Median Startup Valuations Are Up to 32% Higher in the Pacific and Northeast Regions

In our prior reports, we discussed why improving gender and ethnic diversity in startups (particularly in founding and executive teams) and venture capital firms (particularly around investing general partners) are important for the overall innovation ecosystem, as well as just making good business sense.We wanted to go one step further to understand the impact that geography has on a startup’s team composition and their ability to raise funding from venture capital (VC) firms. This topic has become more relevant in recent years with the “Rise of the Rest,” where high-tech hubs have sprung up across the country.We analyzed data from 90,000 venture-backed startups in the United States going back to 2000. These firms had a total of 400,000 employees, including founders, executives, employees, and members of the boards of directors.Terminology

• All-Male Founding Team: Startup founding team with only male founders
• Female Founding Team: Startup founding team with at least one female founder
• All-White Founding Team: Startup founding team with only White founders
• Ethnically Diverse Founding Team: Startup founding team with at least one non-White founder
• Non-coastal Regions: Rocky Mountains, Southwest, Southeast, Midwest

• Coastal Regions: Pacific and Northeast


Key Takeaways

• In 2018, 80% of U.S. venture capital dollars went into the Pacific and Northeast regions.
• Female Founding Teams received 12–17% of total U.S. VC funding, depending on the region. Ethnically Diverse Founding Teams received 10–27% of total VC funding.
• Valuations in regions outside of the Pacific and Northeast are 13–32% lower, meaning that VCs can invest the same dollars into startups for larger equity stakes, thus having a lower bar at exit to achieve strong realized multiples (RMs).

Figure 1. The geographic segments used in our analysis.VC Dollars Raised by Region

Figure 2. Venture Capital investment by region, 2001-2018.What does the data say?

• VC dollars are heavily concentrated in the Pacific and Northeast regions. These two regions combined have consistently attracted over two-thirds of all VC funding between 2001 and 2017.
• All other regions—Rocky Mountains, Southwest, Southeast, and Midwest—combined do not receive as much funding as the Northeast, the number two spot. We did not include Noncontiguous in this report due to low activity. 
• In the last 10 years, the Rocky Mountain region has consistently received the least funding, with a low of 2.2% of total U.S. venture funding in 2006.

Why does it matter?

• Founders in non-coastal regions may lack access to capital that they need to start and grow their businesses.
• Moreover, reports show that 21% of U.S. Gross Domestic Product (GDP) comes from venture-backed businesses. More venture investment across the country would strengthen the national economy.

How Is Team Diversity Correlated with Region?

Figure 3. Venture capital investment rounds, 2000 to 2018, segmented by ethnic and gender diversity of founding teams.What does the data say?

• Across all regions, Female Founding Teams raise less than one in five VC rounds. That said, the Northeast (18% of rounds went to Female Founding Teams) has 48% more representation of women than the Southwest or the Southeast (both at 12%).
• Ethnically Diverse Founding Teams raised less than one-third of all VC rounds. The Pacific had the best representation, with 27% of VC rounds going to Ethnically Diverse Founding Teams. The Rocky Mountains only had 10% of rounds going to Ethnically Diverse Founding Teams, a 2.7x delta.
• As shown in other reports, we see a strong concentration of funding going to All-Male Founding Teams (86% of total VC early rounds) and All-White Founding Teams (73% of total VC rounds).

Why does it matter?

• As we have previously reported, Female Founding Teams go on to hire 2.5x more women executives and employees than All-Male Founding Teams.
• In addition, we found that Ethnically Diverse Founding Teams raise more funding per round and have higher returns for their investors than All-White Founding Teams.

These findings are consistent with other sources, including a recent McKinsey report that found companies with the most gender diverse executive teams were “21% more likely to outperform on profitability and 27% more likely to have superior value creation”.The Case for Investing Outside of the CoastsPercentage Difference Dollars Raised compared to Pacific and Northeast regions combined.


Percentage Difference Equity sold compared to Pacific and Northeast regions combined.


Figure 4. Regions outside of the Pacific and Northeast have larger discounts in median VC dollars raised compared to the resulting equity ownership.
What does the data say?

• Taken together, the Pacific and Northeast regions are an investment giant. Non-coastal regions raise a small fraction of their VC funding dollars: Midwest (71.4% less), Southeast (65.7% less), Rocky Mountains (57.1% less), and Southwest (42.86% less).
• Despite raising significantly less capital, total VC equity ownership in startups was down by modest amounts: Midwest (31.8% less ownership), Southeast (15.6% less), Rocky Mountains (21.2% less), and Southwest (13.2% less).

In order to more accurately represent this difference, we simulated a $1,000,000 equity investment in each region at their median ownership. The results are shown below in Figure 5.


Figure 5. Factoring in the lower valuations, a dollar of venture capital buys 1.5–2.5x as much equity in non-coastal regions when compared to the coast.
What does the data say?

• As shown in Figure 5, venture capital investors in non-coastal regions are getting larger equity stakes for deploying the same amount of capital.
• Compared to the Pacific and Northeast, a venture dollar in the Southeast results in 2.5x more equity ownership for the venture capitalists.
• At a simulated $20,000,000 exit, the lower valuations in non-coastal regions results in millions of more dollars being returned to investors and significantly higher RMs.
• Pacific: $20,000,000 exit * 13.00% ownership = $2,600,000 returned (2.6x Gross RM)
• Southeast: $20,000,000 exit * 32.03% ownership = $6,406,000 returned (6.4x Gross RM)

Conclusion & DiscussionsIn this research report, we looked at venture capital rounds across different U.S. regions from 2001 to 2018. Our findings are consistent with other reports. For instance, Martin Prosperity Institute found that “half of all venture capital in American goes to just two places: the San Francisco Bay Area and New York” metro areas.A recent Citylab report found that four cities—San Francisco, San Jose, New York City, and Boston—accounted for 72% of all 2017 VC investments. Moreover, San Francisco, New York, and Boston were at the top of the list for the largest increase in VC funding from 2006 to 2017. What this means is that these particular regions—and specific cities in those regions—are growing their lead over the rest of the country.This imbalance impacts the entire startup ecosystem. We found that All-Male Founding Teams in the Pacific region alone closed 38,000 deals, that is twice the number closed by Female Founding Teams (19,000) in all regions combined.Similarly, All-White Founding Teams in the Pacific region alone closed 58,000 VC rounds, more than 7 times all Ethnically Diverse Founding Teams (8,000) in all regions combined.There is startup talent to be found throughout this country, but the data shows that we are not tapping into select areas as well as we could.The status quo is problematic because the data shows that venture investors are making highly correlated bets in particular regions, industries, and teams. As a result, we see innovation in one narrow part of the startup ecosystem, while other areas remain underinvested and undervalued.We also find that, all else equal, investors willing to make an investment in non-coastal regions receive larger equity ownership, thus requiring a lower bar at exit to achieve a strong realized multiple (RM).The difference between the Southeast and coasts, for the same check size, is 2.5x more equity ownership. Assuming a similar exit, this translates into millions of dollars.

Methodology

• Venture-backed rounds for private firms between 01 January 2000 to 31 December 2018 were included.
• Venture rounds excluded from our analysis including debt, lbo, exits (ipo, M&A), crowdfunding, etc.
• Venture rounds that did not contribute to dilution were resolved with previous rounds and then excluded from the firm’s round count
• Only male and female genders were included in the analysis
• Executives with ‘founder’ (case insensitive) in the titles were tagged as founders
• If the firm only had all-male founder(s), then it was marked as an All-male founded Team
• If the firm had at least one female founder, it was marked as a Female Founded Team
• All executives whose profile pictures were available on the Crunchbase dataset were analyzed using the Clarifai publicly available API. If the profile image of a person had a logo, multiple faces, or had a low-resolution image, they were skipped.
• The perceived ethnicity of an individual was determined using the flowchart described in our previous report. Classification of images was accomplished using the publicly available pre-trained demographic model on the Clarifai platform, which is also owned by Clarifai. If the person’s perceived ethnicity could not be conclusively determined using the rules defined in the flowchart, then they were marked “unknown” and not included in our analysis.
• Ethnic groups are all perceived ethnicity
• Executives with “founder” (case insensitive) in the titles were tagged as ‘Firm Founders’.
• Executives with titles including “CEO”, “CTO”, “CFO”, “CIO”, “chief”, “COO”, “CRO”, “president”, “co-owner” and “CDO” (all titles are case insensitive) were marked as ‘C-level Executives’.
• The startup industry classification was based on the segment description listed in the dataset.
• Firms with at least one founder with a perceived ethnicity other than White are referred to as Diverse Founding Teams … All other firms were marked as White Founding Teams.
• Firms with at least one C-level executive with a perceived ethnicity other than White are referred to as Diverse Executive Teams. All other firms are included as White Executive Teams.
• Non-coastal Regions: Rocky Mountains, Southwest, Southeast, Midwest

• Coastal Regions: Pacific and Northeast


Disclaimer for data: “Crunchbase’s dataset is constantly expanding, but there are gaps. A company may not have all the founders and chiefs listed on its Crunchbase profile or have the complete details regarding the executive’s education listed in detail.”