How 2023's IPO market affects early-stage startups

These are my observations on what the recent IPO and M&A activity tells us about startups. It tells us a lot about the upcoming quarters and years.

To preface, none of what is mentioned below is investment advice.

What Instacart’s IPO tells us about early-stage investments

Good deals at the earliest stages will still win despite multiples compression.

The internal rate of return on the IPO price for the Seed, Series A, and Series B rounds of Instacart still exceeded the S&P 500 compounded annual returns.

When startup investing goes well for a single startup at a time (which is still rare), every round of investors in theory is supposed to do well. Investors at early stages make many strategic investments that critically fit their theses, and investors at later stages typically become more picky with who they provide growth capital to — given there are greater levels of financing typically the later you go. However, with the recent startup & tech recession, it came with valuation cuts. Instacart’s later stage investors, as seen below, had negative IRRs on the valuation of the company at IPO.

How Later Stage and Early-Stage Investment Trends Impact Startups

Later stage investments are going to be increasingly harder to do.

Many growth investors, at Series C and beyond, have taken a hit in valuations for any companies that may have been considered overvalued in recent quarters.

We will continue to have IPOs and M&A that provide exit liquidity, but there will be caveats. We may not see the valuations that startups and investors are looking for upon exit near term. As many startup leaders know, this is the time to double down on what works well and continue to aim for profitability first with growth second.

Early stage investments are also going to be hard to do, but this is due to different reasons.

They are going to be hard to do because investors want to ensure that the companies are not overvalued too early. Investors want to get in at the right price. Second, if investors find a company at the right price and at a competitive valuation early, there is likely a lot of competition from other investors. Early stage venture will be more thoughtful, critical, and competitive moving forward.

IPO Activity in 2023 is down, so it will affect growth funding

Early-stage startups that are planning to eventually raise a Series C, D, E, and so on will be affected near-term by the low IPO activity in 2023.

Great startups with solid fundamentals will still get funding. The multiples may be different, but the funding is there if you have a great product, market, team, and financials.

Acquisitions are an option over IPO

According to Macrotrends, Splunk’s “annual revenue for 2022 was $2.674B, a 19.93% increase from 2021.” Splunk got acquired at around a 10x+ multiple based on 2022 revenues. If a company strategically wants an acquisition over an IPO, it’s an option. The multiples may not necessarily be different based on what we saw with Splunk, but there may be certain pros and cons for acquisitions over an IPO.

Klaviyo’s IPO is a signal that startups need to be efficient businesses near-term

Klaviyo has all of the fundamentals of a great company and startup.

• $650M+ ARR, Valuation from $8.4 to $9B, 119% NRR from SMBs, Profitable (only burning $15M to IPO), and 130k total customers.

In order to go public and do well in 2023, you need to be a great company. Startups do not need to be the next Klaviyo, but they do need to get the fundamentals financially. Of course, there are always exceptions to this when you have a strong moat when it comes to product or distribution — with clear signals for success even if it does not seem clear in the short term.

Early-stage startups need to prepare for the various scenarios:

1. The later-stage funding market picks back up: if this happens, then you need to be prepared to be a good business — in order to make the most of the funding being deployed. The better you do now, the better the valuation you can command.

2. The later-stage funding market stays slow: good businesses and teams will get funded. If you are a not a good business fundamentally, you need to focus on finding product-market fit and discipline when it comes to growth.