Lisa: Welcome to the Atlanta Startup Podcast. I’m Lisa Calhoun, General Partner at Valor Ventures and your host. Today we’re going to go into something really interesting. Every year, Valor Ventures does a seed stage research project. It’s led by our associate team and this year, they dug into startup funding trends in the Southeast. I’m really excited to welcome to the program Cariana Morales, who graduated from Georgia Tech with an industrial engineering degree, and Erik Staple, who’s finishing up his studies at Brown University in economics and mathematics. Eric and Cariana, welcome to the program.
Erik: Thank you so much. It’s great to be here.
Cariana: Thank you, Lisa. We’re excited to be here.
Lisa: Tell us all, as you were digging through the research on seed investing in the Southeast, what’s something you were really surprised by? What did you learn?
Erik: Yeah, so I can definitely talk about that. Something that provided the basis for our further research into this topic was taking a look at past financing over the past decade or so. We took a look between 2008 and 2019, and past research has shown that venture deal value has really grown quite a lot from under 50 billion to somewhere around about 150 billion now. What’s really interesting is that seed deal value has really not seen the same sort of meteoric rise that total deal value had, and so this is quite a stagnation in seed investing compared to the rest of VC. What we wanted to do was kind of see where these seed financing were really being hit the most or the hardest. We kind of came to the conclusion that the Southeast has 38% of the US population, and therefore a large number of founders, so it’s really susceptible to this lack in seed funding or this underfunding. As well, the Southeast consistently had access to less than 12% of all venture capital dollars, so that population doesn’t really correspond with the total venture activity that’s going on in the Southeast. What we realized is that first financings are not growing with the rest of venture capital, and the Southeast is also underrepresented in venture funding. We wanted to see how these two things are kind of affecting emerging founders. I’ll pass it off to Cariana as we talk more about the specific findings that we had.
Cariana: Yeah, exactly. As Erik had mentioned, we were wondering: what does this mean for emerging founders in the Southeast and their access to capital? We had a bit of a hypothesis that there was going to be a seed funding gap and quite a few startups are underfunded, but we were actually blown away by the numbers that we’re able to find. Our big finding was that the seed funding gap in the Southeast is approximately $1.8 billion per year, which is far beyond what we had originally hypothesized. We were able to find this by comparing data from Crunchbase and First Financing Factset data. The reason we chose these — Crunchbase is a database where founders can self report their startup. We felt like this was a really good approximator for the number of startups in the Southeast, as most startups who are actively looking for capital and scaling and growing are very likely to self report themselves on Crunchbase because it’s free and very easy. Taking this data and comparing it to the Factset data of the number of startups that were actually funded, we found that there is a $20 billion seed funding gap between 2008 and 2019, which is on average the $1.8 billion per year. Over that same 11 years, that equates to over 2000 startups. It’s very obvious that during this time period, as money was being allocated to the rest of the United States, the Southeast had this extreme seed funding gap where quite a few startups were underfunded. I’ll let Eric speak to a few of the other findings that we found underneath that umbrella under $1.8 billion per year.
Erik: Yeah, definitely. Another thing that we wanted to take a look at was: how this was impacting employment? What we were able to do was kind of look at, given a certain amount of seed funding, what jobs does this create in the short term? By creating that value, we could apply this to the dollar gap that we have found. We found that this gap would have initially created approximately 84,000 tech employment opportunities, or about 7,600 jobs per year in our interval of time the past 10 years, which in my opinion is quite a large gap. This is a great way to kind of see how would it impact the economy and employment as a whole in the Southeast? That’s really for two reasons, and that’s because startups really tend to be responsible for a lot of the innovation and competition in their industry.
I feel like $20 billion invested in seed stage startups would have created more substantial innovation and production, and something we found in past research is that venture backed companies have historically contributed to about 21% of GDP, but this contribution has only originally originated from 0.2% of GDP investment. As you can see, venture deal activity tends to grow quite a lot in terms of economic production. When it comes to seed financing, this is really the gateway to startup growth and production in future because providing this first financing is kind of a gateway into economic development and this GDP multiplication because if you don’t have this first financing then none of the further rounds can follow in that real growth and scaling.
Another thing is, again, the employment increase. I was able to look at what the employment increase among similar sized enterprises was in the past 10 years, and these 7,600 jobs a year would have resulted in a 20% relative increase in net employment growth per year. It’s quite a lot. Of course, this has to do with the seed funding initially, and it doesn’t really take into account any further employment that will increase in the future due to further rounds, further scaling of a lot of these companies which exist for a very long time and employ a lot of people. This seed gap could definitely have an impact that’s far greater than this number, in my opinion, which definitely demonstrates the importance of first financing checks that really stimulate these employment opportunities for the Southeast. I feel like Cariana will be able to talk a little bit more about how the Southeast and funding seed compares to the other regions.
Cariana: Yeah, exactly. We did all this research and we found that there’s a seed funding gap and that there was a loss opportunity of jobs, but our next question that we started asking ourselves was: how does this compare to the other regions? Everybody knows that California, New York, Boston, those are all very traditional venture hubs where a lot of money and resources are allocated. We were like, “Okay, well, how does the Southeast stack up to these other hubs?”
One thing we found was that since 2008, less than 30% of startups in the Southeast have successfully raised seed funding, which is incredibly low and especially when you compare that to the traditional hubs. We found that in California, the funding rate is 62%, and in New York, it’s 70%. You can see that the Southeast has less than half of the funding rate of the traditional locations.
We also found this a bit surprising, considering that we know that there’s a bit of research — quite a bit of research — that shows that your money actually goes further in the Southeast, which is attractive to investors. There’s two parts to that. The first part is a Kauffman Fellows study that shows that the Southeast actually has the highest equity ownership. Investors can receive 2.5 times more equity for the same $1 million investment in the Southeast as they would in the Pacific and the Northeast. The second part of it is the average round size in the Southeast — seed round size. The seed round size in the Southeast is $2.2 million, but that’s compared to a $2.9 million in New York and then a staggering $7.1 million in the Bay Area.
You can see that we have a very low funding rate, but investors’ money can go quite a bit further. In my opinion, that shows an extremely attractive opportunity for investment in the Southeast — there’s less competition, from a funding standpoint, and then you get more bang for your buck.
We found the funding rate to be very low, and then we were wondering: what is the actual distribution of startups? I’ll let Erik touch on the findings that we found there.
Erik: Right, so as listeners, you might be wondering: so we have this gap in seed funding, but are there less startups looking for seed funding and that might not be the cause for this? But the reality is that the Southeast is actually home to 25% more startups than California and 75% more startups than New York. It’s not really due to a lack of startups or founders in our region.
Lisa: Hang on, Erik. That’s really impressive. I almost want to ask you to slow down. The Southeast is actually — you said 75% more startups? Run those numbers by us again.
Erik: Yeah, absolutely. Another way of looking at it is that the Southeast is home to more startups than California and New York combined, which is quite an impressive number. Once again, 75% more startups than New York, 25% more than California, which is really interesting. A lot of people think of these startup hubs — traditional startup hubs — in California and New York and similar regions, but really there’s founders and startups. There’s plenty of them here in the Southeast as well.
Lisa: Interesting. Is that driven mostly by population? What’s the comparative population look like?
Erik: Right. In the Southeast, there’s 38% of the US population, so somewhere around 125 million residents. Founders and startups tend to accumulate in cities and metropolitan areas, which there’s plenty of in the Southeast. In my opinion, I feel like that’s definitely a reason for this. There’s just more people here in general. Even though you have these startup hubs in California in New York regions, there’s definitely the same types of people ready to found companies and do these sorts of things and make startups here in the Southeast as well.
Lisa: Well, in the Southeast is certainly growing. Looking at some of the census data that I’ve been exposed to recently, the Southeast is the only US region that’s really growing double digits for a variety of reasons: cost of living, warm climate, and things like that. That’s interesting. That’s really in alignment with that, but I think it’s a really surprising, fascinating finding from this research that there are actually more startups native to the Southeast. The Southeast is actually the country’s largest regional producer of startups, and people don’t talk about that enough. Congratulations to you and Cariana for bringing that out. Tell us more.
Erik: Yeah, absolutely. I think something that builds off of that, as well, is that there’s really still no shortage of resources for founders in the Southeast, in my opinion, because there’s still plenty of accelerators, technology incubators. They all exist. There’s lots of large research institutions and universities here that are really promoting entrepreneurship in the region. Another interesting finding that we had is that the Southeast is home to 28% of Fortune 500 companies compared to 22% for California. The way I can look at that is that when you’re in closer proximity to a lot of these large companies, something like an exit might be easier in this region. That’s not the direct findings from the research, but that’s something that I feel like could definitely be a result of being close to these fortune 500 companies and more of them as well.
Lisa: The density of the four 500 headquarters in the Southeast relative to startup hubs in the northeast or the west coast. What does that look like in the numbers?
Erik: Yeah, so once again, there’s 20% here in the Southeast, as compared to 22% in California in New York combined.
Lisa: Wow. Okay, well, that is definitely a clear advantage when your exit potential is most likely an acquisition as indeed that that is the case for most startups. The IPO market has recovered a little bit, but I think as most of the listeners know, IPO is a sort of a rare way for a startup to recoup its investment and return capital to investors, whereas most investors make their money through key acquisition. Did you find anything else in this research on seed stage in the Southeast?
Cariana: I was going to say that was the bulk of the hard facts. I wanted to add on one thing about the fortune 500 is, as Erik mentioned, that creates a lot of opportunities for exit. There’s also the fact that it creates a lot of opportunities for customers for different startups serving enterprise, whether it’s through SaaS or different industries as well. Through the growth stage before the exit, that also is a very advantageous fact to have a great network of those big enterprises in the region.
Lisa: Fascinating. If you’re a founder in the Southeast, and a lot of our listeners are. We interestingly have two demographics. Looking at sort of our stats from SoundCloud, we’re listened to in Menlo Park, San Jose, San Francisco — that’s about a quarter of the listenership — and then the rest of them are really in the metro Atlanta area and I like to think most of our founders as well as some of the innovators. Speaking to that audience of founders, what would you suggest they do with this research? What are some of the takeaways for them?
Cariana: for me, I think one of the big takeaways is don’t be pulled to those traditional hubs. Through Valor, I’ve talked to many founders that are like, “Yeah, we started thinking about moving to California and New York, moving headquarters there. We’ve traveled there weekly to try and raise money.” A lot of people are very immediately drawn to try and geographically move to those locations, and I think that this research is a really great validation that the Southeast has good resources and it’s growing and it’s becoming a big entrepreneurial hub. I think it’s a great idea if you have founded a startup in the Southeast to keep your roots here.
Lisa: Fascinating. Erik, what struck you? If you were advising a founder, just personal opinion, like what would you actually say? I know you ran through the numbers and the math, but what’s your personal opinion about what this should mean for founders in this region?
Erik: I would say sort of the same thing that Cariana said. I like to personally kind of look at this as an opportunity because you have a lot of founders with the same mentality that they need to move their startup out to a place where there’s this explosion of venture capital, deal funding, but maybe not the same sort of focused investing that you might potentially see here in the Southeast. Then you really have a way to sort of take advantage of the opportunities that are here and really not get drowned out by all of the other activity that’s going on. I definitely personally think that the Southeast is a great place to really stay as a founder and grow your business, especially as you said, it’s definitely gonna be something that can be growing in the future as it has been.
Lisa: Awesome. Then I’m going to ask you to continue to project more of your personal takeaways into these numbers. It is a great rundown of the numbers, but what about for investors? I know that you’re both Associates with Valor. I enjoy working with you every day. What have you felt comes out of this research for other investors that are looking to that technology company?
Cariana: Yeah, definitely. When we were doing the research, I was blown away when I was putting myself in investors’ shoes looking at the things that we found. I think the most striking takeaway for investors is just the number of startups that actually exist that are overlooked. So as you said, there’s 25% more than California and 75% more than New York, so as an investor, I’m like “Wow, I need to get down there immediately and meet as many of them as possible and see the potential of all of them.” When you couple that with the fact that there’s not a lot of competition because this isn’t one of those traditional innovation hubs and it isn’t oversaturated on the investor side quite yet — maybe one day. Then the third part of that is the fact that your money goes a bit farther. I see this really triple threat to investing in the Southeast that if I were an investor, and as an investor through Valor, makes me so incredibly excited and very motivated to take a hard look into this region.
Lisa: Awesome. Listen, you guys have done a great job of posting a lot of this on Valor’s blog. How can people get a copy of the research or dig in deeper if they want to take a look for themselves?
Cariana: It is posted on our blog. We have snippets of thoughts about a lot of the research and then within those blog posts at the very bottom you can actually access the white paper to go ahead and look at the research itself.
Lisa: Terrific. Well, thank you so much for sharing this with us on the Atlanta Startup Podcast. Are there any new pieces of research coming down the pipeline or how can people stay in touch with your work?
Erik: Yeah, I can talk about that. This was one in a series of research that Associates do here at Valor. There will definitely be future research projects on various topics in the future from Valor, so I definitely encourage you to stay posted as a listener, really look at our blogs, and look out for those types of things.
Lisa: Awesome, appreciate your time today and looking forward to catching up soon.
Cariana: Thank you, Lisa.
Erik: Thank you so much, Lisa.
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