Thu. Jan 20th, 2022

Even for outsiders, the inner workings of startup accelerators have become known: pumped up with camaraderie and energy drinks, scrappy founders stage product demos in front of a room full of bubbly journalists and investors.

Fast-forward two years into a pandemic and, even a period with the return of hackers’ homes, much has changed in the way startup launchpads look, feel and show value today. Early investors are rethinking the risk exposure, dilution and, most surprisingly, the value of a traditional demo day.

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Let’s start with a juicy topic: pro rata.

Signal risk occurs when a VC chooses not to make pro rata or follow-up investments in an existing portfolio company. The idea is that investors who know you best – those who bet on you more than others – choose not to invest in you in your next growth phase, which should mean the deal isn’t that great. Negative perception can trickle down to other investors who, despite what their Twitter bios will tell you, are quite risk averse people.

Accelerators have an interesting role to play here. If an accelerator like Y Combinator can ever host 1,000 startups per batch, an automatic pro-rata investment in each startup would be both capital-intensive and perhaps inadvertently attenuate its own signal. The accelerator quickly changed its policy on automatic pro-rata investments in 2020 and chose to invest on a case-by-case basis, just like 500 Startups.

“We have significantly exceeded the funds we have raised for pro rata, and the investors backing YC don’t have the appetite to fund the prorated program on the same scale,” the accelerator wrote in a post at the time. “In addition, processing hundreds of follow-up rounds per year has created significant operational complexities for YC that we did not expect.

“Simply put, investing in each round for any YC business requires more capital than we are willing to raise and manage. We always tell startups to stay small and manage their budget carefully. In this case, we did not follow our own advice.”

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