To back the best Y Combinator graduates, VCs must act quickly

Hundreds gathered this week in San Francisco’s Pier 48 to see the more than 200 companies in Y Combinator’s winter 2019 cohort present their 2-minute pitches. The audience of investors, who collectively manage hundreds of billions of dollars, noted their favorites. The very best, however, had already had their pick of the litter.

What many don’t realize about the Demo Day tradition is that pitching isn’t a requirement and some YC graduates skip out on their stage opportunity altogether. Why? Because they’ve already raised capital or are in the final stages of closing a deal. Perhaps their investors have encouraged them to remain stealthy so no one steals their idea or they just don’t want to bother pitching if they don’t have to.

ZeroDown, Overview.AI and Catch, a trio of startups in YC’s W19 batch, forwent Demo Day this week, having already pocketed venture capital. ZeroDown, a financing solution for real estate purchases in the Bay Area, raised a seed round upwards of $10 million at a $75 million valuation, sources tell TechCrunch. ZeroDown hasn’t responded to requests for comment, nor has its rumored lead investor: Goodwater Capital.

Without requiring a down payment, ZeroDown purchases homes outright for customers and helps them work toward ownership with monthly payments determined by their income. The business was founded by Zenefits co-founder and former chief technology officer Laks Srini, former Zenefits chief operating officer Abhijeet Dwivedi and Hari Viswanathan, a former Zenefits staff engineer.

The founders’ experience building businesses, despite Zenefits shortcomings, allowed ZeroDown to be crowned the buzziest YC graduate of W19. Sources tell TechCrunch ZeroDown had actually raised a small round ahead of YC from former YC president Sam Altman, who recently stepped down from the role to focus on OpenAI, an AI research organization. Altman is said to have encouraged ZeroDown to complete the respected Silicon Valley accelerator program, which, if nothing else, grants its companies a priceless network no other incubator or accelerator can compete with.

Overview’s founders’ resumes are impressive, too. Russell Nibbelink and Christopher Van Dyke were formerly Salesforce and Tesla engineers, respectively. An industrial automation startup, Overview is developing a smart camera capable of learning a machine’s routine to detect deviations, crashes or anomalies. TechCrunch hasn’t been able to get in touch with Overview’s team or pinpoint the size of its seed round, though sources confirm it forwent Demo Day because of a deal.

Catch, for its part, closed a seed round led by Khosla Ventures prior to Demo Day. Instead of pitching their health insurance platform at the big event, Catch published a blog post announcing their first feature, The Catch Health Explorer.

“This is only the first glimpse of what we’re building this year,” Catch wrote in the blog post. “In a few months, we’ll be bringing end-to-end health insurance enrollment for individual plans into Catch to provide the best health insurance enrollment experience in the country.”

TechCrunch’s Josh Constine has more details on the health tech startup’s funding round here.

Another pair of startups, Truora and Middesk, had deals in the final stages when they walked on the Demo Day stage, deciding to make their pitch rather than skipping the big finale. Sources tell TechCrunch renowned venture capital firm Accel invested in both of these companies, among other YC W19 graduates. Truora offers fast, reliable and affordable background checks for the Latin America market, while Middesk does due diligence for businesses to help them conduct risk and compliance assessments on customers.

Raising ahead of Demo Day isn’t a new phenomenon. Companies, thanks to the invaluable YC network, improve their chances at raising, as well as increase their valuation the moment they enroll in the accelerator and can begin chatting with VCs when they sit fit. Startups are encouraged to mingle with YC alumni, too, a process that can result in an early acquisition.

This year, Elph, a blockchain infrastructure startup, was bought by Brex, a buzzworthy fintech unicorn that itself only graduated from YC two years ago. The deal closed just one week before Demo Day. Brex’s head of engineering Cosmin Nicolaescu tells TechCrunch the Elph five-person team — including co-founders Ritik Malhotra and Tanooj Luthra, who previously founded the Box-acquired startup Steem — were being eyed by several larger companies as Brex negotiated the deal.

“For me, it was important to get them before batch day because that opens the floodgates,” Nicolaescu told TechCrunch. “The reason why I really liked them is they are very entrepreneurial, which aligns with what we want to do. Each of our products is really like its own business.”

Of course, Brex offers a credit card for startups and has no plans to dabble with blockchain or cryptocurrency. The Elph team, rather, will bring their infrastructure security know-how to Brex, helping the $1.1 billion company build its next product, a credit card for large enterprises. Brex declined to disclose the terms of its acquisition.

Hunting for the best deals

Y Combinator Partners Michael Seibel and Dalton Caldwell, and moderator Josh Constine speak onstage during TechCrunch Disrupt SF 2018. (Photo by Kimberly White/Getty Images)

Ultimately, it’s up to startups to determine the cost at which they sell equity notes to investors. Called caps, YC companies fundraise under the SAFE model, or a simple agreement for future agreement, a form of fundraising invented by YC. Basically, an investor makes a cash investment in a YC startup, then receives company stock at a later date, typically at the Series A or a post-seed round. YC made the switch from investing in startups on a pre-money safe basis to a post-money safe in 2018 to make cap table math easier for founders.

Michael Seibel, the chief executive officer of YC, says the accelerator works with each startup to develop a personalized fundraising plan and that startups that raise at valuations north of $10 million do so because of high demand.

“Each company decides on the amount of money they want to raise, the valuation they want to raise at, and when they want to start fundraising,” Seibel told TechCrunch via email. “YC is only an advisor and does not dictate how our companies operate. The vast majority of companies complete fundraising in the 1to 2 months after demo day. According to our data, there is little correlation between the companies who are most in demand on Demo Day and ones who go on to become extremely successful. Our advice to founders is not to over optimize the fundraising process.”

Though Seibel says the majority raise in the months following Demo Day, it seems the very best investors know to be proactive about reviewing and investing in the batch. On Twitter, New York Times reporter Erin Griffith joked that VCs, in order to beat out competitors for the best deals, hunt LinkedIn for profiles that say “YC W19.”

Khosla Ventures, like other top VC firms, meets with YC companies as early as possible, partner Kristina Simmons tells TechCrunch, even scheduling interviews with companies in the period between when a startup is accepted to YC to before they actually begin the program.

This year, given the number of recent changes at YC, namely the increased size of its batch, added pressure on the accelerator to showcase its best group yet. And while some did tell TechCrunch they were especially impressed with the lineup, others expressed frustration with valuations.

Many YC startups are fundraising at a valuation at or higher than $10 million; for context, that’s actually perfectly in line with the median seed-stage valuation in 2018. According to PitchBook, U.S. startups raised seed rounds at a median post-valuation of $10 million in 2018; so far this year, companies are raising seed rounds at a slightly higher post-valuation of $11 million. With that said, many of the startups in YC’s cohorts are not as far along as the average seed-stage company, which according to PitchBook, can be several years of age.

Nonetheless, pricey deals can come as a disappointment to the flock of seed investors that find themselves at YC every year but because their reputations aren’t as lofty as say, Accel, aren’t able to book pre Demo Day meetings with YC’s top of class.

The question is who is Y Combinator serving? And the answer is founders, not investors. YC is under no obligation to serve up deals of a certain valuation nor is it responsible for which investors gain access to its best companies. After all, startups are raking in larger and larger rounds, earlier in their lifespans, shouldn’t YC, a microcosm for the Silicon Valley startup ecosystem, advise their startups to charge the going rate to the best investors?