Mo Money, Mo Problems Part 2

So in my last entry I promised to get you some data that either validated my the hypothesis i put forth in the last post or not. My hypothesis was basically this: most companies are either going to be successful or not within the first few rounds of funding. Most companies will be on their way to success by the time they raise a Series C (and many by the time they raise an A or B). Companies that are still raising money after Series C (and some after a Series B) to fund losses could actually be increasing their chances of failure. I guess the most radical way to phrase it could be "Don't raise a Series C unless you are profitable (or close to it) and you are raising the money to fund growth."

I think that I have got the data and I think it shows that I was sort of right but not nearly to the extent that I believed. Below is a chart, I apologize in advance that it is so small. I can't seem to figure out how to make it the right size.

In any case, the chart shows all companies that have received a series A and then shows how many of them go on to receive subsequent rounds of financing. I manipulated this data from a few different sources. There are two metrics I looked at 1) "total" percent which is number of companies receiving that series of funding (e.g., series D) divided by the total number of companies that received Series A funding and 2) "consecutive" percent which is defined as number of companies receiving that series of funding (e.g., Series D) divided by the total number of companies receiving the immediately prior series of funding (e.g., Series C). The "total" percent gives you a sense of the percent of companies overall that make it that far in financing rounds. The "consecutive" percent gives you a sense of how many companies move on to the next level of financing from the previous level. In other words, assuming that I am already a Series C financed company, how likely is it that I will become a Series D financed company.

I have also divided the data into different sets: "All Companies," "IPO Companies," "Failed Companies," and "All (Excluding Clear Successes)". Let me explain:

• All Companies includes every company in my data set.
• IPO Companies includes only companies that eventually IPOed.
• Failed Companies includes only companies that eventually went bankrupt or were shutdown.
• All Excluding Clear Successes includes All Companies less IPO Companies. This set is designed to create a benchmark of "normal" companies. IPO companies are considered abnormal because they are the creme de la creme and are often profitable and executing on a great business model from the get go. "Normal" companies have a chance of succeeding and a chance of failing. They typically raise money because they have to whereas clearly by the later Series, IPO companies are raising money only to fuel growth not to fund losses.

So why is this important? I have highlighted in different colors above some important points:

1. Let's start with the yellow highlighted areas. These areas show that companies that will fail are actually more likely than their "normal" (look at the "All (Excluding Clear Success)" category) peers to raise Series B, C, and D rounds. The margin is quite slim and I am not sure if it is statistically significant but it looks like at least some confirmation of the "Mo Money, Mo Problems" hypothesis. This phenomenon is true from both a "consecutive" point of view and a "total" point of view. In other words, Series B companies destined to fail are more likely to raise a Series C than are "normal" Series B companies. It is not surprising that IPO companies are more likely than any other category to raise Series B, C, and D rounds because, as our hypothesis would predict, these are the companies that are generally seeking growth capital to fuel an already successful business model.
2. The "Series D" effect for IPO companies (look at the green higlighting). 100% of IPO companies go from Series A to Series B (the real figure is actually 99.9%). 95% go from Series B to Series C. However, after that there is a significant drop. Only 69% of Series C go to Series D and by the time you get to Series E, only a minority of companies will go on to IPO. Put a different way, many companies that will ultimately IPO will never have to go beyond a Series C and most will never go beyond a Series F. If you are investing in a Series F company that hasn't found a successful business model you should keep this in mind.
3. The "Series F+" effect (look at the red highlighting). This simply shows that whereas a minority of companies destined to IPO and "normal" companies go from a Series E to a Series F, the majority of companies destined to fail do. Again, this is another moment of truth to consider before investing in the F-round of a company.