The importance of seed funding during economic turbulence.
GUEST COLUMN | by Jason Palmer
This is a tough year for edtech startups. Crunchbase recently reported that seed funding dropped 35 percent for startups across all sectors. According to HolonIQ, edtech investing was down even more — 50 percent in 2022. This year is proving even more difficult as interest rates continue rising and excess capital shrinks on balance sheets across the globe.
LearnPlatform, a research-based edtech organization reports that K-12 education now supports more than 11,000 edtech solutions. Even with teachers adopting new technologies faster than expected, that’s too many companies vying for limited budgets from district and school leaders, educators and the students they serve. Especially against the backdrop of banking failures and economic uncertainty. In the current environment, seed-stage startups with less than $2 million in revenue will have the greatest difficulty navigating choppy economic waters to find customers and investors in order to survive.
‘In the current environment, seed-stage startups with less than $2 million in revenue will have the greatest difficulty navigating choppy economic waters…‘
Over the past twenty years, New Markets Venture Partners, where I serve as a general partner, has invested in 35 edtech and workforce-technology companies, and I’ve personally invested in 12 more as an angel investor. Collectively, we’ve been lucky enough to see 21 of these companies survive through turbulent economic conditions and exit to buyers like Instructure, Pearson, Powerschool and Stride. Seeing so many companies navigate so many difficult situations has humbled us, and given us a world of experience.
Despite the economic conditions, I’m still extremely bullish about our market’s long-term prospects, but our industry’s success over the next few years is predicated on a strong pipeline of early-stage startups being founded, incubated, and accelerated during these turbulent times. Which explains why we’ve just raised a new $160 million fund to invest in Series A and B companies over the next few years. But we don’t invest in seed stage companies, and we want as many of you to survive as possible, so we’ve written this article to help you reach the Series A.
Adversity is the Catalyst for Progress
Every crash and economic downturn breeds a ton of innovation, creativity and grit.
In part, that’s because layoffs infuse the startup community with fresh ideas and talent. They literally birth new founders who pursue their “passion projects” while unemployed, and sometimes these projects grow into full-blown companies. Layoffs can even provide the same incentive for those not laid off, whether it’s someone facing the reality of taking on extra work from a downsized team, or those who simply don’t want to be a sitting duck for future restructurings. This phenomenon has recently been reported on with incubators like Y Combinator seeing a surge in applications.
At the same time, and counter-intuitively, seed-stage and Series A investors like ourselves tend to be more active during unstable economic conditions because we’re agile and focused on long-term systemic change. Udacity, for example, was founded in response to the 2008 recession’s impact on job opportunities as a way to provide affordable and accessible online education to anyone looking to acquire new technology skills and advance their careers. In fact, a number of today’s edtech unicorns were born during that time, including Coursera and Chegg.
Back in 2017, we wrote about the incredible burst of innovation that followed the dot-com crash, which saw the growth of Google, YouTube, LinkedIn and Facebook:
“My bet is that by 2040, our children will look back on this period between 2015 and 2030 in education technology much the same way internet historians look to the period 1995 to 2010 as the birth of the commercial web…. Edtech, I believe, is going through a similar rebuilding moment powered by three trends: widely available infrastructure, the catalytic impact of spending by both the government and philanthropy in education, and— finally —the embrace of edtech by educational institutions and educators themselves.”
So how do you flourish, as a seed stage edtech company with less than $2 million in revenue during 2023’s capital markets crunch? Here are five practical tips:
1. Prioritize sales. This may seem obvious since revenue is the lifeblood of any startup. But not everyone understands 75% of edtech sales are made between May and September each year. These five months are the best because most districts and colleges are on a budget cycle that ends in July and they need to “use it or lose it” before the end of their budget cycle; or they’ve just received a brand new boost in funds when the new budget cycle begins, giving them a narrow window to buy before the new school year starts. Extremely personalized emails, calls and zooms with potential buyers you connected with in Q1 can pay enormous dividends. So can targeted upsell pitches to extremely happy customers with the extra budget they need to use.
2. Reduce burn and aim for cash flow breakeven by the end of 2023, fourth quarter. If you have less than $2 million in revenue and 10-20 employees this may seem like an impossible recommendation, but from what we’ve seen almost every early-stage company can slim itself down to less than $1.5 million in annual expenses if absolutely necessary. If you had to run your company with a skeleton crew of 5-8 people, who would be absolutely necessary? Keep at least 2 sales and marketing people, they are needed to keep growing. Keep at least 2 product/technology people, they are needed to keep the product running and improving. But how many of your other employees could be part-time or consultants? Capital efficiency is king in this environment.
3. Develop a skeleton crew plan for investors that shows the path to profitability. Once you have a realistic plan to get to breakeven by Q4, then it’s time to approach your current investors (if you already have investors) and explore the trade-offs of slimming down to a skeleton crew with a business that grows at 25-50% per year versus a larger team that loses too much money while growing at 100%+ per year. Which do your existing investors think is the more prudent path? Listen carefully. Which plan are they more willing to write checks towards? There are trade-offs here. Take time to understand them. Get them to invest again to extend your runway.
4. VC rankings rule. Whether you already have investors or are seeking investors for the first time, you need to understand where your company ranks in the venture-backed universe. If you have evidence of efficacy, $2M-20M in revenue, and are growing by 50-200% year-over-year, with a TAM larger than $1 billion, and a clear path to $20-50M in revenue, you’re likely to be a perfect fit for New Markets or any of our peer Series A/B investors. If you have less than $2M in revenue and/or are growing at less than 50% year-over-year, be brutally honest with yourself about why it’s been difficult to win contracts. Maybe you haven’t yet found a product/market fit? Maybe your product or solution is too expensive? Maybe your solution is just a nice-to-have? Maybe it’s even simpler and your company isn’t focusing enough time or resources on sales and customers?
5. Research and get warm introductions to the right seed-stage investors. Finally, if you have at least $250K in revenue and a handful of happy customers, it’s time to approach new seed stage investors. Our best piece of advice, if you’re looking for angel or seed stage investors, is to look for wealthy individuals with a passion for your area of education, and focused seed/impact funds that are led by people who care passionately about education innovation in your specific education or workforce niche.
In edtech, seed stage investing refers to people and organizations who write $25K-$500K checks to early-stage startups with a working product and a few customers with a vision of how to become a $50-100 million revenue company by solving a really important problem in education over 5-10 years. A select few seed-stage edtech investors occasionally write $1M checks, and second-and third-time founders can sometimes raise $5-10M rounds right out of the gate, but these are the exceptions. Usually, each seed round raises between $250K-$1.5M in capital.
To help you find the right seed stage investors for your startup, New Markets has created this Authoritative List of Seed Stage Edtech Investors which is the industry’s first and only comprehensive resource of more than 700 investors who invest in seed stage edtech and workforce companies. Three hundred of these investors are “pure play” edtech or workforce investors, and 400 of these are multi-sector investors with some edtech focus. We are honored to offer this list, which we hope will help you find the best, most aligned seed-stage investor for your company.
‘…the industry’s first and only comprehensive resource of more than 700 investors who invest in seed stage edtech and workforce companies.’
Seed-stage investors can be a great help to entrepreneurs to navigate this quickly evolving landscape. Although financial return is important, it’s often not most seed-stage investors’ primary motive for investing. These impact investors want to reform the system or improve student outcomes with technology, and their capitalist mindset (or prior experience) convinces them that innovative edtech companies can both “do good” and “make money”.
When I worked at the Gates Foundation, I learned about a whole universe of PRIs (Program Related Investments) that must be invested in organizations with a charitable-mission-first intent, mostly by Foundations. PRI investments are not allowed to have financial return be their primary objective. PRIs are a type of grant-making which can be used to provide loans or equity investments in early-stage startups, and the expectation is that money will be lost most of the time. In contrast, a growing number of Foundations, Colleges and Non-Profits also make MRIs (Mission Related Investments) out of their endowment where financial return and positive social impact are equal goals. MRI investments sometimes are called “double-bottom line investments”. New Markets has multiple MRI investors in our own funds and we often co-invest with these Foundation and College partners, which helps our companies enormously because they’re great at research, intelligence and analysis.
Having this type of guidance is extremely important in edtech. Many investors have a wealth of experience and knowledge that they will share about starting and growing successful businesses. They can also provide access to networks of other entrepreneurs, investors, and industry experts. Likewise, if you can, apply for and graduate from an edtech accelerator. Some of the best in edtech are LearnLaunch and StartEd in the U.S. and Village Capital in developing countries (full disclosure: I’m board chair of Village Capital).
Remember, you can increase customer sales and get funded in the current environment. Just be prepared that it might take longer, and you’ll need to show a path to break even, mainly because there’s much more scrutiny. Investors today aren’t as sold by the smooth-talking founders of years past; they want metrics up front and are far more evidence-based. Be prepared to talk unit economics, pipeline, business fundamentals, discipline and a path to profitability.
Good luck entrepreneurs! In this new technological era, the world needs your edtech and workforce innovations more than ever!
Jason Palmer is General Partner of New Markets Venture Partners (see Crunchbase profile), one of the nation’s leading education-focused venture capital firms. Jason has previously written for TechCrunch, “Can Robots Find a Home in the Classroom“.