Of the many challenges historically facing start-ups, seeking investment that matched the founders’ vision was one of the hardest to overcome. But today, with tech making its way into every other industry, investors are keener than ever to fund the latest trending app or product.
This propensity for venture capitalists to pump huge amounts of investment into new business has become so popular that it now has a name: the mega-round.
The mega-round is usually defined as a cash injection of $100 million or above into a start-up business. This large-scale funding, sometimes referred to as a private IPO, has largely focused on US businesses, particularly those in Silicon Valley.
Back in 2013, mega-rounds stood at around one per week globally. Today, that number is closer to two per day. Billions of dollars in VC investment is happening on a monthly basis.
Starting the mega-round snowball
This influx of money was so sudden and so massive, that many Silicon Valley analysts and bankers warned of an investment bubble. But it has got to the point that now it seems there is no limit to the amount of cash available.
Joshua Reeves, the founder and CEO of payroll software company Gusto, raised $140 million in July. But, according to Reeves, he could have got up to five times that.
Flywire, an online payments start-up, sought $75 million for its first round of funding in April of this year. However, word got around that the business was open for investment and founder Mike Massaro found himself flooded with offers totalling $200 million.
Mountain View pizza company Zume Inc is set to receive between $500 million and $750 million in VC investment this year.
But where is the money coming from? And why are the numbers getting so large?
The deep pockets of investors
The majority of funding is coming from relatively new investors, seeking to capitalise on the infiltration of tech into every facet of our lives. Money is pouring into Silicon Valley from Chinese companies, sovereign wealth funds, and technology conglomerates.
One of the most prominent investors is the global telecoms and technology group SoftBank. Founded by Japanese billionaire Masayoshi Son, SoftBank has rapidly become the investment firm to watch. The company has pumped billions of dollars into what it believes to be the most exciting (and potentially profitable) tech start-ups.
In 2014, Son enlisted the talents of Rajeev Misra, a former Deutsche Bank debt specialist, to begin large-scale investment into the technology sector. The partnership has worked. The duo has created the SoftBank Vision Fund – and at $93 billion, it is the largest private investor fund ever created.
To illustrate just how ubiquitous the Vision Fund has become across the tech world, you only need to look at how it has flooded the transport technology sector. Alongside a $7 billion investment in Uber, the fund has put money into other ride-hailing groups such as Hang, 99 and Didi Chuxing. It has invested over $150 million into the driver safety AI company, Nauto.
SoftBank has also invested over $4 billion into controversial workplace specialists WeWork, as well as the $32 billion acquisition of chip design company ARM Holdings.
Mr Son has been quoted as saying that his aim is to “create a consortium of companies that can sustain SoftBank’s growth over 300 years”. Lofty ambitions, matched by even loftier sums of money.
Building faster to keep up
This influx of investment is changing the ways that start-ups are setting out their stall. At one time, frugality and conservative spending were encouraged during the early stages of a business’s life.
In Silicon Valley today, however, the opposite is true. Bill Gurley, a managing partner at San Francisco’s Benchmark Capital suggests that: “If your competitor is going to raise $150 million and you want to be conservative and only raise $20 million, you’re going to get run over.”
In order to survive even the first year, large amounts of investment are required just to keep up. As such, founders and CEOs are chasing funding as enthusiastically as they are chasing tech advances.
This, of course, can be a force for good. Ambitious start-ups can access more money to help make great ideas a reality faster, employing the right team, finding the right offices, and setting expansion plans in place from the outset.
The technology industry is notoriously fast-moving, with new advances become old hat very quickly. As such, a cash injection at the early stages helps to get ideas moving into reality and getting the tech to market. And being first to market is one of the most important aspects of a successful launch in Silicon Valley.
Likewise, the large investments benefit the funds too. Rather than building huge, cumbersome portfolios of small amounts, the investors can focus on big money injections into fewer firms that will yield bigger returns. In short, the investors write fewer, bigger cheques and only back the horses they think will win.
Casualties of the big spenders
So, the large investment amounts are good news for those businesses built to take advantage of it. But what about the start-ups that don’t find that initial seven-figure funding? Quite simply, they won’t last. Without the money to hire the best people, they struggle to fight through the storm of moving from idea to tangible product.
Even companies that have received large investment are not safe from its curse. Too many start-ups built on excessive funding at the early stages struggle to find a path to profit.
Equally, once the spinning-top of funding has begun, its centrifugal force is hard to stop. According to the New York Times, Convene, a WeWork competitor, was not planning to raise more capital after its first round of funding. The company’s investors had different ideas, encouraging the founders to chase more cash.
This over-capitalisation is undoubtedly dangerous. But in many cases, it works. An influx of cash into a new business allows for accelerated growth and faster decision making. As managing partner at SoftBank Investment Advisers, Jeff Housenbold said in a recent New York Times article “In today’s hyper-connected world, companies need to hire, scale and enter new markets faster than ever before or risk being surpassed by others.”
Will the spending ever end?
The turbulent financial times we’ve seen over the last few years have generally led to a more cautious attitude to investment. This is not the case with mega-rounds. While market analysts initially warned of a funding bubble in Silicon Valley, it has now become apparent that the money isn’t going to run out any time soon.
According to tech market analysis specialists CB Insights, the number of start-ups worth $1 billion or more has ballooned from 80 to 258 over the past 3 years. While this rise could set off alarm bells, it seems to be the case that even overvalued companies can still find more funding should they need it.
We are now at a point where the very definition of a mega-round could be changed from a minimum investment of $100 million to $200 million. The attitude of Mr Son and SoftBank reflect this, with talk of a ‘Vision Fund II’ reverberating around the streets of Silicon Valley.
So, where does the funding story go from here? With money pouring in and start-ups in the tech space getting bigger faster, the success stories seem to outweigh the horror stories. Uber, for example, was founded in 2009 and is today worth $72 billion. Airbnb launched in August 2008, and in just ten years the business has grown to a value of $31 billion.
As long as there are case studies of start-ups expanding from zero to tens of billions of dollars in less than a decade, we are sure to see the continuation of a flood of funding into the tech market.
Is your start-up on the journey to its first mega-round and looking for a home? Take a look at the Easy Office case studies to see how we have helped businesses on the road to success.