, that's totally fine. Maybe you get on a plane once or twice a year, and you meet investors out here, and you do it that way. That's, you know, Bay Area investors are going to go far a field if they can for the right companies. But, you know, the later stage is not like the early-stage.

Pablo Strugo (00:40:55):
Perfect. So just to finish it off, maybe we just go through really quickly kind of the level setting on medians and valuations, like whether it's change or not, I'm not sure, but like median round size at pre-seed and valuations, seed, and then series A.

Peter Walker (00:41:09):
Pre-seed, medium round size. So obviously pre-seed requires a little bit of defining. For us, we count pre-seed as any round that raises between $1 and $2.5 million on a SAFE or a convertible note before any priced funding. That definition, the round sizes are, because the definition contains size in the definition, so they have to be constrained. We see companies raising about $1.3 to $1.5 million. They do so at about a $10 million post. That's on the safe. Almost always, 90% of them are on safes these days. A million bucks on a $10 million cap safe means you sold 10% of your business, between 10% and 15%, depending on how much you raise. That seems pretty reasonable. A lot of companies are then sticking around on SAFEs. And they're doing the next round. They're doing the full seed round on a SAFE. I am increasingly. I just increasingly wonder why companies are sticking around on SAFEs so long. I mean, I know it's easy. I know it's cheaper. I don't think it's better for them. I don't think it's better for the investors. I would have thought that more investors would push for priced rounds in a market that is difficult to fundraise in, but I haven't been right about that at all. The push has actually been the opposite.

Pablo Strugo (00:42:26):
I think it's good for investors. I think post-money SAFEs are amazing instruments. I, as an investor, would never tell somebody to raise a price round. It's got baked-in anti-dilution. It's got all this stuff in it.

Peter Walker (00:42:36):
You do get some benefits if you have a side letter. You're good with it. And I guess if you're not taking board seats, you don't care.

Pablo Strugo (00:42:42):
Yeah, you do a side letter for the board seats. Yeah, exactly.

Peter Walker (00:42:45):
Seed stage is getting pretty pricey. For price seed rounds on Carta, we see the median valuation of those companies is now right around $16 million pre-money. You add in three and a half or so raised, and you're talking about a $19 to $20 million post-money company at seed stage. It's pretty pricey. Volume there has gone down a bit, but that's the market. Obviously, if you're in AI, it is higher. And if you're in non-AI, it is lower. But that's the median. Series A, we're seeing the same dynamic, fewer rounds, but primary valuations are, call it $45 to $50 million.

Pablo Strugo (00:43:27):
Wow.

Peter Walker (00:43:27):
They're very high. And again, I know founders might look at that and say, Oh, high valuations. That's exciting. Yeah. They are exciting. And I wouldn't tell you to, you know, I don't think the Silicon Valley, the HBO show Silicon Valley clip where they're like, Oh my God, I could have taken a lower valuation. That is true. You can always take the lower valuation. We don't see too many people optimizing that way, but it does happen. Those high valuations, though, commit you to really serious growth rates, right? And so I think to return once more to that seed strapping thing, I think that whatever you think about seed strapping, early capital. Whatever. Once you take an A round, it's really hard to get off the VC train. You've raised $12 to $14 million at that point. Your preference stack is pretty high. You are committed to growing real fast. So if you're going to make that choice to get off the train. I think seed is basically your last exit. And then when you get to Series A, you're playing big time money at that point.

Pablo Strugo (00:44:32):
I think for sure, because just to walk through, like, how the VC would think about it, like if you're pricing something at $50 million. I guess $60 million post, back-of-the-envelope mouth at Series A, you'd say, but what do you have, like 50% dilution from A to exit? Maybe it's 40%, but it's something like that, right? And so if you want a 10x on that, you're talking, you know, like a billion-dollar outcome effectively. Like, at that point, that's what you're kind of signing up for. Anything less than that net of dilution is just not like you're not the hit that the VC wanted you to be. The other thing, though, that strikes out. I mean, I think I said this last time, but, it's still just so crazy to me is pre-seed to seed your markup. Like you're going from a 10-post to a 16-pre 60%, you know, markup. Which speaks to how much you de-risk the opportunity, how much you've grown, et cetera. From seed $20 million post to, like, $50 million pre, that's a two and a half X markup, which is massive. Like, that really. That right there speaks to how much harder it is to raise an A than a seed and why, frankly, so many just, it makes perfect sense that so many just wouldn't get there. Like, of the companies that are truly worth $20 million post, at seed or are worth $20 million posts at seed because people think there's an X percent chance of them becoming massive. How many are worth, you know, truly worth $60 million post, you know, a year and a half or two years later? I mean, not many. Most aren't.

Peter Walker (00:45:54):
Not many. I do think that it remains true that the jump from seed to A is perhaps the hardest part of venture if your goal is to make it all the way through the alphabet rounds. I think that's still true. And the A investors that we talked to are kind of sclerotic about this. There are some that are really excited about the market. There are some that are really annoyed with the way that mega-fund dynamics have distorted pricing. There are some that say we used to be a Series A fund, and now we got to go play in seed because we just. The checks don't make sense for the fund that we've raised. There's a lot of crosswinds, depending on who you talk to, amongst the investor community on what the hell is happening at Series A.

Pablo Strugo (00:46:44):
Well, it is tough. You get a company that got to $3 million ARR, let's say, and it's got a pretty solid growth rate. And now they're going to ask you from $10 to $15 million. If you got it, you ask for $20 million on 100, right? And the median is like 50, 60. And now you got to say, is this $3 million ARR company going to be a unicorn? Otherwise, I can't invest because somebody else is going to believe that they are. They'll price it as such. I'm like, maybe it's a $300 million exit, but then it's just going to be a mismatch in terms of what I want to back it at and what they're going to take.

Peter Walker (00:47:14):
Added to the anxiety of, how real is that $3 million in ARR?

Pablo Strugo (00:47:17):
Sure, yeah, right.

Peter Walker (00:47:18):
Is it really a big corporation budget? Founders listening here are probably annoyed that I'm being so generous to investors, but it's a tough time to be an investor. You're making these bets in this environment of very little concrete information a lot of the time. And it's just kind of, I think that people underestimate how much the board and startups has basically just been like tipped over by AI. People are all over the place on how they feel about it, on the defensibility of it, the reliability of the revenue, and what they consider an actual AI company versus just, like, an AI-enabled one. It is messy out there.

Pablo Strugo (00:47:58):
Perfect. Well, Peter, let's end it on that note, man. Thanks so much for jumping on the show.

Peter Walker (00:48:02):
Absolutely, Pablo. Anytime, man.

Pablo Strugo (00:48:05):
85% of people who listen to the show just started listening to it this year. You're probably one of those people. In fact, the odds are 85%. Guess what? You need to go back because there are over 100 other episodes that you need to check out that are just as good, if not better, than this one. Don't miss out.