October 30, 2017
Alex Wilhelm is the Editor in Chief of Crunchbase News, covering the intersection of startups and money.

Two trends are combining to create an interesting market moment: As seed-stage capital in the United States slips, ICOs are forging ahead. The dynamic is notable as it shows that as some investors are pulling back from super early-stage investments, amateur investors are piling into new funding mechanisms for nascent projects.

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This could indicate that venture capitalists are de-risking their activities by curtailing investments into seed-stage companies, the riskiest of startup wagers, while confidence in the crypto markets is moving in the opposite direction, allowing incredibly speculative ICOs to thrive.

The trends divergence is notable, but not as clear as we might have hoped. That the ICO market may replace some early-stage venture activity is directly hinted at by the purported VC panic over the coin offering boom. But the decline in seed-stage capital funding isn’t a new trend, at least in terms of round count. And the ICO trend doesn’t only fund concerns that would have sought traditional seed capital.

But we have a grip of data and a bright sunny San Francisco day, so let’s dig in to see what the contra trends of rising ICO revenues and falling seed rounds in the United States can tell us.

Seed Stage Slips

Crunchbase News’ Joanna Glasner wrote an excellent piece last week entitled “Seed-Stage Activity Fumbles Amidst Increases In Late-Stage Dealmaking” which explained that growth in the domestic venture market is not uniform:

The total number of investment rounds for U.S. seed-stage startups hit the smallest projected quarterly total in five calendar years in Q3 2017, according to Crunchbase data. Investors have also put fewer dollars into seed deals this year compared to the prior two. And all of this is happening at a time when late-stage dealmaking, and the vaunted unicorn space, is still heating up.

The Q3 2017 number is notable as a non-aberration. If the quarter fell to a record-low outside of a trend, we might be tempted to discount it as a fluke. However, the quarter fits into the historical results that we have observed on a time-series basis.

To that point, the following chart shows the trendline over the past half-decade or so for quarterly US seed round counts. Note that as the Q3 2017 number is the low-point for this timeframe, it is lower than the to date, projected average score for the year:

(More charts here, if you are into that sort of things)

So we have reached a new low in seed rounds for the current cycle, or at least the current cycle in recent memory.

Returning to our earlier point that the trends we are aligning — namely, falling seed rounds and rising ICO dollar volume — are fuzzier than we might have hoped, from the above chart we can quickly see how silly it would be to say that ICOs are rising only due to seed round declines.

But what is probably fair is that the continued numeric decline in domestic seed rounds helped spur some ICO activity.

When one puddle dries up, you look for the next pool of liquid capital.

ICOs Fail To Die

The initial 2017 ICO boom exploded this summer, shooting dollars raised by the fundraising mechanism from a faint dusting in the first quarter of the year to hundreds of millions each month by May. June and July each saw over $500 million in ICO activity.

But August brought a slowdown. These pages asked at the end of that month if “the ICO craze may be slowing,” noting that the known ICO funding tallies were in steep decline. August was a down month.

Then ICOs came back with a vengeance, setting a new funding record in September with over $800 million in recorded fundraising. October is looking light, but akin to venture capital, there is some lag at play; July looked a bit worse than it was in August until all the points were finally tallied.

For reference, here’s the CoinSchedule chart tracking the ICO volume this year:

Regardless of where October ultimately lands in terms of dollars raised through token sales, Q3 beat Q2, which beat Q1, which beat what came before. Therefore, our seed round’s weakest quarter hit that mark when the ICO market hit its all-time high.

Before, we cautioned that our trends were fuzzy but seemingly moving in contrasting directions. Here, comparing the quarterly results, we can more clearly see the discrepant movements.

And while it’s dangerous to be overly confident from at least partially-opaque data, it seems reasonable to presume that some seed-stage activity has changed in its pitching strategy and gone the way of the ICO. Notably, those funding events might not look like seed, or even pre-seed, when they occur. Given the ability of ICOs to attract huge sums with little more than a white paper, some projects that might have raised a million or two from normal investors might have raised a multiple of that from their ICO.

Once more unto the murk.

Risk And Venture

Up top, we asked if we are seeing changing risk tolerances between the venture class who are pulling back from seed rounds, and the crypto markets which taking on increasing amounts of risk. (The latter is certainly true; the rising value of cryptos coupled to the rising value of cryptos, endless bitcoin forks, and dramatic ICO volume are the opposite of shy moves.)

Perhaps the best way to weigh the question is to hybridize our two categories — venture and ICOs — and look at venture investment into crypto companies.

Again, we are looking around corners as best we can. The ICO market is not directly comparable to venture investment into blockchain startups, and we know that some VCs have participated in ICO activity in recent months, perhaps reducing venture appetite for certain crypto-focused companies. So if we see falling dollar and round counts from venture kids into crypto upstarts that is likely directionally telling, but we should bear in mind that we are stretching comfortably to understand the market.

To wit, our own Jason Rowley put together a look at venture rounds into various crypto companies, as tracked by Crunchbase, showing a dramatic boom in round activity during that period’s bitcoin-ascendent moment. From there, dollars volume fell as rounds slowly trickled lower, implying that per-round dollars were in decline. (That can be caused by a mix-shift to more seed and fewer late-stage deals in a specific quarter’s round totals.)

Here’s the chart, with the blue tracking round volume and the darker bars showing dollars disbursed:

As more than half the rounds shown above are seed-stage, we can loosely see that the declines in deal volume in recent quarters were oddly met with rising sums of capital invested. The implication isn’t too hard to suss out: late-stage is doing better than early in the world of crypto-startup venture deals.

This mirrors our introductory remarks, in which we quoted Glasner as saying that seed rounds were down as late-stage deals were “still heating up.”

Thus, even crypto-focused venture activity is following the broader venture market when it comes to seed- and later-stage deals. This underscores our risk hypothesis.

If venture players weren’t de-risking in the crypto-space, we might see flat or up seed-stage activity in the niche. From that, we would be able to infer that VCs were de-risking outside of crypto, but not inside of the market space. But that is not the case. We are seeing VCs lower their risk profile inside of crypto by lowering their seed-round volume.

Therefore, we can infer that the ICO market is moving both contra to the broader early-stage VC market and the early-stage market for venture activity into crypto-companies.

Now What?

Even as smart money screams slow down from the sidelines, the ICO boom rolls along with rising levels of fraud to follow it. Any search for ICO fraud yields some terrifying results, but even worse might be the fact that honest ICOs are often mere mirrored smoke.

Bloomberg has the paragraph:

Of the 226 ICOs analyzed, only 20 — such as Storj, Augur and TenX — are used in the running of their networks, according to Token Report, which keeps a database of token sales information. The rest can only be traded, and are purely speculative instruments, Galen Moore, chief executive officer of Token Report, said in an interview.

Sounds legit.

Whatever signal the venture market is trying to send regarding the seed-stage market is lost on the ICO trend, and they probably both can’t be right at the same time.

iStockPhoto / blackred